United Parcel Service, Inc. Annual report pursuant to Section 13 and 15(d)

Annual report pursuant to Section 13 and 15(d)

INCOME TAXES

INCOME TAXES

12 Months Ended

Dec. 31, 2015

The income tax expense (benefit) for the years ended December 31 consists of the following (in millions):



	2015		2014			2013
Current:
U.S. Federal	$	1,634	$	932		$	2,181
U.S. State and Local	88		103			205
Non-U.S.	236		185			162
Total Current	1,958		1,220			2,548
Deferred:
U.S. Federal	469		427			(242		)
U.S. State and Local	65		(11		)	(22		)
Non-U.S.	6		(31		)	18
Total Deferred	540		385			(246		)
Total Income Tax Expense	$	2,498	$	1,605		$	2,302

Income before income taxes includes the following components (in millions):



	2015		2014		2013
United States	$	6,348	$	3,819	$	6,040
Non-U.S.	994		818		634
Total Income Before Income Taxes:	$	7,342	$	4,637	$	6,674

A reconciliation of the statutory federal income tax rate to the effective income tax rate for the years ended December 31 consists of the following:



	2015		2014		2013
Statutory U.S. federal income tax rate	35.0	%	35.0	%	35.0	%
U.S. state and local income taxes (net of federal benefit)	1.7		1.2		2.1
Non-U.S. tax rate differential	(1.2	)	(2.4	)	(1.3	)
Nondeductible/nontaxable items	0.2		1.3		(0.2	)
U.S. federal tax credits	(1.3	)	(1.5	)	(1.2	)
Other	(0.4	)	1.0		0.1
Effective income tax rate	34.0	%	34.6	%	34.5	%

Our effective tax rate is affected by recurring factors, such as statutory tax rates in the jurisdictions we operate in and the relative amounts of taxable income we earn in those jurisdictions. It is also affected by discrete items that may occur in any given year, but are not consistent from year to year.

Our effective tax rate decreased to 34.0% in 2015, compared with 34.6% in 2014, primarily due to the effects of the following discrete tax items and recurring factors:

2015 Discrete Items

During the third quarter of 2015 and after the filing of our annual federal tax returns, we reconciled our deferred tax balances and identified adjustments to be made with respect to prior years’ deferred tax balances. The adjustments resulted in a reduction of income tax expense of $66 million.

In connection with our acquisition of Coyote Logistics (see note 7), we distributed $500 million of cash held by a Canadian subsidiary to its U.S. parent during the fourth quarter of 2015. As a result of the distribution, we recorded additional net income tax expense of $28 million.

In the fourth quarter of 2015, we recognized an income tax benefit of $39 million related to pre-tax mark-to-market losses of $118 million on our pension and postretirement defined benefit plans. This income tax benefit was generated at a lower average statutory tax rate than our U.S. federal statutory tax rate because it was due, in part, to non-U.S. benefit plans.

Other favorable rate impacting items in 2015 include: resolution of several U.S. state and local tax matters; the extension of favorable U.S. federal tax provisions associated with the Protecting Americans from Tax Hikes Act of 2015 related to research and development tax credits and work opportunity tax credits; and the execution of two bilateral advance pricing agreements. These agreements established intercompany transfer pricing arrangements between the U.S. and certain non-U.S. jurisdictions related to our small package operations for tax years 2010 through 2019.

2014 Discrete Items

In 2014, we recorded a $415 million tax benefit related to a pre-tax charge of $1.102 billion for certain health and welfare plan changes (see note 5). This income tax benefit was generated at a higher average statutory tax rate than our U.S. federal statutory tax rate because it included the effect of U.S. state and local taxes.

In the fourth quarter of 2014, we recognized an income tax benefit of $392 million related to pre-tax mark-to-market losses of $1.062 billion on our pension and postretirement defined benefit plans. This income tax benefit was generated at a higher average statutory tax rate than the U.S. federal statutory tax rate because it included the effect of U.S. state and local taxes.

Other Items

Beginning in 2012, we were granted a tax incentive for certain of our non-U.S. operations, which is effective through December 31, 2017 and may be extended through December 31, 2022 if additional requirements are satisfied. The tax incentive is conditional upon our meeting specific employment and investment thresholds. The impact of this tax incentive decreased non-U.S. tax expense by $25, $21 and $20 million for 2015, 2014, and 2013, respectively.

