ADT 2010 Annual Report Download - page 194

TYCO INTERNATIONAL LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
6. Income Taxes (Continued)
adjustments with the IRS, a few significant items are expected to remain open with respect the audit of
the 1997 through 2004 years. As of the date hereof, it is unlikely that the Company will be able to
resolve these open items, which primarily involve the treatment of certain intercompany transactions
during the period, through the IRS appeals process. As a result, the Company may be required to
litigate these matters. The Company has assessed its obligations under the Tax Sharing Agreement,
including with respect to the proposed civil fraud penalties discussed below, to determine that its
recorded liability of $554 million is sufficient to cover the indemnifications made by the Company
under such agreement. See Note 12. However, the ultimate resolution of these matters is uncertain and
could result in a material adverse impact to the Company’s financial position, results of operations,
cash flows or the effective tax rate in future reporting periods.
In connection with the aforementioned audits, the IRS proposed civil fraud penalties against a
prior subsidiary that was distributed to Tyco Electronics in connection with the Separation. The
penalties allegedly arise from actions of former executives taken in connection with intercompany
transfers of stock of Simplex Technologies in 1998 and 1999. Based on statutory guidelines, the
Company estimates the proposed penalties could range between $30 million and $50 million. This is a
pre-Separation tax liability that is covered by the provisions of the Tax Sharing Agreement. Also in
connection with the IRS audits described above, during the fourth quarter of 2009, the Company, as
Audit Management Party under the Tax Sharing Agreement, reached a settlement agreement with the
IRS on certain deductions taken by Tyco, Covidien and Tyco Electronics on pre-separation tax returns
filed for the periods 2001 to 2004. The settlement did not have a material effect to the Company’s
results of operations, financial position or cash flows. Notwithstanding this settlement, as mentioned
above, certain significant items related to the audits of the periods from 1997 to 2004 remain open.
The Company considered the potential impact of the settlement as part of its quarterly assessment of
the guarantee liability and concluded that no adjustment to the liability was needed.
In addition to dealing with pre-Separation tax liabilities of each of the three entities party thereto,
the Tax Sharing Agreement contains sharing provisions to address the contingency that the Separation
itself, or internal transactions related to the Separation, may be deemed taxable by U.S. or non U.S.
taxing authorities. In the event the Separation is determined to be taxable and such determination was
the result of actions taken after the Separation by Tyco, Covidien or Tyco Electronics, the party
responsible for such failure would be responsible for all taxes imposed on each company as a result
thereof. If such determination is not the result of actions taken by any of the three companies after the
Separation, then Tyco, Covidien and Tyco Electronics would be responsible for 27%, 42% and 31%,
respectively, of any taxes imposed on any of the companies as a result of such determination. Such tax
amounts could be significant. The Company is responsible for all of its own taxes that are not shared
pursuant to the Tax Sharing Agreement’s sharing formula. In addition, Covidien and Tyco Electronics
are responsible for their tax liabilities that are not subject to the Tax Sharing Agreement’s sharing
formula.
If any party to the Tax Sharing Agreement were to default on its obligation to another party to pay
its share of the distribution taxes that arise as a result of no party’s fault, each non-defaulting party
would be required to pay, equally with any other non-defaulting party, the amounts in default. In
addition, if another party to the Tax Sharing Agreement that is responsible for all or a portion of an
income tax liability were to default on its payment of such liability to a taxing authority, the Company
could be liable under applicable tax law for such liabilities and required to make additional tax
payments. Accordingly, under certain circumstances, the Company may be obligated to pay amounts in
106 2010 Financials