ADT 2005 Annual Report Download - page 120

Income Taxes
Our effective income tax rate was 23.5%, 27.5% and 45.2% for 2005, 2004 and 2003, respectively.
The decrease in the effective tax rate from 2004 to 2005 is primarily the result of the release of
valuation allowances, benefits realized related to the TGN divestiture, as well as the court-ordered
restitution award related to certain former executives for which there is no tax obligation and, to a
lesser extent, increased profitability in operations in jurisdictions with lower tax rates. This decrease is
partially offset by an increase in charges for which no tax benefit is available such as the loss on
retirement of debt, asset impairments and the estimated settlement of the SEC enforcement action.
The change in the effective tax rate from 2003 to 2004 was primarily the result of increased profitability
in operations primarily in jurisdictions with lower tax rates and a decrease in nondeductible charges.
The valuation allowance for deferred tax assets of $1,867 million and $1,967 million at
September 30, 2005 and 2004, respectively, relates principally to the uncertainty of the utilization of
certain deferred tax assets, primarily tax loss and credit carryforwards in various jurisdictions. We
believe that we will generate sufficient future taxable income to realize the tax benefits related to the
remaining net deferred tax assets on our Consolidated Balance Sheets. The valuation allowance was
calculated in accordance with the provisions of SFAS No. 109 which requires a valuation allowance be
established or maintained when it is ‘‘more likely than not’’ that all or a portion of deferred tax assets
will not be realized.
The calculation of our tax liabilities involves dealing with uncertainties in the application of
complex tax regulations in a multitude of jurisdictions across our global operations. We recognize
potential liabilities and record tax liabilities for anticipated tax audit issues in the U.S. and other tax
jurisdictions based on our estimate of whether, and the extent to which, additional taxes will be due.
These tax liabilities are reflected net of related tax loss carryforwards. We adjust these liabilities in light
of changing facts and circumstances; however, due to the complexity of some of these uncertainties, the
ultimate resolution may result in a payment that is materially different from our current estimate of the
tax liabilities. Further, management has reviewed with tax counsel the issues raised by these taxing
authorities and the adequacy of these recorded amounts. Substantially all of these potential tax
liabilities are recorded in other liabilities on the Consolidated Balance Sheets as payment is not
expected within one year.
The Company and its subsidiaries’ income tax returns are periodically examined by various tax
authorities. The Company is currently under audit by the IRS for the years 1997 to 2000. In connection
with such examinations, certain tax authorities, including the IRS, have raised issues and proposed tax
deficiencies. The Company is reviewing the issues raised by the tax authorities and is contesting certain
proposed tax deficiencies. Amounts related to these tax deficiencies and other tax contingencies that
management has assessed as probable and estimable have been recorded through the income tax
provision.
In connection with the IRS audits for the years 1997 to 2000, the Company prepared proposed
amendments to these prior period U.S. federal income tax returns resulting in a reduction in the
taxable income previously reported. The IRS is currently reviewing the proposed amendments. The
Company has not recorded the impact of the proposed amendments, pending the completion of the
IRS review. The proposed amendments, if accepted, will result in receipt of refunds or credits and a
corresponding reduction to the deferred tax assets and liabilities. The Company may prepare proposed
amendments to prior period U.S. federal income tax returns for additional periods. The proposed
amendments are not expected to have a material adverse impact on our financial condition, results of
operations or cash flows.
44 2005 Financials