Financial Management: The Prompt Payment Act and DOD Problem
Disbursements (Letter Report, 05/23/97, GAO/AIMD-97-71).

Pursuant to a congressional request, GAO reviewed whether the Prompt
Payment Act of 1982 contributes significantly to Department of Defense
(DOD) problem disbursements.

GAO found that: (1) DOD did not provide, and GAO did not find, any
empirical evidence to support assertions that the Prompt Payment Act
contributes to problem disbursements; (2) a 1995 Defense study, which
identified several major contributing causes to DOD problem
disbursements, did not cite either the Prompt Payment Act or DOD
policies on making timely payments, as a cause; (3) the Prompt Payment
Act does not require federal agencies to pay an invoice by the due date;
(4) rather, it requires the government to pay interest if an invoice is
not paid on time; (5) Defense Finance and Accounting Service (DFAS)
policy statements and daily operating procedures emphasize timely
payment to avoid interest penalties and DFAS management has established
a 30-day goal for paying most invoices; (6) while some DFAS personnel
told GAO that these policies create "pressure" to make timely payments,
they stated that the policies do not result in payments being made
inappropriately; (7) information provided by DFAS shows that it is
generally able to make most payments in less than 30 days; (8) DOD
officials expressed concern regarding provisions of the Prompt Payment
Act that they believe result in higher than justified administrative
costs; (9) one concern relates to the large number of small interest
payments; (10) under the act, contractors are entitled to interest
penalties of $1 or more; (11) almost 11,000, about one quarter, of all
payments of DFAS Columbus Contract Entitlement Directorate interest
penalty payments in fiscal year 1996 were for less than $5, but these
payments accounted for only $28,701, less than one quarter of 1 percent
of total interest paid; (12) another concern relates to new DFAS
procedures for allocating interest payments to appropriation accounts;
(13) DFAS and service officials said that these procedures increase the
complexity and, accordingly, the cost of making interest payments; (14)
previously, DFAS Columbus charged all interest costs to its own Defense
Business Operations Fund account and recovered the amounts through DFAS
billing rates; (15) this meant that all DFAS customers, and their
respective appropriations, shared in the interest penalty payment,
regardless of which invoices were not paid on time; (16) the DOD
Comptroller was advised that this DFAS practice did not comply with the
Prompt Payment Act requirement that agencies pay interest from the appr*

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

 REPORTNUM:  AIMD-97-71
     TITLE:  Financial Management: The Prompt Payment Act and DOD 
             Problem Disbursements
      DATE:  05/23/97
   SUBJECT:  Financial management
             Noncompliance
             Federal agency accounting systems
             Administrative costs
             Accounting procedures
             Appropriation accounts
             Erroneous payments
             Prompt payment discounts
             Contractor payments
             Late payments
IDENTIFIER:  Defense Business Operations Fund
             
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Cover
================================================================ COVER


Report to the Ranking Minority Member, Committee on Governmental
Affairs, U.S.  Senate

May 1997

FINANCIAL MANAGEMENT - THE PROMPT
PAYMENT ACT AND DOD PROBLEM
DISBURSEMENTS

GAO/AIMD-97-71

Prompt Payment

(918870)


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

  DBOF - Defense Business Operations Fund
  DFAS - Defense Finance and Accounting Service
  DOD - Department of Defense
  OMB - Office of Management and Budget

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


B-275091

May 23, 1997

The Honorable John Glenn
Ranking Minority Member
Committee on Governmental Affairs
United States Senate

Dear Senator Glenn: 

This letter is in response to your request that we determine whether
the Prompt Payment Act of 1982 contributes significantly to
Department of Defense (DOD) problem disbursements.  The Prompt
Payment Act has been described in DOD testimony as pressuring DOD
personnel to pay invoices within 30 days even though the payment may
cause a problem disbursement. 

Problem disbursements are specific disbursements that have not been
properly matched with corresponding obligations.  Matching
disbursements with obligations is an important control for ensuring
that funds are used in accordance with the purpose and other
limitations specified by the Congress.  Without such matching, there
is increased risk that (1) fraudulent or erroneous payments may be
made without being detected and (2) cumulative amounts of
disbursements may exceed appropriated amounts and other legal limits. 

