Income taxes

The tax expense on income before tax amounted to EUR 286 million (2007: EUR 619 million, 2006: EUR 166 million).

The components of income before taxes and income tax expense are as follows:

Philips’ operations are subject to income taxes in various foreign jurisdictions. The statutory income tax rates vary from 10.0% to 40.7%, which causes a difference between the weighted average statutory income tax rate and the Netherlands’ statutory income tax rate of 25.5% (2007: 25.5%; 2006: 29.6%).

A reconciliation of the weighted average statutory income tax rate to the effective income tax rate is as follows:

The weighted average statutory income tax rate decreased in 2008 compared to 2007 due to a significant change in the country mix of income tax rates, due to losses in countries with higher income tax rates and profits in countries with relatively lower income tax rates, combined with a lower income before tax.

The effective income tax rate is higher than the weighted average statutory income tax rate in 2008, mainly due to new losses carried forward not expected to be realized, non-tax deductible impairment charges, and income tax expenses due to tax provisions for uncertain tax positions, which were partly offset by non-taxable gains on the sale of securities and other non-taxable income.

Deferred tax assets and liabilities

Deferred tax assets and liabilities relate to the following balance sheet captions:

Other provisions include provisions for restructuring and a EUR 251 million deferred tax asset position of legal claims for asbestos.

In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income and tax planning strategies in making this assessment. In order to fully realize the deferred tax assets arising from net operating losses, the Company will need to generate future taxable income in the countries where the net operating losses were incurred. Based upon the level of historical taxable income and projections for future taxable income over the periods in which the deferred tax assets are deductible, management believes, as at December 31, 2008, it is more likely than not that the Company will realize the benefits of these deductible differences, net of the existing valuation allowance.

The valuation allowance for deferred tax assets was EUR 568 million and EUR 494 million as of December 31, 2008 and 2007, respectively. The net changes in the total valuation allowance, due to re-assessment by management, were an increase of EUR 74 million, a decrease of EUR 227 million and a decrease of EUR 214 million for the years ended December 31, 2008, 2007 and 2006, respectively.

At December 31, 2008, operating loss carryforwards expire as follows:

The Company also has tax credit carryforwards of EUR 107 million, which are available to offset future tax, if any, and which expire as follows:

Classification of the deferred tax assets and liabilities is as follows:

Classification of the income tax payable and receivable is as follows:

Uncertain tax positions

The Company adopted the provisions of FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes, on January 1, 2007. A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows:

The amount presented as 'provisional payment' represents a reduction of the balance of unrecognized tax benefits due to a provisional tax payment, subject to the resolution of a disputed matter.

The estimated timing of cash payments associated with unrecognized tax positions amounting to EUR 559 million (2007: EUR 627 million) cannot be reliably estimated.

The total amount of unrecognized tax benefits that, if recognized, would affect the effective tax rate is EUR 509 million (2007: EUR 577 million).

Unrecognized tax benefits including interest and penalties are accounted for as follows:

Estimated interest and penalties relating to unrecognized tax benefits are classified as a component of finance charges and income tax expense, respectively. During the years ended December 31, 2008, 2007, and 2006, the Company recognized EUR 7 million, EUR 14 million, and EUR 6 million respectively in interest and penalties. The accrued liability for interest and penalties was EUR 48 million and EUR 45 million at December 31, 2008 and 2007, respectively.

In many cases, unrecognized tax benefits are related to tax years that remain subject to examination by the relevant tax authorities. The following table summarizes these open years by major jurisdiction:

It is reasonably possible that the amount of unrecognized tax benefits may change in the next twelve months due to expiring statutes, audit activity, tax payments, competent authority proceedings related to transfer pricing, or final decisions in matters that are the subject of litigation in various taxing jurisdictions in which we operate.