eTrade 2010 Annual Report Download - page 79

Judgments
Management must make significant judgments to determine our provision for income tax expense (benefit),
our deferred tax assets and liabilities and any valuation allowance to be recorded against our net deferred tax
assets. Changes in our estimate of these taxes occur periodically due to changes in the tax rates, changes in our
business operations, implementation of tax planning strategies, the expiration of relevant statutes of limitations,
resolution with taxing authorities of uncertain tax positions and newly enacted statutory, judicial and regulatory
guidance. These changes in judgment as well as differences between our estimates and actual amount of taxes
ultimately due, when they occur, affect accrued taxes and can be material to our operating results for any
particular reporting period.
The most significant tax related judgment made by management was the determination of whether to
provide for a valuation allowance against our net deferred tax assets. During the year ended December 31, 2010
we did not provide for a valuation allowance against our federal deferred tax assets. We are required to establish
a valuation allowance for deferred tax assets and record a charge to income if we determine, based on available
evidence at the time the determination is made, that it is more likely than not that some portion or all of the
deferred tax assets will not be realized.
We did not establish a valuation allowance against our federal deferred tax assets as of December 31, 2010
as we believe that it is more likely than not that all of these assets will be realized. Our evaluation focused on
identifying significant, objective evidence that we will be able to realize our deferred tax assets in the future. We
reviewed the estimated future taxable income for our trading and investing and balance sheet management
segments separately and determined that our net operating losses since 2007 are due solely to the credit losses in
our balance sheet management segment. We believe these losses were caused by the crisis in the residential real
estate and credit markets which significantly impacted our asset-backed securities and our home equity loan
portfolios in 2007 and continued to generate credit losses in 2008, 2009 and 2010. We estimate that these credit
losses will continue in future periods; however, we ceased purchasing asset-backed securities and home equity
loans which we believe are the root cause of the majority of these losses. Therefore, while we do expect credit
losses to continue in future periods, we do expect these amounts to decline when compared to our credit losses in
the three-year period ending in 2010. Our trading and investing segment generated substantial taxable income for
each of the last seven years and we estimate that it will continue to generate taxable income in future periods at a
level sufficient enough to generate taxable income for the Company as a whole. We consider this to be
significant, objective evidence that we will be able to realize our deferred tax assets in the future.
A key component of our evaluation of the need for a valuation allowance was our level of corporate interest
expense, which represents our most significant non-operating related expense. Our estimates of future taxable
income included this expense, which reduces the amount of segment income available to utilize our federal
deferred tax assets. Therefore, a decrease in this expense in future periods would increase the level of estimated
taxable income available to utilize our federal deferred tax assets. As a result of the Debt Exchange in 2009, we
reduced our annual cash interest payments by approximately $200 million. We believe this decline in cash
interest payments significantly improves our ability to utilize our federal deferred tax assets in future periods
when compared to evaluations in prior periods which did not include this decline in corporate interest payments.
Our analysis of the need for a valuation allowance recognizes that we are in a cumulative book taxable loss
position as of the three-year period ended December 31, 2010, which is considered significant, objective
evidence that we may not be able to realize some portion of our deferred tax assets in the future. However, in
2010, we generated taxable income consistent with our forecast that resulted in the utilization of significant net
operating loss carryforwards. Accordingly, we believe we are able to continue relying on our forecasts of future
taxable income and overcome the uncertainty created by the cumulative loss position.
Effects if Actual Results Differ
Changes in our tax expense (benefit) due to the actual effective tax rates differing from our estimates, when
they occur, affect accrued taxes and can be material to our operating results for any particular reporting period.
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