Our work focused on the Defense Finance and Accounting Service (DFAS)
Columbus Contract Entitlement Directorate because it disburses more
funds than other DOD disbursing offices, handles the most complex
contracts, is identified with many of DOD's disbursement problems,
and processed over 42 percent of DOD's fiscal year 1996 interest
penalty payment dollars. 

In addition, as subsequently agreed with your office, this report
provides information on two matters raised by DOD officials related
to provisions of the Prompt Payment Act that they believe result in
higher than justified administrative costs.  We limited our work on
these matters because they were outside of the original scope of our
review. 


   RESULTS IN BRIEF
------------------------------------------------------------ Letter :1

DOD did not provide, and we did not find, any empirical evidence to
support assertions that the Prompt Payment Act contributes to problem
disbursements.  Also, a 1995 Defense study, which identified several
major contributing causes to DOD problem disbursements, did not cite
either the Prompt Payment Act or DOD policies on making timely
payments as a cause. 

The Prompt Payment Act does not require federal agencies to pay an
invoice by the due date.  Rather, it requires the government to pay
interest if an invoice is not paid on time.  DFAS policy statements
and daily operating procedures emphasize timely payment to avoid
interest penalties and DFAS management has established a 30-day goal
for paying most invoices.  While some DFAS personnel told us that
these policies create "pressure" to make timely payments, they stated
that the policies do not result in payments being made
inappropriately.  Information provided by the DFAS Columbus Contract
Entitlement Directorate shows that it is generally able to make most
payments in less than 30 days. 

During the course of our review, DOD officials expressed concern
regarding provisions of the Prompt Payment Act that they believe
result in higher than justified administrative costs.  One concern
relates to the large number of small interest payments.  Under the
act, contractors are entitled to interest penalties of $1 or more. 
Almost 11,000, about one quarter, of all payments of DFAS Columbus
Contract Entitlement Directorate interest penalty payments in fiscal
year 1996 were for less than $5, but these payments accounted for
only $28,701, less than one quarter of 1 percent of total interest
paid. 

Another concern relates to new DFAS procedures for allocating
interest payments to appropriation accounts.  DFAS and service
officials said that these procedures increase the complexity and,
accordingly, the cost of making interest payments.  Previously, DFAS
Columbus charged all interest costs to its own Defense Business
Operations Fund (DBOF) account and recovered the amounts through DFAS
billing rates.  This, in effect, meant that all DFAS customers, and
their respective appropriations, shared in the interest penalty
payments, regardless of which invoices were not paid on time.  The
DOD Comptroller was advised that this DFAS practice did not comply
with the Prompt Payment Act requirement that agencies pay interest
from the appropriation that funds the program that incurred the
interest penalty.  To address this compliance issue, DOD recently
established a number of separate accounts for the direct allocation
of the interest charges by DFAS to the services' appropriations. 


   BACKGROUND
------------------------------------------------------------ Letter :2

Problem disbursements are specific disbursements that have not been
properly matched with corresponding obligations.  Audit reports have
served to highlight the scope and severity of DOD's problems and have
reported that billions of dollars in disbursements could not be
promptly or accurately matched with related obligations.  DOD has
recognized this as a major area of concern and is working hard to
reduce current problem disbursements.  It has many short-term
initiatives and long-term plans to reduce such disbursements. 

The Prompt Payment Act of 1982, as amended, provides governmentwide
guidelines for establishing due dates on commercial invoices and
provides for interest payment on invoices paid late.  Prior to
passage of the act, we reported that the federal government did not
have uniform criteria for establishing due dates for vendor
invoices.\1 Many invoices were paid too early or too late, sometimes
without regard to contract terms, the effect on vendors' cash flow,
or the effect on government interest costs.  In 1981, we estimated
that contractors were losing at least $150 million annually because
of late payments from the federal government.  We also pointed out
that the government could save at least $900 million annually if all
early payments were instead paid when due.\2 The Prompt Payment Act
and implementing guidance and regulations issued by the Office of
Management and Budget (OMB) and DOD are intended to address such
issues. 

