Financial Audit: Federal Financing Bank's 1993 and 1992 Financial
Statements (Letter Report, 12/06/94, GAO/AIMD-95-4).

This report presents the results of GAO's review of the independent
certified public accountants' audits of the Federal Financing Bank's
financial statements for fiscal years 1993 and 1992.  In the auditors'
opinions, the Bank's statements are presented fairly in accordance with
generally accepted accounting principles.  The independent auditors'
reports on the Bank's internal accounting and administrative controls
and on its compliance with laws and regulations are also provided.  The
Bank's fiscal year 1993 financial statements reflect an accumulated
deficit of more than $2 billion.  When it last audited the Bank in 1988,
GAO reported material weaknesses in the Bank's internal control
structure.  Because of these long-standing weaknesses, GAO supports the
independent certified public accountants' recommendation that the
Treasury Department appoint an individual to oversee both the credit
accounting and administrative functions of the Bank.  Because the Bank
will not be able to repay its liability to Treasury associated with loan
prepayments under its current operating scenario, Treasury should
consider eliminating this liability as well as the related account
receivable on its books, including, if necessary, requesting
legislation.

--------------------------- Indexing Terms -----------------------------

 REPORTNUM:  AIMD-95-4
     TITLE:  Financial Audit: Federal Financing Bank's 1993 and 1992 
             Financial Statements
      DATE:  12/06/94
   SUBJECT:  Financial statement audits
             Off-budget federal entities
             Government guaranteed loans
             Loan repayments
             Internal controls
             Financial records
             Financial management
             Federal agency accounting systems
             Budget deficit

             
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Cover
================================================================ COVER


Report to the Congress

December 1994

FINANCIAL AUDIT - FEDERAL
FINANCING BANK'S 1993 AND 1992
FINANCIAL STATEMENTS

GAO/AIMD-95-4

Federal Financing Bank Financial Statements

(917638)


Abbreviations
=============================================================== ABBREV

  FFB - Federal Financing Bank
  IPA - independent public accountant

Letter
=============================================================== LETTER


B-259368

December 6, 1994

To the President of the Senate and the
Speaker of the House of Representatives

This report presents the results of our review of the independent
certified public accountants' audits of the Federal Financing Bank's
(FFB) financial statements for the fiscal years ended September 30,
1993 and 1992.  In the auditors' opinions, FFB's statements are
fairly presented in all material respects in accordance with
generally accepted accounting principles.  The independent auditors'
reports on FFB's internal accounting and administrative controls and
on its compliance with laws and regulations are also provided.  FFB's
fiscal year 1993 financial statements reflect an accumulated deficit
of over $2 billion.  When we last performed an audit of FFB in 1988,
we reported material weaknesses in FFB's internal control structure. 
The current auditors' reports indicate that material internal control
weaknesses still exist. 


   BACKGROUND
------------------------------------------------------------ Letter :1

The Federal Financing Bank was created by the Federal Financing Bank
Act of 1973.  FFB was established to (1) finance federal and
federally assisted borrowings in ways that least disrupt private
markets, (2) coordinate such borrowing programs with the government's
overall fiscal policy, and (3) reduce the costs of such borrowings
from the public. 

FFB provides financial assistance to or on behalf of federal agencies
by (1) making direct loans to federal agencies to help them fund
their programs, (2) purchasing loan assets from federal agencies, and
(3) making direct loans to nonfederal borrowers (including foreign
governments) that are secured by federal agency guarantees against
risk of default by borrowers on loan principal and interest payments. 

FFB obtains funds by borrowing from the Department of the Treasury. 
Each loan made by Treasury matches the terms and conditions, except
for the interest rate, of the corresponding loans made by FFB.  FFB
charges its borrowers the interest it incurs on the Treasury
borrowing, plus a fee of one-eighth of 1 percent to cover
administrative costs. 


