Quest Diagnostics 2010 Annual Report Download - page 84

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The contingent liabilities for tax positions primarily relate to uncertainties associated with the realization of
tax benefits derived from certain state net operating loss carryforwards, the allocation of income and expense
among state jurisdictions, the characterization and timing of certain tax deductions associated with business
combinations and employee compensation, income and expenses associated with certain intercompany licensing
arrangements, and the deductibility of certain settlement payments.
The total amount of unrecognized tax benefits as of December 31, 2010, that, if recognized, would affect the
effective income tax rate from continuing operations is $64 million. Based upon the expiration of statutes of
limitations, settlements and/or the conclusion of tax examinations, the Company believes it is reasonably possible
that the total amount of unrecognized tax benefits may decrease by up to $14 million within the next twelve
months.
Accruals for interest expense on contingent tax liabilities are classified in income tax expense in the
consolidated statements of operations. Accruals for penalties have historically been immaterial. Interest expense
included in income tax expense in 2010 and 2009 was approximately $2 million in each year. As a result of
changes in judgment and favorable resolutions of uncertain tax positions, $5 million of net interest was credited
to income tax expense in 2008. As of December 31, 2010 and 2009, the Company has approximately $9 million
and $7 million, respectively, accrued, net of the benefit of a federal and state deduction, for the payment of
interest on uncertain tax positions.
The recognition and measurement of certain tax benefits includes estimates and judgment by management
and inherently involves subjectivity. Changes in estimates may create volatility in the Company’s effective tax
rate in future periods and may be due to settlements with various tax authorities (either favorable or unfavorable),
the expiration of the statute of limitations on some tax positions and obtaining new information about particular
tax positions that may cause management to change its estimates.
In the regular course of business, various federal, state and local and foreign tax authorities conduct
examinations of the Company’s income tax filings and the Company generally remains subject to examination
until the statute of limitations expires for the respective jurisdiction. The Internal Revenue Service (“IRS”) has
completed its examinations of the Company’s consolidated federal income tax returns up through and including
the 2005 tax year. In addition, the IRS has substantially completed its audit of the Company’s federal income tax
returns for its 2006 and 2007 tax years, and has issued their related revenue agent report. In addition, certain
state tax authorities are conducting audits for various years between 2000 and 2009. In December 2008, the
Company reached a settlement agreement to pay a state tax authority approximately $44 million in taxes,
penalties and interest ($26 million, net of federal and state benefits) for certain tax positions associated with
intercompany licensing arrangements. This settlement was paid in 2009. At this time, the Company does not
believe that there will be any material additional payments beyond its recorded contingent liability reserves that
may be required as a result of these tax audits. As of December 31, 2010, a summary of the tax years that
remain subject to examination for the Company’s major jurisdictions are:
United States – federal ............................................ 2006–2010
United States – various states ..................................... 2005–2010
In conjunction with its acquisition of SmithKline Beecham Clinical Laboratories, Inc. (“SBCL”), which
operated the clinical testing business of SmithKline Beecham plc (“SmithKline Beecham”), the Company entered
into a tax indemnification arrangement with SmithKline Beecham that provides the parties with certain rights of
indemnification against each other. During 2009, the Company paid SmithKline Beecham approximately $10
million related to the realization of certain pre-acquisition net loss carryforwards that were payable to SmithKline
Beecham pursuant to the tax indemnification arrangement.
F-18
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(dollars in thousands unless otherwise indicated)