Tuesday, May 10, 2022

The next insight into Apple’s use of capital allowances

Apple revised its international structure in 2015.  Since then we have been tracking the impact of this via the annual publication of the consolidated accounts for the group of subsidiaries headed by Apple’s central international subsidiary, Apple Operations International (AOI).

There are details in the earlier posts that are not repeated here.  We will start with the consolidated income statement for the group.

AOI Income Statement 2017-2021

AOI is at the head of an international group that comprises 80 other subsidiaries.  In total, the group an average number of employees of 52,563 in 2021 based in countries all around the world.  In essence, the above shows the performance of Apple outside the US, though we know Ireland is central to the financial outcomes generated.

In its annual report Apple Inc. sets out the split of its profit due to domestic (i.e. U.S.) operates and due to operations outside the U.S.  In its latest 10K filing with the SEC, the company said:

The foreign provision for income taxes is based on foreign pretax earnings of $68.7 billion, $38.1 billion and $44.3 billion in 2021, 2020 and 2019, respectively.

It can readily be seen that these amounts are close to the figures for “Income before provision for taxes” in the AOI group income statements in the table.  In line with the overall performance of Apple the outcomes for the AOI group improved in 2021.  Apple’s overall pre-tax income rose from $67 billion in 2020 to $109 billion in 2021.  As can be seen the pre-tax profit of the AOI group went from $34 billion to $68 billion over the same period.

The income statements also show a large “Provision for income taxes”.  This had been around $6 billion up to 2020 but jumped to $11 billion in 2021.  As discussed in the earlier posts, a company making a provision for income taxes is not the same as a company paying income taxes.  And again it is worth looking at the balance sheet to highlight this.

AOI Balance Sheet 2016-2021

The line item of interest is that for “Deferred tax assets”.  These were $25.7 billion at the end of 2016 and had reduced to $7.8 billion at the end of 2021.  This indicates that a good share of the provision for income taxes on the income statement is not reducing cash on the balance sheet (via payments) but is depleting the deferred tax asset.  We will return to this but can make a quick stop with the cash-flow statement to confirm the point.

AOI Cash Flow Statement 2017-2021

The supplemental item at the bottom confirms that the actual cash payments for income taxes have been significantly lower than the provision for income taxes.  For 2021, the provision for income taxes was $11.6 billion but actual payments made during the year were $4.4 billion.

Some of this could be due to timing differences if the actual payments are made after the year end but our interest is in the link between the provision for income taxes and deferred tax assets.  Some of the earlier posts go through the process that led to the generation of these deferred tax assets; here we will just focus on their evolution.

AOI Deferred Tax Assets 2017-2021

The above table corresponds to the deferred tax assets shown on the balance sheet.  And again, go from $25.7 billion at the end of 2016 to $7.8 billion at the end of 2021.  We are particularly interested in those that arise from intra-group transactions.

We know that a now Irish-resident entity in the AOI group purchased the license to exploit Apple’s IP in international markets and the upfront expense it incurred in acquiring this is eligible as a deduction, via capital allowances, until fully exhausted.

The accounting treatment means that the tax benefit of this deduction is put as a deferred tax asset on the balance sheet and is depleted year-by-year as it is used.  In recent years this reduction has been around $3.3 billion so is likely linked to annual profit of around $26 billion.

As can be seen the value of these deferred tax assets from intra-group transactions had fallen to $4.1 billion at the end of the 2021 financial year.  The limit on how much can be claimed in any single year means we are likely to see a further reduction of around $3.3 billion in 2022 and that the capital allowances will be fully exhausted in 2023.  It will be interesting to see what will happen then.

Irish Corporation Tax Payments

A related question is how much Irish Corporation Tax is paid.  However, this cannot be determined from the information presented in the consolidated accounts of the AOI group.  There will certainly have been some Irish tax in the $4.4 billion of cash tax payments made during the 2021 financial year but there is no way of knowing how much. 

The tax reconciliation in the accounts also points to the need to be cautious in drawing conclusions from the consolidated accounts.  This reconciles the provision for taxes with the tax charge that would apply is all pre-tax income was wholly and solely taxed at the 12.5 per cent.

AOI Tax Reconcilliation 2017-2021

The item worth looking at is the “Difference in effective tax rates on overseas earnings”.  Up to recently this had been a relatively small amount (at least in the context of the massive numbers in the accounts) but it jumped to $725 million in 2020 and then even more so to $2.3 billion in 2021.

As this table is taken from the consolidated accounts of a group of companies that operates in countries right around the world it is not clear what “overseas” means.  The 12.5 per cent rate is chosen presumably because the largest share of the profit of the group is subject to tax in Ireland (albeit offset by capital allowances).  So perhaps “overseas” means outside Ireland.  The accounts don’t indicate where AOI itself is resident but there were suggestions a number of years ago that it was resident in Jersey.

It is only a guess but if we take “overseas” to mean outside Ireland then it would indicate that a large share of the provision for income taxes, and also possibly the cash tax payments, are for non-Irish taxes.  We don’t know the amount of profit involved but if, say, the “effective tax rate on overseas earnings” shown in the above table for 2021 was 25 per cent then the amount of profit would be something approaching $20 billion.

Now, that 25 per cent is just an indicative number but illustrative of the rates and amount of profit needed to get the figure shown in the table.  In such a scenario $5 billion of the provision for income taxes would be due to the tax on overseas earnings.

So while the bottom line of the above table is a provision for income taxes of $11.6 billion for 2021, we know that around $3.3 billion was charged against a deferred tax asset on the balance sheet and some unknown amount, but likely running to several billion, was due to non-Irish taxes.

The likelihood is that there is a lot of Irish Corporation Tax being paid but we need more than what is shown in these accounts to be able to know how much that is.

From Apple’s 10K SEC filings we can see how much of its overall tax provision is due to non-US taxes.

Apple 10K Provision for Income Tax 2021

A quick check of the total for foreign taxes in this table shows that it is close to the provision for income taxes of the AOI group.  The table from the 10K filing shows a big jump in current foreign taxes in 2021: from $3.1 billion to $9.4 billion.  The big jump in the AOI group accounts for “Difference in effective tax rates on overseas earnings” suggests that these non-US taxes were also non-Irish taxes (assuming “overseas” means outside Ireland). 

What we can say definitively is that the deferred tax assets of the AOI group arising from intra-group transactions are being depleted and at current usage are set to be exhausted during the 2023 financial year.  What happens then will be followed with interest and we may even get a post under the heading “The final insight into Apple’s use of capital allowances”!

1 comment:

  1. Thanks for all your posts on this, I suppose the key question is around "the capital allowances will be fully exhausted in 2023. It will be interesting to see what will happen then." I have a couple of tax questions around Apple: Per recently filed Apple Operations International Ltd 2021 accounts, page 39, "As of 25 September 2021, the Group has $2.6 billion in unused tax credits, which can be carried forward indefinitely, of which no deferred tax asset is recognised in the Consolidated Balance Sheet". Per Apple Inc's 10-K 2021 annual return, p 42, "As of September 25, 2021, the Company had $2.6 billion in foreign tax credit carryforwards in Ireland and $1.6 billion in California research and development credit carryforwards, both of which can be carried forward indefinitely. A valuation allowance has been recorded for the tax credit carryforwards and a portion of other temporary differences" Seems odd that they recognise the tax asset in Apple Inc while not recognising it in the Irish AOI group, do you have any insights into the tax asset and its different treatments? Secondly AOI's uncertain tax position (included in non current liabilities) has nearly doubled to $8.1 billion which is interesting, any insights/thoughts?