Deferred tax liabilities and assets are comprised of the following at December 31 (in millions):



	2015			2014
Fixed assets and capitalized software	$	(4,776	)	$	(4,816	)
Other	(699		)	(424		)
Deferred tax liabilities	(5,475		)	(5,240		)

Pension and postretirement benefits	3,915			4,722
Loss and credit carryforwards	261			250
Insurance reserves	730			745
Stock compensation	256			242
Other	650			630
Deferred tax assets	5,812			6,589
Deferred tax assets valuation allowance	(197		)	(208		)
Deferred tax asset (net of valuation allowance)	5,615			6,381

Net deferred tax asset	$	140		$	1,141

Amounts recognized in the consolidated balance sheets:
Non-current deferred tax assets	$	255		$	1,219
Non-current deferred tax liabilities	(115		)	(78		)
Net deferred tax asset	$	140		$	1,141

The valuation allowance changed by $(11), $(43) and $31 million during the years ended December 31, 2015, 2014 and 2013, respectively.

We have U.S. state and local operating loss and credit carryforwards as follows (in millions):



	2015		2014
U.S. state and local operating loss carryforwards	$	894	$	815
U.S. state and local credit carryforwards	$	53	$	52

The U.S. state and local operating loss carryforwards expire at varying dates through 2035. The U.S. state and local credits can be carried forward for periods ranging from three years to indefinitely. We also have non-U.S. loss carryforwards of approximately $583 million as of December 31, 2015, the majority of which may be carried forward indefinitely. As indicated in the table above, we have established a valuation allowance for certain non-U.S. and state carryforwards, due to the uncertainty resulting from a lack of previous taxable income within the applicable tax jurisdictions.

Undistributed earnings of foreign subsidiaries amounted to approximately $4.954 billion at December 31, 2015. Those earnings are considered to be indefinitely reinvested and, accordingly, no deferred income taxes have been provided thereon. Upon distribution of those earnings in the form of dividends or otherwise, we would be subject to income taxes and withholding taxes payable in various jurisdictions, which could potentially be offset by foreign tax credits. Determination of the amount of unrecognized deferred income tax liability is not practicable because of the complexities associated with its hypothetical calculation.

The following table summarizes the activity related to our unrecognized tax benefits (in millions):



	Tax			Interest			Penalties
Balance at January 1, 2013	$	232		$	53		$	4
Additions for tax positions of the current year	15			—			—
Additions for tax positions of prior years	20			9			2
Reductions for tax positions of prior years for:
Changes based on facts and circumstances	(67		)	(23		)	(1		)
Settlements during the period	(8		)	1			—
Lapses of applicable statute of limitations	(1		)	—			(1		)
Balance at December 31, 2013	191			40			4
Additions for tax positions of the current year	15			—			—
Additions for tax positions of prior years	51			13			—
Reductions for tax positions of prior years for:
Changes based on facts and circumstances	(74		)	(8		)	—
Settlements during the period	(10		)	(2		)	—
Lapses of applicable statute of limitations	(1		)	(1		)	(1		)
Balance at December 31, 2014	172			42			3
Additions for tax positions of the current year	24			—			—
Additions for tax positions of prior years	45			21			3
Reductions for tax positions of prior years for:
Changes based on facts and circumstances	(85		)	(8		)	—
Settlements during the period	(6		)	(2		)	—
Lapses of applicable statute of limitations	(2		)	—			—
Balance at December 31, 2015	$	148		$	53		$	6

The total amount of gross unrecognized tax benefits as of December 31, 2015, 2014 and 2013 that, if recognized, would affect the effective tax rate was $147, $166 and $185 million, respectively. We also had gross recognized tax benefits of $73, $54 and $281 million recorded as of December 31, 2015, 2014 and 2013, respectively, associated with outstanding refund claims for prior tax years. We had a net payable recorded with respect to prior years’ income tax matters in the accompanying consolidated balance sheets as of December 31, 2015 and 2014, and a net receivable recorded with respect to prior years’ income tax matters as of December 31, 2013. We have also recognized a receivable for interest of $3, $4 and $25 million for the recognized tax benefits associated with outstanding refund claims as of December 31, 2015, 2014 and 2013, respectively. Our continuing policy is to recognize interest and penalties associated with income tax matters as a component of income tax expense.

We file income tax returns in the U.S. federal jurisdiction, most U.S. state and local jurisdictions, and many non-U.S. jurisdictions. We have substantially resolved all U.S. federal income tax matters for tax years prior to 2010.

A number of years may elapse before an uncertain tax position is audited and ultimately settled. It is difficult to predict the ultimate outcome or the timing of resolution for uncertain tax positions. It is reasonably possible that the amount of unrecognized tax benefits could significantly increase or decrease within the next twelve months. Items that may cause changes to unrecognized tax benefits include the timing of interest deductions and the allocation of income and expense between tax jurisdictions. These changes could result from the settlement of ongoing litigation, the completion of ongoing examinations, the expiration of the statute of limitations or other unforeseen circumstances. At this time, an estimate of the range of the reasonably possible change cannot be made.