Part IV

Item 15.

Exhibits and Financial Statement Schedules

XTO ENERGY INC. Notes to Consolidated Financial Statements

4. Income Tax

The following reconciles our income tax expense to the amount calculated at the statutory federal income tax rate:

(in millions)
2007
2006
2005
Income tax expense at the federal statutory rate (35%) $ 925 $ 1,036 $ 634
State and local income taxes and other (a) 26 65 24
Income tax expense $ 951 $ 1,101 $ 658

(a) The 2006 provision includes $34 million related to enactment of a new State of Texas margin tax.

Components of income tax expense are as follows:

(in millions)
2007
2006
2005
Current income tax (a) $ 292 $ 572 $ 243
Deferred income tax 659 505 398
Net operating loss carryforwards used – 24 17
Income tax expense $ 951 $ 1,101 $ 658

(a) The current income tax provision exceeds cash tax expense by the benefit realized upon exercise of stock options or vesting of stock awards in excess of amounts expensed in the financial statements. This benefit, which is recorded in additional paid-in capital, was $64 million in 2007, $50 million in 2006 and $21 million in 2005.

Deferred tax assets and liabilities are the result of temporary differences between the financial statement carrying values and tax bases of assets and liabilities. Our net deferred tax assets and liabilities are recorded as a current asset of $20 million and a long-term liability of $2.6 billion at December 31, 2007 and as a current liability of $263 million and a long-term liability of $2.0 billion at December 31, 2006. Significant components of net deferred tax assets and liabilities are:

 
December 31
(in millions)
2007
2006
Deferred tax assets:  
Derivative fair value loss $ 91 $ 22
Other 68 43
Total deferred tax assets 159 65
Deferred tax liabilities:  
Property and equipment (2,649) (1,971)
Derivative fair value gain (73) (319)
Other (27) (16)
Total deferred tax liabilities (2,749) (2,306)
Net deferred tax liabilities $ (2,590) $ (2,241)

At the time of adoption of FIN 48 and as of December 31, 2007, we did not have any unrecognized tax benefits. As a result, the only differences between our financial statements and our income tax returns relate to normal timing differences such as depreciation, depletion and amortization, which are recorded as deferred taxes on our consolidated balance sheets.

In second quarter 2007, the Internal Revenue Service completed its examination of our federal income tax returns for 2003 and 2004. Additional federal tax resulting from this examination was fully accrued in our December 31, 2006 consolidated financial statements as current income tax payable. Under the terms of the final settlement with the IRS, we incurred immaterial interest expense and no penalties. Subsequent amendment of our state tax returns for these years did not have a significant effect on our results of operations or financial position. Tax years 2003 and 2004 remain subject to examination by state jurisdictions, and subsequent years are open to both federal and state examination.