   OBJECTIVES, SCOPE, AND
   METHODOLOGY
------------------------------------------------------------ Letter :2

The Department of the Treasury contracted with two independent public
accounting firms to perform audits of FFB's financial statements for
fiscal years 1993 and 1992 as required by the Government Corporation
Control Act,\1 as amended by the Chief Financial Officers Act of
1990.  Under the act, the Comptroller General may review any
financial audit conducted by an external auditor.  We elected to
review FFB's 1993 and 1992 audits because we remain concerned about
the long-standing internal control weaknesses that we reported on in
our prior audits.  In addition, FFB's financial statements still
reflect a $2 billion deficit, which was first reported in 1989. 

We conducted our review of the auditors' work between January 1994
and September 1994, in accordance with generally accepted government
auditing standards.  To determine the reasonableness of the auditors'
work and the extent to which we could rely on it, we

  -- reviewed the auditors' approach and planning of the audits,

  -- evaluated the independence and qualifications of the audit
     staff,

  -- reviewed the financial statements and auditors' reports to
     evaluate compliance with generally accepted accounting
     principles and generally accepted government auditing standards,
     and

  -- reviewed and tested the auditors' working papers to determine
     (1) the nature, timing, and extent of audit work performed, (2)
     the extent of audit quality control methods the auditors used,
     (3) whether an understanding was obtained of the entity's
     internal control structure, (4) whether the auditors tested
     transactions for compliance with applicable laws and
     regulations, and (5) whether the evidence in the working papers
     supported the auditors' opinions on the financial statements and
     internal accounting control and compliance reports. 

The Department of the Treasury provided comments on a draft of this
report.  These comments are presented in the Agency Comments section
and are reprinted in appendix II. 


--------------------
\1 Under the Federal Financing Bank Act of 1973, FFB is subject to
the budget and audit provisions of the act, as amended.  The act
requires covered corporations to obtain financial statement audits in
accordance with generally accepted government auditing standards. 


   FFB ACCUMULATED DEFICIT REMAINS
   AT
   $2 BILLION
------------------------------------------------------------ Letter :3

From 1985 to 1988, several FFB borrowers prepaid high interest rate
loans made to them during 1980 and 1981 by FFB.  While some of these
borrowers prepaid their loans at the current Treasury market values,
as required by FFB policy, specific legislation allowed others to
prepay their loans at less than the current Treasury market value. 
As a result of accepting these loan prepayments at book rather than
market value, FFB accumulated a deficit of $2 billion. 

A loan's current Treasury market value, as defined by FFB, is
determined by calculating the net present value of the future stream
of principal and interest payments the government gives up when FFB
accepts the prepayment of a loan.  When determining the current
Treasury market value, FFB uses the current interest rate for a
Treasury security with a comparable maturity.  When a loan is prepaid
by a borrower at its current Treasury market value, FFB experiences
neither an economic gain nor a cost on the prepayment.  In other
words, FFB is no worse off by allowing a borrower to prepay its loan
than if FFB held the loan to its original term and no loan default
occurred. 

Under specific legislation, FFB was required to accept the prepayment
of certain loans at the book value\2 rather than the current Treasury
market value.  As a result, FFB incurred a cost of about $2
billion--the difference between the current Treasury market value and
the book value of the prepaid loans.  The legislation requiring FFB
to accept certain loan prepayments at book value rather than market
value did not change the prepayment terms of FFB's loan agreements
with its borrowers and, consequently, the terms of FFB's borrowing
agreement with Treasury.  Therefore, FFB remains obligated to
Treasury for the $2 billion difference between the current Treasury
market value of the prepaid loans and the prepayment amounts FFB
received.  This $2 billion cost is currently reported as a deficit in
FFB's financial statements. 

We previously reviewed the cost of the loan prepayments and, in a
1989 report, suggested that, when requiring FFB to accept prepayments
at book value, the Congress consider providing appropriations to the
affected programming agencies or FFB to cover their cost.\3 We
observed that if the Congress were to make appropriations to the
affected program agencies, the costs of the prepayments would be
reflected in the respective agencies' program budgets. 