Except where otherwise specified within contracts, the act provides
that agencies should pay within 30 days after the designated office
receives the vendor invoice or the government accepts the items
ordered as satisfactory, whichever is later.  This 30-day payment
time frame is consistent with the time frame originally included in
the May 1978 Department of the Treasury regulations.  OMB Circular
A-125, which prescribes implementing policy for the Prompt Payment
Act of 1982, as amended, directs federal agencies to pay commercial
obligations accurately and on time, and to use sound cash management
practices. 

In fiscal year 1994, the federal government reported that about $23.4
million in interest was paid under the Prompt Payment Act.  Of that
amount, DOD paid about $13.8 million.  In fiscal year 1995, reported
federal interest payments increased to about $37 million, of which
DOD paid $25 million.  DOD attributed the increase in interest
payments, in part, to additional processing time required by changes
in its payments process, such as the 1995 requirement for the
prevalidation\3 of invoices.  In fiscal year 1996, DOD paid $27.9
million in interest.  Four DFAS centers processed nearly all of DOD's
fiscal year 1996 interest payments. 

  DFAS Columbus--$13.7 million,

  DFAS Cleveland--$6.7 million,

  DFAS Indianapolis--$3.7 million,

  DFAS Denver--$3.1 million, and

  All others--$.7 million. 

DFAS Columbus is divided into three directorates--Contract
Entitlement, Stock Fund, and Financial Services.  The Contract
Entitlement Directorate, which administers large contracts, paid
about 48,000 interest penalties totalling over $11.9 million, which
is 87 percent of the $13.7 million in interest paid by DFAS Columbus
in fiscal year 1996.  The Stock Fund Directorate paid over 56,000
interest penalties totaling over $1 million and the Financial
Services Directorate paid over 23,000 interest penalties totalling
about $800,000. 


--------------------
\1 The Federal Government's Bill Payment Performance Is Good But
Should Be Better (FGMSD-78-16, Feb.  24, 1978). 

\2 Actions to Improve Timeliness of Bill Paying by the Federal
Government Could Save Hundreds of Millions of Dollars (AFMD-82-1,
Oct.  8, 1981). 

\3 Prevalidation is the process, required by Public Law 103-335, of
matching disbursements to the appropriate obligation in DOD's
official accounting records before the disbursement is made.  The
objective of prevalidation is to prevent problem disbursements. 


   SCOPE AND METHODOLOGY
------------------------------------------------------------ Letter :3

We reviewed the provisions of the Prompt Payment Act of 1982, as
amended; OMB Circular A-125, which prescribes policy for executive
departments and agencies in paying for goods and services; and DOD's
regulations and procedures related to the act's implementation.  We
interviewed individuals at DFAS headquarters in Arlington, Virginia,
and the DFAS payment center in Columbus, Ohio, about the
implementation of the act and related guidance.  Our interviews
included voucher examiners, supervisors, deputy directors and the
Director, Contract Entitlement, DFAS Columbus, as well as the
Director and staff of the Contract Pay Directorate at DFAS
headquarters. 

We obtained the DFAS Columbus Contract Entitlement voucher payment
procedures and reviewed them for procedures related to prompt
payment.  We also discussed the DFAS Columbus Contract Entitlement
procedures for paying interest penalties with the DFAS Columbus
Contract Entitlement Prompt Pay Project Officer and obtained sample
payment packages to use as examples of DFAS Columbus practices. 

We obtained data from the DFAS Columbus database containing interest
payments made in fiscal year 1996 for the Contract Entitlement
Directorate, which administers major DOD contracts and paid $11.9
million of the $27.9 million in interest penalties paid by DOD in
fiscal year 1996.  We stratified the interest payments by dollar
amount to determine the significance of small interest payments.  We
relied upon available records and did not independently verify or
audit DOD's reported data.  Regarding the issue involving allocating
interest payments, we interviewed officials in the Army, Navy, Air
Force, Marine Corps, and DFAS. 

