Internal Revenue Service: Serious Weaknesses Impact Ability to Report on
and Manage Operations (Letter Report, 08/09/1999, GAO/AIMD-99-196).
Serious financial management system limitations and internal control
weaknesses prevented the Internal Revenue Service (IRS) from reliably
reporting on the results of its administrative activities for fiscal
year 1998 and from having reliable financial information for managing
its operations. These deficiencies are long-standing, many being
reported in GAO's first financial audit of IRS for fiscal year 1992.
Comparable to an individual reconciling his or her checkbook to a bank
statement, IRS' records on its available funds should be reconciled to
the Treasury Department's records monthly. In fiscal year 1998, however,
IRS did not reconcile its administrative fund balance with Treasury's
accounts. IRS did not promptly record some types of expenditures against
appropriations. IRS' systems were unable to generate detailed subsidiary
records of its accounts payable and outstanding obligations. IRS'
property and equipment was probably materially understated because of
several deficiencies in its recording of property and equipment. IRS
lacked adequate review procedures to oversee and manage the accounting
and financial reporting process. GAO found significant errors and
omissions in IRS' draft financial statements involving, in some cases,
hundreds of millions of dollars. IRS acknowledges these weaknesses and
plans to improve its financial data for its administrative accounts.
However, past efforts to correct these problems have been ineffective.
Future success depends on sustained attention by senior IRS management.
Left uncorrected, the internal control weaknesses cited by GAO will
continue to hinder IRS' ability to manage its financial operations and
routinely prepare reliable and timely financial information.
--------------------------- Indexing Terms -----------------------------
REPORTNUM: AIMD-99-196
TITLE: Internal Revenue Service: Serious Weaknesses Impact
Ability to Report on and Manage Operations
DATE: 08/09/1999
SUBJECT: Internal controls
Reporting requirements
Accounting procedures
Financial records
Federal agency accounting systems
Financial statement audits
Tax administration systems
Financial management
Auditing standards
Inventory control
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United States General Accounting Office GAO Report
to the Commissioner of Internal Revenue August 1999
INTERNAL REVENUE SERVICE Serious Weaknesses Impact Ability to
Report on and Manage Operations GAO/AIMD-99-196 United States
General Accounting Office
Accounting and Information Washington, D.C. 20548
Management Division B-282549
Letter August 9, 1999 The Honorable Charles O. Rossotti The
Commissioner of Internal Revenue Dear Mr. Rossotti: This report is
a follow-on to our report on the results of our audit of the
financial statements of the Internal Revenue Service (IRS) for
fiscal year 1998.1 Because of insufficient evidence about the
reliability of fund balance with Department of the Treasury and
accounts payable as well as evidence that led us to conclude that
property and equipment was likely materially understated, we
issued a qualified opinion on IRS' September 30, 1998, balance
sheet. In addition to the balance sheet issues, insufficient
evidence about nonpayroll expenses and budgetary balances also
prevented us from rendering an opinion on the statements of net
cost, changes in net position, budgetary resources, and financing.
As we pointed out in the financial statement report and in
subsequent congressional testimony,2 pervasive weaknesses continue
to exist in the design and operation of IRS' financial management
systems, accounting procedures, documentation, recordkeeping, and
internal controls over its administrative operations. The matters
addressed in this follow-on report relate to IRS' activities
associated with its fiscal year 1998 appropriations of $7.9
billion-referred to as IRS' administrative activities. Issues
relating to IRS' collection of federal tax revenue, refunding of
overpayments of taxes, and unpaid tax assessments-referred to as
IRS' custodial activities-are covered in a separate report. The
matters in this report deal with IRS' reconciliations of fund
balance with Treasury accounts, recording certain expenditures
against appropriations, maintaining adequate transaction detail
needed to monitor its liabilities and obligations, accounting for
and controlling property and equipment, and the financial
reporting process. 1Financial Audit: Examination of IRS' Fiscal
Year 1998 Financial Statements (GAO/AIMD-99-75, March 1, 1999).
2Internal Revenue Service: Results of Fiscal Year 1998 Financial
Statement Audit (GAO/T-AIMD-99-103, March 1, 1999). Letter
Page 1 GAO/AIMD-99-196 IRS
Administrative Weaknesses B-282549 Results in Brief
Significant financial management system limitations and internal
control weaknesses prevented IRS from reliably reporting on the
results of its administrative activities for fiscal year 1998 and
from having reliable financial information for managing its
operations. These deficiencies are long-standing, many being
reported in our first financial audit of IRS for fiscal year 1992.