However, since our previous report, several significant provisions
affecting the budget and appropriations process have been enacted. 
In particular, the Budget Enforcement Act of 1990 contains a
provision placing discretionary spending caps on budget authority,
allowing little or no growth in nominal dollar spending.  These caps
will become increasingly binding over the next several years, placing
severe constraints on future appropriations, requiring consideration
of other alternatives to eliminate FFB's prepayment liability. 

While FFB has made payments to Treasury against the prepayment
liability, interest has been accruing on the unpaid balance
($2,074,429,000 and $2,062,779,000 at September 30, 1993 and 1992)
since the prepayment occurred in 1988.  FFB's independent auditors
indicated that it is unlikely that FFB's net interest income at its
current rate will be sufficient to liquidate the prepayment
liability.  Without some mechanism to eliminate its debt, FFB is
likely to carry its deficit indefinitely.  In addition, Treasury is
likely to carry its related receivable indefinitely. 


--------------------
\2 A loan's book value is the unpaid principal balance plus accrued
interest on the loan. 

\3 Federal Financing Bank:  The Government Incurred a Cost of $2
Billion on Loan Prepayments (GAO/AFMD-89-59, August 22, 1989). 


   FFB MADE FEW IMPROVEMENTS TO
   REPORTED INTERNAL CONTROL
   WEAKNESSES
------------------------------------------------------------ Letter :4

The FFB's independent certified public accountants' (IPA) internal
control reports stated that while FFB has made some improvements in
addressing specific internal control weaknesses, material weaknesses
still exist in FFB's overall internal control structure.  When we
audited FFB's fiscal year 1988 financial statements, we reported
material weaknesses in FFB's internal control structure, including
deficiencies in reconciliations of accounting information and lack of
maintenance of subsidiary ledgers for loans.  Similarly, from fiscal
years 1989 through 1992, the IPA who performed the financial
statement audits reported material weaknesses regarding the inability
of FFB to maintain subsidiary ledgers.  And the IPA who performed the
fiscal year 1993 audit again reported problems with reconciliations
and maintenance of subsidiary ledgers.  The IPA concluded that these
material weaknesses in FFB's internal controls were caused by the
lack of an effective core financial accounting system and problems in
FFB's overall organizational structure. 

FFB has been in the process of implementing a fully integrated
accounting system for several years.  While the new system is
operational, the information in this system has not been reconciled
with information in the existing accounting system.  As a result,
according to the IPA who performed FFB's 1993 audit, the new system
is not used as FFB's core accounting system.  Instead, two separate
accounting systems are maintained by the administrative and credit
accounting branches of FFB, resulting in duplication of effort in the
preparation of financial information.  In addition, because of a lack
of clear accountability within the organizational structure, no steps
are being taken to reconcile differences between the two systems. 

The IPA recommended that Treasury give one individual the
responsibility and authority to oversee both the credit accounting
and administrative side of FFB to resolve the long-standing issues
related to the new accounting system.  We agree that this approach
could mitigate some of the complications caused by FFB's fragmented
structure.  In response to the internal control letter, FFB officials
indicated that they generally concurred with the IPA's findings.  As
of September 1, 1994, no corrective action had been taken by Treasury
or FFB officials. 


   IPA OPINIONS ON THE FINANCIAL
   STATEMENTS
------------------------------------------------------------ Letter :5

In the opinion of the IPAs, FFB's financial statements present fairly
its financial position as of September 30, 1993 and 1992, the results
of its operations, and the changes in its cash flows for the years
then ended, in conformity with generally accepted accounting
principles.  The fiscal year 1993 report included a paragraph
indicating that FFB will likely require appropriations and/or an
increased interest rate margin charged to borrowers to finance its
deficit caused by the waiver of $2 billion in prepayments. 

In the IPA's fiscal year 1993 report on FFB's internal control
structure, it reported two material weaknesses similar to those that
other auditors had reported in previous years.  The IPA for fiscal
year 1993 also noted in its report on FFB's compliance with laws and
regulations that FFB did not report these material weaknesses in its
most recent FMFIA report, dated December 22, 1992.\4 Subsequent to
the date of the IPA's opinion, FFB filed a management report for
fiscal year 1993 disclosing these internal control weaknesses. 