We performed our work from June 1996 to March 1997 in accordance with
generally accepted government auditing standards.  DOD provided
written comments on a draft of this report.  These comments are
presented in appendix II. 


   NO EMPIRICAL EVIDENCE TO
   SUPPORT ASSERTION THAT THE
   PROMPT PAYMENT ACT CONTRIBUTES
   TO PROBLEM DISBURSEMENTS
------------------------------------------------------------ Letter :4

DOD officials did not provide, and we did not find, any empirical
information to support the assertion that the Prompt Payment Act
contributes to problem disbursements.  The act does not mandate that
an invoice be paid within a specified time frame.  Rather, it
establishes guidelines for determining payment due dates, and
requires that if payment is not made in a timely manner, the
government will pay interest to the contractor. 

The act states, in part, that "the head of an agency acquiring
property or service..., who does not pay...by the required payment
date, shall pay an interest penalty...." Further, the act states that
"the required payment date is (A) the date payment is due under the
contract ...  or (B) 30 days after a proper invoice for the amount
due is received if a specific payment date is not established by
contract."

In a June 1995 report, DOD identified a number of causes of problem
disbursements, but these did not include the Prompt Payment Act. 
DOD's Acquisition and Financial Management Working Group stated that
while quantitative data were unavailable, observations and experience
suggested that the root causes of problem disbursements were
inaccurate or incomplete data within different information systems,
resulting in payments being charged to the wrong lines of
accounting.\4 The group also reported that data entry errors and the
lack of timely distribution of contract documents among program
managers, contracting and contract administration offices,
contractors, disbursing offices, and accounting offices were major
contributors to problem disbursements.  Other contributing factors
reported were a high percentage of manually processed payments,
non-uniform contract structure and format, multiple funding sources
for a single contract line item, complex progress payment procedures,
and the lack of standard automated systems.  In our April 1997 report
on DOD contract payment practices, we discussed similar issues and
recommended that DOD thoroughly evaluate opportunities to reduce the
amount of detail accounting at DFAS Columbus and to streamline
payment techniques.\5


--------------------
\4 Our report, Financial Management:  Improved Management Needed for
DOD Disbursement Process Reforms (GAO/AIMD-97-45, Mar.  31, 1997)
noted that DOD needs more complete analysis to identify the
underlying causes of problem disbursements. 

\5 Contract Management:  Fixing DOD's Payment Problems Is Imperative
(GAO/NSIAD-97-37, Apr.  10, 1997). 


   DFAS MANAGEMENT FOCUSES ON
   SPECIFIC PAYMENT TIME FRAMES
------------------------------------------------------------ Letter :5

On February 22, 1996, the DFAS Director notified DFAS personnel that
paying all vendor invoices within 30 days was a key project for 1996. 
DFAS management had established, as a matter of policy, a goal of
paying invoices within 30 days.  This goal is also specified in DFAS
management statements and the DFAS Columbus daily operating
procedures. 

DFAS Columbus Contract Entitlement personnel we interviewed were very
aware of the Director's emphasis on timely payment, and the voucher
examiners and supervisors we spoke with said they felt "pressure"
from management to pay invoices within 30 days.  However, neither the
voucher examiners nor the supervisors believed that this pressure
would cause payments to be made in a manner that contributed to
problem disbursements. 

The DFAS Columbus daily operating procedures also stress timely
processing and payment of vouchers.  DFAS generates a number of daily
reports to monitor the timeliness of invoice payments, including the
following: 

  The "Overage/Projected Overage Invoices On-Hand" report lists all
     invoices that are past the due date, or very close to the due
     date, by number of days. 

  The "Potential Interest Payment-Alert" lists all unpaid invoices
     that are past the established due date. 

  The "Interest Due Report" lists unpaid invoices which are 16 or
     more days past the established due date. 

  The "Daily Status of Discount Invoices" lists discounts still
     available. 

These reports are distributed to the voucher examiners who are
required, each day, to note actions taken to resolve each overaged
invoice. 