We found the following. * Comparable to an individual reconciling
his or her checkbook to a bank statement, IRS' records on its
available funds should be reconciled to Treasury records monthly.
However, in fiscal year 1998, IRS did not reconcile its
administrative fund balance with Treasury accounts. Reconciling
these accounts involves identifying differences between IRS and
Treasury records, determining the reasons for the differences, and
correcting them if needed. Without performing these
reconciliations, IRS has no assurance that it is properly
controlling and reporting its appropriated funds. * IRS did not
promptly record certain types of expenditures against
appropriations. IRS' records show a net of $141 million in its
suspense account at the end of fiscal year 1998 that had not been
applied to a specific IRS appropriation. According to IRS'
records, the absolute value of items in the suspense account
related to fiscal years 1989 through 1998 totaled $238 million for
government accounts and $170 million for nongovernment accounts
with net values of $74 million and $67 million, respectively.
Until all these transactions are posted to the proper
appropriation accounts and matched with corresponding obligational
records, the agency cannot ensure that the activities recorded in
these accounts are proper IRS transactions and that its
outstanding obligations and disbursements do not exceed
appropriated amounts. * IRS' systems were unable to generate
detailed subsidiary records of its accounts payable and
outstanding obligations (i.e., undelivered orders). In part this
was due to IRS not having adequate transaction-level detail to
match related transactions. The lack of subsidiary records for key
account balances affects IRS' ability to provide meaningful and
reliable financial information needed to effectively report on and
manage its operations. For example, without an accounts payable
subsidiary ledger, IRS cannot readily support its accounts payable
balance and determine that invalid accounts payable are removed
from the account. Also, without comparing outstanding amounts in
its undelivered orders accounts to outstanding obligations, IRS
cannot readily determine whether the amount for undelivered orders
is valid. Letter Page 2 GAO/AIMD-
99-196 IRS Administrative Weaknesses B-282549 * IRS' property and
equipment was likely materially understated due to a number of
deficiencies in its recording of property and equipment. IRS'
financial statements do not reflect the significant assets that
IRS has purchased as part of tax system modernization. For
example, we found that major capital expenditures relating to IRS'
mainframe consolidation and its new system to process tax returns
and remittances (receipts) were not included in IRS' property and
equipment account on its financial statements. Nearly 69 percent
of the gross property and equipment in IRS' detailed records is
not included in property and equipment on its financial statements
either because the items have an individual item value of less
than Treasury's $50,000 capitalization threshold and do not meet
the bulk purchase capitalization threshold or because the
individual component parts of major computer project purchases are
not aggregated. Additionally, IRS' detailed records do not
accurately keep track of additions and deletions of property and
equipment. IRS itself has reported every year since 1983, under
the Federal Managers' Financial Integrity Act,3 that because it
does not have a reliable system of accounting for property, it is
unable to determine if property is being properly used or
misappropriated. * IRS did not have adequate review procedures to
oversee and manage the accounting and financial reporting process.
We found significant errors and omissions in IRS' draft financial
statements involving millions of dollars and in some cases
hundreds of millions of dollars, which likely would have been
caught and corrected had these documents undergone appropriate
review by management. For example, initially the three major
budgetary accounts reflected negative available unobligated
balances totaling about $200 million. Based on our inquiry, IRS
performed additional analysis on these accounts and subsequently
revised them to show positive available unobligated balances
totaling about $50 million. IRS has acknowledged these weaknesses
and plans to improve its financial data for its administrative
accounts. Past attempts to implement corrective action plans for
these problems have not been effective. Although some areas, such
as fund balance with Treasury reconciliations, improved as noted
in our report on IRS' fiscal year 1996 financial statements, IRS
again experienced problems in these areas for fiscal year 1998. To
correct these weaknesses, sustained attention by senior IRS
management is necessary. 3The Federal Managers' Financial
Integrity Act requires agencies to annually report on their
material weaknesses. Page 3
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 Some of
these weaknesses can be addressed in the short-term by making
improvements in procedures and controls. For example, the fund
balance with Treasury reconciliation deficiencies can be addressed
by ensuring that the reconciliations are performed monthly. While
some needed improvements can be achieved in the short-term, we
recognize that for other weaknesses long-term systems
modernization will be needed. For example, in order to properly
account for and control its property and equipment, IRS will need
a fully integrated inventory and accounting system. Left
uncorrected, the internal control weaknesses identified will
continue to hinder IRS' ability to manage its financial operations
and routinely prepare reliable and timely financial information.