During our review, we found nothing to indicate that the IPAs'
opinions on FFB's fiscal years 1993 and 1992 financial statements and
reports on compliance with laws and regulations and internal controls
are inappropriate or cannot be relied on. 

During the course of their audits, the IPAs also identified several
matters that, although not material to the financial statements, were
communicated for FFB's consideration in a separate management letter. 

We believe that the financial statements, together with the IPAs'
opinions and our review of that work, provide the Congress with a
dependable basis for evaluating FFB's financial position.  This
report presents FFB's financial statements and the auditors' opinions
thereon.  The independent auditors' reports on FFB's internal
accounting controls and compliance with laws and regulations are also
provided. 


--------------------
\4 In commenting on this report, Treasury stated that FFB, as a
government corporation and instrumentality of the United States, is
not, strictly speaking, required to prepare and submit an FMFIA
report.  However, Treasury did recognize that the Government
Corporation Control Act, as amended by the Chief Financial Officers
Act of 1990, requires covered corporations to issue annual management
reports.  This report includes a statement on internal accounting and
administrative control systems consistent with the requirements for
agency statements on such systems under the Federal Managers'
Financial Integrity Act of 1982. 


   RECOMMENDATIONS
------------------------------------------------------------ Letter :6

Because of the long-standing internal control weaknesses reported by
the IPAs and previously by us, we support the IPA's recommendation
that the Secretary of the Treasury appoint an individual with the
responsibility and authority to oversee both the credit accounting
and administrative functions of FFB. 

Since FFB will not be able to repay its liability to Treasury
associated with loan prepayments under its current operating
scenario, Treasury should consider actions to eliminate this
liability as well as the related account receivable on its books,
including, if necessary, requesting appropriate legislation. 


   AGENCY COMMENTS
------------------------------------------------------------ Letter :7

In its written comments on a draft of this report, the Department of
the Treasury generally agreed with our recommendations. 
Specifically, Treasury said it will continue to explore means to
resolve the prepayment liability and is reviewing FFB's current
structure to determine the most effective means of resolving the
long-standing internal control issues.  Treasury's written comments
are included in appendix III. 


---------------------------------------------------------- Letter :7.1

We are sending copies of this report to the Chairmen of the Senate
Committee on Governmental Affairs and the House Government Operations
Committee, the Director of the Office of Management and Budget, the
Secretary of the Treasury, and the Board of Directors of the Federal
Financing Bank.  Copies will also be made available to others upon
request. 

Please contact me at (202) 512-9406 if you or staff have any
questions about this report. 

Robert W.  Gramling
Director, Corporate Financial Audits


INDEPENDENT AUDITOR'S REPORT FOR
FISCAL YEAR 1993
=========================================================== Appendix I

   Auditor's Opinion

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   Auditor's Report on Internal
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   Auditor's Report on Compliance
   With Laws and Regulations

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   Financial Statements

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INDEPENDENT AUDITOR'S REPORT FOR
FISCAL YEAR 1992
========================================================== Appendix II

   Auditor's Opinion

   (See figure in printed
   edition.)

   Financial Statements

   (See figure in printed
   edition.)



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   edition.)



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   edition.)



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   edition.)



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   edition.)



   (See figure in printed
   edition.)

   Auditor's Report on Internal
   Control Structure

   (See figure in printed
   edition.)



   (See figure in printed
   edition.)



   (See figure in printed
   edition.)

   Auditor's Report on Compliance
   With Laws and Regulations

   (See figure in printed
   edition.)



   (See figure in printed
   edition.)




(See figure in printed edition.)Appendix III
COMMENTS FROM THE DEPARTMENT OF
THE TREASURY
========================================================== Appendix II



(See figure in printed edition.)


The following is GAO's comment on the Department of the Treasury's
letter dated November 8, 1994. 

GAO COMMENTS

1.  We have considered Treasury's views and have revised the draft
accordingly. 


*** End of document. ***