   DFAS IS GENERALLY ABLE TO MAKE
   PAYMENTS IN LESS THAN 30 DAYS
------------------------------------------------------------ Letter :6

If DFAS Columbus has the information necessary to make a
payment--such as a complete contractor invoice showing quantity and
price information that matches the information specified in the
contract--payments can easily be made in less than 30 days.  Of the
883,318 invoices subject to the Prompt Payment Act that were paid by
the DFAS Columbus Contract Entitlement Directorate in fiscal year
1996, DFAS data show that 94 percent were paid on time. 

Over half of those invoices paid by the Directorate are routinely
matched to the DFAS contract database that contains contract
information for determining whether sufficient funds exist to pay the
invoice.  When matched electronically with the database, the invoices
go into an "automated pay" status.  Such invoices could be paid in
only a few days; however, invoices subject to the Prompt Payment Act
are normally released for payment no sooner than the 23rd day after
receipt of the invoice.  This is to ensure that, consistent with
regulations regarding good cash management, such as OMB Circular
A-125, the government is not paying invoices any earlier than
necessary. 


   OTHER PROMPT PAYMENT ACT ISSUES
------------------------------------------------------------ Letter :7

During the course of our review, DOD officials raised two concerns
related to the provisions of the Prompt Payment Act that they believe
result in higher than justified administrative costs.  As agreed with
your staff, we are including a description of these matters in this
report. 


      SMALL INTEREST PAYMENTS
---------------------------------------------------------- Letter :7.1

The act states that a business concern shall be entitled to any
interest penalty of $1 or more from the government (interest
penalties of less than $1 are not required to be paid).  We found
that small interest payments made by the DFAS Columbus Contract
Entitlement Directorate comprised a large portion of the number of
payments made, but accounted for a very small portion of the total
interest dollars paid.  For example, as shown in appendix I, of the
47,773 contract entitlement interest payments in fiscal year 1996,
10,789, about one quarter of all interest payments, were for $5 or
less, and totaled $28,701--less than one quarter of 1 percent of
total interest payment dollars.  Interest payments up to $25
comprised over 50 percent of all interest payments, but less than 2
percent of total interest dollars paid. 

In the two other DFAS Columbus directorates, the proportion of small
interest payments was even higher.  In the Financial Services
Directorate, over 47 percent of the 23,275 interest penalties paid in
fiscal year 1996 were between $1 and $5, and accounted for about 3.5
percent of the total interest dollars paid.  In the Stock Fund
Directorate, over 91 percent of the 56,281 interest penalties paid in
fiscal year 1996 were between $1 and $25, the smallest category on
which data were available, and accounted for about 46 percent of
total interest dollars paid. 

DOD officials said that the current minimum payment of $1, which was
established almost 15 years ago, may need to be increased because the
benefits from such small interest payments may not justify the costs
of making such small payments.  However, to some extent the number of
late payments and the resulting interest and administrative costs
related to them are the result of DFAS payment processes and
practices and how efficiently they are carried out.  For example, for
each interest penalty payment, current DFAS policies require that the
reason for the interest be identified and documented.  In one case, a
$1.05 interest payment was supported by nine pages of documentation. 


      ALLOCATION OF INTEREST
      PAYMENTS
---------------------------------------------------------- Letter :7.2

The second concern raised by DOD officials pertains to the allocation
of interest payments to appropriation accounts.  The Prompt Payment
Act specifies that interest penalties are to be paid from the
appropriation which administers the program.  Until recently, DFAS
Columbus paid the interest payments and charged the payments to the
DFAS Columbus DBOF account.  DFAS Columbus then recovered the amounts
of these interest payments, like all other costs, from the military
services through DFAS billing rates.  Under this process, all DFAS
customers shared the interest expense on payments, regardless of
which contracts and appropriations the interest related to. 

In December 1995, the DOD Comptroller revised the interest payment
policy after being advised by the DOD Office of General Counsel that
to be consistent with OMB Circular A-125 and the Federal Acquisition
Regulations, the policy should be revised so that DFAS will directly
charge the DOD component's appropriated funds available to pay for
contract administration of the underlying program.  The revised DOD
policy requires that, "interest penalties incurred under the Prompt
Payment Act shall be charged directly to the account that funds the
administration of the program for which the penalty was incurred." In
early fiscal year 1997, each of the military services implemented
approaches to comply with the DOD Comptroller's direction.  While
their approaches vary in some ways, each involves the establishment
of a number of accounts to which DFAS Columbus is to charge the
interest penalties.  For example, the Navy has established over 50
individual accounts that are to be used as a means for charging
interest penalty payments to the correct appropriations.  The
processes used by DFAS to allocate the interest payments to the
accounts are largely manual--DFAS personnel review payment data and
manually enter the account and interest amount into the payment
system. 

The revised processes are also more complex.  Rather than processing
a single transaction for the entire amount of interest on a single
payment, DFAS now determines the interest amounts for each account
that funded the goods or services purchased.  In one case, an
interest payment of $1.85 was divided among 56 separate accounting
lines.  DFAS Contract Entitlement Directorate officials estimate that
this new process has increased its average 45-minute interest payment
processing time by about 10 percent.  Officials did not know how much
additional processing time was being incurred at accounting stations. 

The services are concerned that the new procedures may not be in the
interest of efficient government operations.  The Army intends to
establish a working group to review the prompt payment procedures and
to formulate a policy for the Army and DFAS to use in the next fiscal
year. 


   AGENCY COMMENTS
------------------------------------------------------------ Letter :8

In written comments on a draft of this report, DOD agreed with the
overall conclusion that the Prompt Payment Act does not contribute to
problem disbursements.  These comments are reprinted in appendix II. 


---------------------------------------------------------- Letter :8.1

We are sending copies of this report to the Secretary of Defense, the
DOD Comptroller, the Director of Defense Finance and Accounting
Services, and interested congressional committees.  Copies of this
report will also be made available to others upon request. 


Please contact me at (202) 512-9490 if you or your staff have any
questions concerning this letter.  The major contributors to this
letter were David Childress, John L.  Carter, Rose M.  Dorlac, and
Julie A.  Cahalan. 

Sincerely yours,

George H.  Stalcup
Associate Director, Defense Financial Audits


FY 1996 DFAS COLUMBUS CONTRACT
ENTITLEMENT INTEREST PAYMENTS
=========================================================== Appendix I

                    Number of                                         Percent of
Interest        payments with       Percent of                    total interest
amount               interest   total payments    Interest paid             paid
------------  ---------------  ---------------  ---------------  ---------------
$1.00-$5.00            10,789             22.6          $28,701              0.2
$5.01-                  6,227             13.0           45,074              0.4
 $10.00
$10.01-                 8,661             18.1          141,932              1.2
 $25.00
$25.01-                 6,087             12.7          218,672              1.8
 $50.00
$50.01-                 5,170             10.8          366,959              3.1
 $100.00
$100.01-                7,614             15.9        1,711,826             14.4
 $500.00
$500.01-                1,527              3.2        1,066,997              9.0
 $1,000.00
$1,000.01-              1,390              2.9        2,935,843             24.6
 $5,000.00
Over                      308              0.6        5,405,628             45.3
 $5,000.00
================================================================================
Total                  47,773          100.0\a      $11,921,632            100.0
--------------------------------------------------------------------------------
Note:  We did not independently verify or audit this information. 

\a Does not add to 100.0 due to rounding. 

Source:  DFAS Columbus Contract Entitlement Directorate. 




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


The following is GAO's comment on the Department of Defense's letter
dated April 25, 1997. 


   GAO COMMENT
--------------------------------------------------------- Appendix I:1

1.  The Prompt Payment Act of 1982 as amended, which includes the $1
threshold for interest penalties, was intended to foster equitable
payment policies and to encourage federal agencies to improve their
payment processes.  Any change in the interest penalty threshold
could effect all federal agencies as well as the vendor community,
and accordingly is a matter for congressional determination.  We
believe that any initiative to change the minimum interest payment
level should consider the efficiency of agency payment processes, the
effect of such a change on vendors, and other relevant factors. 

*** End of document. ***