This report contains a number of recommendations related to these
weaknesses for which IRS has begun corrective action or has agreed
to take action. Background IRS is responsible for collecting
and accounting for federal tax revenue and refunding tax
overpayments. In fiscal year 1998, IRS collected almost $1.8
trillion in tax revenues, issued $151 billion in tax refunds, and
had net taxes receivable at year-end of $26 billion. IRS receives
the majority of its funding for its operations through annual,
multiyear, and no-year appropriations that are available for use
within statutory limits. These appropriations include (1)
processing, assistance, and management, (2) tax law enforcement,
and (3) information systems.4 As illustrated in figure 1, for
fiscal year 1998, IRS reported program expenses of $7.9 billion,
including $3.5 billion for tax law enforcement, $3.0 billion for
processing, assistance, and management, and $1.4 billion for
information systems. 4These are the main appropriations related to
IRS expenditures in fiscal year 1998. IRS also has other
appropriations, such as technology investment, but expenditures
related to these appropriations were not material in fiscal year
1998. Page 4 GAO/AIMD-99-
196 IRS Administrative Weaknesses B-282549 Figure 1: IRS' Fiscal
Year 1998 $7.9 Billion of Operating Expenses by Program (Dollars
in Billions) Source: Unaudited IRS data. Appendix I provides
details on our scope and methodology and appendix II includes IRS'
written comments on this report. Over the past 6 years, we have
issued various reports about weaknesses associated with IRS'
administrative operations. To help IRS correct weaknesses
associated with its administrative activities, we made numerous
recommendations in those reports. Many of these recommendations,
if effectively implemented, would help address the issues
identified in this report. Appendix III summarizes both the
previous years' open recommendations and the recommendations made
this year. In response to our financial statement audit report for
fiscal year 1998, IRS is developing a corrective action plan to
address the issues identified. We will evaluate the actions taken
as part of our fiscal year 1999 audit. Page 5
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 IRS Efforts
to During fiscal year 1998, IRS did not
reconcile its administrative fund Reconcile Its Fund
balance with Treasury accounts. IRS uses over 30 Treasury
accounts.5 Treasury policy and prudent financial management
practices require Balance With Treasury agencies to prepare
monthly reconciliations of fund balance with Treasury Were
Ineffective accounts to Treasury's records.
Reconciling these accounts involves identifying differences
between IRS and Treasury records, determining the reasons for the
differences, and correcting them if needed. Differences arise when
either IRS or Treasury incorrectly records or delays recording of
deposits to and disbursements from IRS appropriation accounts.
Correcting such differences should result in adjustments to either
Treasury's or IRS' records, or both. This process is similar to an
individual reconciling his or her checkbook to a monthly bank
statement and this reconciliation should occur monthly. Without
performing these reconciliations, IRS has no assurance that it is
properly controlling the funds appropriated to it and that amounts
are being properly recorded. IRS' inability to reconcile its fund
balance with Treasury has been reported as a problem area dating
back to 1992, the first year IRS' financial statements were
subject to audit. We have recommended that IRS perform prompt
reconciliations, including investigating and resolving the
reconciling items. As a result, IRS has implemented corrective
actions in the past. For example, during our fiscal year 1996
audit, IRS, with the help of a contractor, reconciled its fund
balance with Treasury accounts to Treasury's records within an
immaterial amount. However, we found that IRS' reconciliation of
its fund balance with Treasury accounts was not effective in
fiscal year 1998. In fiscal year 1998, IRS did not prepare monthly
reconciliations of its over 30 fund balances with Treasury
accounts. For fiscal year 1998, IRS officials said they relied on
a contractor to reconcile IRS' fund balance with Treasury
accounts. In January 1999, IRS' contractor provided what it
considered to be reconciliations of IRS' fund balance with
Treasury for the 12 months of fiscal year 1998. However, in
addition to these reconciliations not being performed promptly,
they were inadequate in that amounts on the reconciliations did
not agree with Treasury's and IRS' records, and reconciling items
listed were not investigated and resolved. For example, one
reconciliation indicated that the general ledger balance was over
5The accounts include individual accounts for fiscal years 1993
through 1998 for each of IRS' three major annual appropriations-
processing, assistance, and management; tax law enforcement; and
information systems-as well as accounts for its other
appropriations and suspense. Page 6
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 $3 billion,
but based on our review of IRS' general ledger, the balance was
$71 million. This reconciliation also reflected what appeared to
be over $30 million in reconciling items that were not
investigated or resolved. In another example, the reconciliation
showed the Treasury balance as $662 million while Treasury's
statement reflected a balance of $454 million. Significant
unreconciled amounts between Treasury's and IRS' records for fund
balance with Treasury call into question the accuracy of reported
amounts for operating expenses, assets, and liabilities. Also, the
lack of properly prepared reconciliations affects IRS' ability to
ensure that it complies with the law governing the use of its
budget authority since the unresolved differences could
significantly affect the status of budget authority available to
be obligated and expended. For the future, it will be important
for IRS to prepare these reconciliations monthly and promptly
resolve any differences. Absent properly prepared reconciliations
of fund balance with Treasury, this long-standing problem area for
IRS will continue to negatively affect IRS' ability to produce
reliable financial information and properly manage its
appropriated funds. Recommendation We recommend
that the Commissioner of Internal Revenue direct the Chief
Financial Officer to ensure that IRS promptly resolves differences
between IRS and Treasury records of IRS' appropriation account
balances and adjusts accounts accordingly. For example,
reconciliations should be performed promptly every month, with
Treasury and IRS amounts in agreement and reconciling items
properly resolved. IRS Did Not Promptly As was the case in
previous years, in fiscal year 1998, IRS did not promptly Record
Certain investigate and resolve amounts in its
administrative suspense account. To obtain assurance that funds
were actually used for the purpose Expenditures Against
appropriated and within prescribed dollar limits, agencies are
required to Appropriations promptly match
disbursements against applicable obligations. As of September 30,
1998, IRS' records showed that the suspense account had a net
outstanding balance of $141 million that had not been researched
and posted to the proper appropriation account, including some
items dating back to fiscal year 1989 appropriations. As shown in
table 1, according to IRS' records, the absolute value of items in
the suspense account related to fiscal years 1989 through 1998
totaled $238 million for government accounts and $170 million for
nongovernment accounts. Page 7
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 Table 1:
IRS' Suspense Account Components as of September 30, 1998 (Dollars
in Thousands) Government Nongovernment 1989
- $8 1990
-$41 801 1991
-7 -5,686 1992
177 3,627 1993
-26 4,044 1994
117 -6,439 1995
18,294 4,290 1996
43,556 -38,950 1997
-82,125 94,277 1998
93,734 11,566 Total absolute value
$238,077 $169,688 Total net value
$73,679 $67,538 Source: Unaudited IRS data. Until
IRS researches and resolves its suspense items, it will have
little assurance that the amounts recorded in this account are
proper IRS transactions and that its outstanding obligations and
disbursements records do not exceed appropriated amounts.
According to IRS officials, the majority of the dollar value of
the suspense account is related to transactions in which another
federal agency charges IRS for goods or services using Treasury's
electronic bill-paying system.6 Although we were not able to
obtain a detailed list of items in the suspense account as of
September 30, 1998, from IRS, we did see examples of suspense
transactions during our testing of nonpayroll operating expenses.
Reasons for placing items in suspense include not having received
a breakdown of charges from the billing agency, not having a
receipt and acceptance certification, and not having sufficient
funds obligated.7 The following are examples of items placed in
suspense that were reviewed in our testing of nonpayroll operating
expenses and are shown to illustrate suspense transactions. The
first two examples show the length of time it 6IRS officials
questioned the validity of the large dollar value of items
categorized as nongovernment and said there appeared to be a
coding error. 7If IRS receives an invoice for over 10 percent
above the obligated amount, the transaction will be posted to
suspense until additional funds are obligated. Page 8
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 can take
for items to be cleared from suspense, and the last two examples
show how items are placed in suspense due to insufficient
obligation of funds. * The General Services Administration (GSA)
charged IRS $8.7 million for rent on February 18, 1998, and IRS
did not clear the transaction out of suspense until May 1, 1998,
after it resolved questions related to the March 23, 1998, receipt
and acceptance certification. * On November 26, 1997, GSA charged
IRS about $1 million for payment of a leasehold improvement.
Because documentation of receipt and acceptance had not yet been
received by IRS, no expenditure was posted. Instead, the entire
amount was placed into suspense pending certification of receipt
and acceptance. Although the receipt and acceptance was documented
on March 5, 1998, the bill was not posted to expenses until June
4, 1998, over 6 months after the GSA charge and 2 months after
certification of receipt and acceptance. * In another case, GSA
charged IRS $9.2 million for telecommunications services on May
26, 1998. This $9.2 million was placed into suspense by IRS,
awaiting receipt and acceptance certification and obligation of an
additional $2 million. Receipt and acceptance was almost 2 months
later on July 16, 1998, and the charge was finally removed from
suspense on July 28, 1998, after a $2 million obligation
modification. * In another telecommunications transaction, GSA
charged IRS' Treasury account for $9 million on April 23, 1998.
However, the obligation for this expenditure was only $5 million.
On May 29, 1998, an additional $4 million was obligated, and on
June 2, 1998, the transaction was removed from the suspense
account. While IRS may have to place items in suspense while
awaiting supporting documentation or obligation of funds, it is
important that transactions be cleared from suspense as quickly as
possible and that the suspense account be cleared at the end of
the year. As shown above, some items in our sample of nonpayroll
expenses were in suspense for a number of months. Since IRS was
not able to give us a list of amounts in suspense as of September
30, 1998,8 we do not know how long the items had been in suspense
at that date and if there were old outstanding amounts.
Transactions where sufficient funds have not been obligated are of
8IRS relies on a contractor to extract information from its
accounting system. The contractor was still trying to prepare
lists of accounts payable and undelivered orders at the end of our
audit work and had not prepared a suspense list as of year-end.
Page 9 GAO/AIMD-99-196
IRS Administrative Weaknesses B-282549 particular concern because
until the funds are obligated, IRS does not have an accurate
picture of how it has used its budget authority. Also, to the
extent that there were outstanding amounts in suspense for which
obligations had not been recorded, obligations would be
understated. Until the transactions in IRS' suspense account are
posted to the proper appropriation account, the agency will have
little assurance that the amounts recorded in this account are
proper IRS transactions and that its disbursements do not exceed
appropriated amounts. In addition, IRS cannot report reliable
budget information until its suspense account is cleared.
Recommendation We recommend that the
Commissioner of Internal Revenue direct the Chief Financial
Officer to strengthen control over IRS' operating funds by
promptly investigating and clearing suspense account items. For
example, outstanding amounts in the suspense account should be
reviewed every month to try to resolve and clear outstanding
balances. IRS Does Not Have IRS does not have
detailed subsidiary records to support certain key Subsidiary
Ledgers to account balances, including accounts payable and
undelivered orders. As a result, for fiscal year 1998, as in past
audits, IRS' support for its accounts Routinely Track and
payable balance continued to be inadequate. In addition, IRS'
support for Monitor Its Liabilities its undelivered
orders9 balance was inadequate for fiscal year 1998. 10 and
Obligations According to Federal Financial
Management Systems Requirements, an agency's core financial
system should be supported by a general ledger account structure
that complies with the U.S. Government Standard General Ledger.11
To support the account balances in these Standard General Ledger
accounts, the general ledger should be supported by subsidiary
ledgers that routinely provide data supporting account balances,
9Undelivered orders represent the value of goods and services
ordered that have been obligated but that have not been received.
10These requirements are included in the Federal Financial
Management Improvement Act of 1996 and are detailed in the Federal
Financial Management Systems Requirements series issued by the
Joint Financial Management Improvement Program, Office of
Management and Budget (OMB) circular A-127, Financial Management
Systems, and OMB's September 9, 1997, guidance. 11The U.S.
Government Standard General Ledger establishes a standard chart of
accounts, including account titles, definitions, and uses. Its
primary purpose is to standardize federal agency accounting to
support the external reports and financial statements required by
OMB and Treasury, and to provide comparable information for
agencies. Page 10
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 such as
accounts payable and undelivered orders. These subsidiary ledgers
would list outstanding amounts by transaction/vendor in accounts
payable and undelivered orders and thus provide IRS with detailed
information on its outstanding obligations. Without such
information, IRS cannot routinely provide meaningful and reliable
financial information needed to effectively manage and report on
its operations. For accounts payable, IRS was only able to
generate a transaction history that included all transactions that
had been recorded in accounts payable since 1991, including
amounts that had since been paid and were therefore no longer
payable. As a result, IRS cannot readily determine what its
accounts payable balance consists of and what it owes money for.
