Tax Executives Institute November 2006 High Technology Lester D. Ezrati Senior Vice President, Tax Hewlett-Packard Janet S. Wong Tax Partner KPMG LLP Mike Reichert Office Managing Tax Partner Global Managing Tax Partner-Technology Deloitte Tax LLP November 6, 2006

2 Leveraged Financing USP Facts USP directly owns Finco, a Country A finance company and controlled foreign corporation (“CFC”) USP also directly owns CFC1 (Country B), CFC2 (Country C), and CFC3 (Country D), all CFCs and operating companies in their respective countries Finco is not subject to local country tax CFC1 and CFC3 are subject to local country tax rates of 20%, while CFC2 is taxed at the rate of 40% in Country C CFC1, CFC2 and CFC3 require cash to fund operating activities Considerations Local country withholding taxes on interest payments made to Finco Thin-cap restrictions prevent additional leveraged financing at the Opco level Prior to recent Subpart F modifications under §954(c)(6), interest paid by CFC1, CFC2, and CFC3 to Finco resulted in Subpart F income. CFC2 (Opco) CFC3 (Opco) Finco CFC1 (Opco) (C) (B)(D) (A) 20% 40% 0% Loan

3 Leveraged Financing – Cont’d USP Restructuring Step 1: USP forms CFC Holdco, a Country X CFC Step 2: USP contributes Finco, CFC1, CFC2, and CFC3 to CFC Holdco. Subsequently, Finco, CFC1, CFC2, and CFC3 make check-the-box (“CTB”) elections to be disregarded resulting in D reorganizations Step 3: CFC2 purchases the shares of CFC1 and CFC3 from CFC Holdco in exchange for a note Result Additional leverage at CFC2 in connection with purchase of CFC1 and CFC3 reduces CFC2’s taxable income Interest paid by CFC2 to CFC Holdco is disregarded and therefore, is not Subpart F income Interest paid by CFC1 and CFC3 to Finco is also disregarded and is not Subpart F income CFC Holdco CFC2 (Opco) CFC3 (Opco) Finco CFC1 (Opco) (C) (B) (D) (X) (A) 20% 40% 0% Loan Note Loan Shares of CFC1 and CFC3

4 Leveraged Financing – Cont’d Benefits: –Global cash management –Working capital enhancements –Effective tax rate enhancement on non-U.S. earnings Consider optimizing interest rates by country/region

5 CFC Look-Through Rule : Section 954(c)(6) Purpose: Allow U.S. companies to redeploy active foreign earnings without an additional tax burden Related party dividends, interest, rents and royalties Received or accrued from a CFC and the payor is a related person as to the recipient CFC. But only to the extent amounts are attributable or properly allocated to income of the payor CFC that is not Sub F income “Dividends” should include Section 302/304 dividends, less certainty regarding 964 (e) dividends “Interest” should include factoring income

6 CFC Look-Through Rule- Cont’d Partnership payments – likely apply requirements at CFC partner level Gains attributable to the sale of assets that generate look-through payments are not excepted from Sub F under section 954 (c)(6). 3 year provision; possible extension; possible CFC fiscal year change to gain one more year Opportunities to increase effective tax rates for 902 or Sub F high tax exception purposes Opportunities to uncover basis

7 Merger & Acquisitions Transaction Costs Due Diligence “Non-inherently Facilitative” Amounts Incurred Prior to “Bright-Line” Date “Success based fees” related to activities not facilitating the transaction “Check-the-Box” Elections

8 Advance Payments USP Facts CFC Manufacturer licenses technical know- how from USP and makes royalty payments to USP CFC Holdco has a cost- sharing arrangement with USP for the development of intangible property and makes cost-sharing payments to USP CFC1, CFC2, and CFC3 are operating companies in their respective countries CFC Holdco (IP) CFC2 (Opco) CFC3 (Opco) CFC1 (Opco) (C) (B) (D) (X) CFC Manufacturer (Licensee) Royalty Payments Cost-Sharing Payments 30%

9 Advance Payments – Cont’d Advance Payments CFC Manufacturer makes advance royalty payment to USP resulting in additional royalty expense CFC Holdco makes advance cost-sharing payments to USP resulting in additional cost-sharing expense Considerations Advance payments must be at an arms length standard and term Advance Royalty Payment Advance Cost- Sharing Payment USP CFC Holdco (IP) CFC2 (Opco) CFC3 (Opco) CFC1 (Opco) (C) (B) (D) (X) CFC Manufacturer (Licensee) 30%

10 Advance Payments – Cont’d Benefits –Global cash management –Effective tax rate enhancement through FTC utilization –Enhanced section 199 or ETI savings –FAS 123R APIC pool enhancement opportunity

11 Foreign Subsidies, Credits and Incentives Spain: R&D credits for R&D conducted in Spain billed to U.S. France: R&D credits for R&D conducted within the EU and billed into France Brazil: Exemption for non-recoverable state transaction tax on service parts Mexico: R&D tax credits Singapore: a. 5% tax rate for intercompany royalty income b. 10% tax rate for international headquarters applies fro distribution an procurement functions. Possibly lower rates. Malaysia: Pioneer incentives with minimal investment

12 Research and Development Tax Credit California – Computation & California sales Federal – Affiliated gross receipts - CCA (May 1, 2002) - CCA 2006 (February 14, 2006) Federal – Extension update

13 Section 59(e) Planning Annual election to capitalize and amortize section 174 expenditures over 10 years –Effective Tax Rate enhancement under: section 199, ETI, FTC utilization, state apportionment planning or FAS 109 attribute optimization –CFC E&P planning opportunities –Section 382 mitigation –FAS 123R APIC pool enhancement Amended tax return opportunities still exist Separate California elections allowed

14 Federal Telecom Excise: Notice Tax no longer applies to time-only long distance service Refund / Credit available –Must follow notice –Services billed before 3/1/03 - Regular refund methods. Statute must be open –Services billed after 2/28/03 and before 8/1/06 – claim on 2006 return –Services billed after 7/31/06 – refunds directly from carriers For corporations telecom bills will have to be examined. HP examined every invoice quarterly to support its litigation. State and city taxes

15 Compensation Section 162(m) –Consider conversion of restricted stock arrangements to performance-based compensation –$1 million cap does not apply [per IRC 162 (m)(4)(C)] –Excessive compensation does not apply to US subsidiaries of publicly-held foreign corporations [PLR ] IRC 409A –Penalty Calculation –Notice

16 Affirmative Tax Planning Opportunities If you are looking for some “last minute” tax return deductions, consider: –Lien date method for real property taxes –Section 263(a) “pre-paid expenditures” –Revenue recognition- Rev. Proc –Depreciable life classifications –Payroll tax on bonus accruals –State income tax accrual methodology

17 Questions The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation.