Pepsi 2006 Annual Report Download - page 41

Our annual tax rate is based on our
income, statutory tax rates and tax
planning opportunities available to us
in the various jurisdictions in which we
operate. Significant judgment is
required in determining our annual tax
rate and in evaluating our tax positions.
We establish reserves when, despite our
belief that our tax return positions are
fully supportable, we believe that cer-
tain positions are subject to challenge
and that we may not succeed. We
adjust these reserves, as well as the
related interest, in light of changing
facts and circumstances, such as the
progress of a tax audit. See Note 5 for
additional information regarding our
tax reserves.
An estimated effective tax rate for a
year is applied to our quarterly operat-
ing results. In the event there is a
significant or unusual item recognized
in our quarterly operating results, the
tax attributable to that item is
separately calculated and recorded at
the same time as that item. We consider
the tax benefits from the resolution of
prior year tax matters to be such items.
In 2006, we recognized non-cash tax
benefits of $602 million (the “2006 Tax
Adjustments”), substantially all of
which related to the Internal Revenue
Service’s (IRS) examination of our con-
solidated income tax returns for the
years 1998 through 2002. The IRS issued
a Revenue Agent’s Report (RAR), and
we are in agreement with their conclu-
sion, except for one matter which we
continue to dispute. The agreed adjust-
ments relate to transfer pricing and
various other transactions, including
certain acquisitions, the public offering
of PBG, as well as the restructuring of
our international snack foods
operations during that audit period.
Tax law requires items to be included
in our tax returns at different times than
the items are reflected in our financial
statements. As a result, our annual tax
rate reflected in our financial state-
ments is different than that reported in
our tax returns (our cash tax rate). Some
of these differences are permanent,
such as expenses that are not deductible
in our tax return, and some differences
reverse over time, such as depreciation
expense. These temporary differences
create deferred tax assets and liabilities.
Deferred tax assets generally represent
items that can be used as a tax deduc-
tion or credit in our tax returns in future
years for which we have already
recorded the tax benefit in our income
statement. We establish valuation
allowances for our deferred tax assets
when we believe expected future tax-
able income is not likely to support the
use of a deduction or credit in that tax
jurisdiction. Deferred tax liabilities gen-
erally represent tax expense recognized
in our financial statements for which
payment has been deferred, or expense
for which we have already taken a
deduction in our tax return but have not
yet recognized as expense in our finan-
cial statements.
The American Jobs Creation Act of
2004 (AJCA) created a one-time incen-
tive for U.S. corporations to repatriate
undistributed international earnings by
providing an 85% dividends received
deduction. In 2005, we repatriated
approximately $7.5 billion in earnings
previously considered indefinitely rein-
vested outside the U.S. and recorded
income tax expense of $460 million
related to this repatriation. Other than
the earnings repatriated, we intend to
continue to reinvest earnings outside
the U.S. for the foreseeable future and,
therefore, have not recognized any U.S.
tax expense on these earnings. At
December 30, 2006, we had approxi-
mately $10.8 billion of undistributed
international earnings.
In 2006, our annual tax rate was
19.3% compared to 36.1% in 2005 as
discussed in “Other Consolidated
Results.” The tax rate in 2006 decreased
16.8 percentage points primarily reflect-
ing the 2006 Tax Adjustments, the
absence of the 2005 AJCA tax charge
and the resolution of certain state
income tax audits in the current year. In
2007, our annual tax rate is expected to
be 27.7%, primarily reflecting the
absence of the 2006 Tax Adjustments.
Income Tax Expense and Accruals
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