Accounts payable was the combination of three general ledger
accounts. For the largest accounts payable account, which,
according to IRS totaled $338 million as of September 30, 1998, we
received a computerized list that netted to this amount. The
transaction history included numerous debit and credit entries of
over a billion dollars each (as shown in table 2). The entries
included amounts that had been established as accounts payable and
had subsequently been paid. When inputting transactions into its
accounting system, IRS does not include an indicator code that
would enable it to easily match offsetting entries in order to
produce a list of outstanding amounts. After much manipulation,
IRS provided a tape in which some of the related entries had been
removed from the detailed transaction history, but IRS was not
able to give us a list of outstanding accounts payable as of
September 30, 1998, that could be tested for validity and
completeness. Page 11 GAO/AIMD-99-196
IRS Administrative Weaknesses B-282549 Table 2: Information on
Data Tapes Provided by IRS (Dollars in Millions) Accounts
Debits Credits Net value-debit (credit) Accounts
payable Original $1,317
$1,655 ($338) Revised
314 658 (344)
Undelivered orders Original
$3,066 $4,049 ($983)
Revised 473
1,458 (985) Nonpayroll expenses
Original $2,211
$861 $1,350 Revised
1,677 327 1,350 Note:
Revised figures are the amounts of debits and credits after
offsetting entries that could be identified were eliminated. An
example of offsetting entries would be the entries related to
establishing an accounts payable and its subsequent disbursement.
Source: Unaudited IRS data. Similarly, IRS could not determine the
outstanding portion of amounts ordered from each of its vendors as
of September 30, 1998. IRS' financial system is unable to generate
a list of its outstanding obligations (i.e., undelivered orders).
For example, if IRS obligates funds for a leasehold improvement to
be performed by GSA, the undelivered order represents the value of
services not yet performed. As of September 30, 1998, IRS reported
undelivered orders, a key component of the obligations incurred
line item on the Statement of Budgetary Resources, at $985
million. This amount was reported based on a detailed transaction
history including initial obligations along with subsequent
liquidations. IRS initially provided us with a computerized list
of about $3 billion in debits and about $4 billion in credits to
support its $985 million in undelivered orders as of September 30,
1998. The entries included amounts that had been obligated and
subsequently liquidated. However, IRS does not include an
indicator code when inputting transactions into its accounting
system that would enable it to easily match offsetting
transactions. As shown in table 2, after much manipulation, IRS
was able to reduce the debit amounts, but IRS was not able to
provide a list of outstanding undelivered orders at year-end.
Knowing what the outstanding undelivered orders are, periodically
reviewing them for validity, and removing invalid amounts are
important in order for IRS managers to know exactly what is left
of their appropriated funds. Page 12
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 Nonpayroll
Operating As was the case with the accounts payable and
undelivered orders areas, Expenses we were also
unable to obtain a list of IRS' nonpayroll operating expenses for
fiscal year 1998. Instead, IRS provided us with the detailed
history for nonpayroll operating expenses, which included many
items that were not fiscal year 1998 expenses. The original tape
to support a reported $1.3 billion of expenses included $2.2
billion in debits and $861 million in credits. We were able to
identify and clear some offsetting entries but not all, as shown
in table 2. Many of the debits and credits were offsetting amounts
related to prior years' expenses. However, IRS did not have a data
field in its accounting system that would facilitate identifying
offsetting transactions. We took statistical samples to verify
IRS' fiscal year 1998 nonpayroll operating expenses and found
significant errors (76 of 208 transactions tested were classified
as errors). For example, we found (1) property and equipment
purchases and leasehold improvements that should have been
capitalized, (2) transactions that related to prior years, and (3)
credit entries related to prior years. As a result, we were unable
to conclude that IRS' nonpayroll operating expenses for fiscal
year 1998 were reliable. Since reliable expense data are the basis
for providing good cost information, these problems led us to
conclude that IRS is unable to provide reliable cost information
or cost-based performance measures. In addition, in our review of
expenses, we identified cases of questionable cost allocation. For
example, for fiscal year 1998, IRS used its appropriations
categories of processing, assistance, and management; tax
enforcement; and information systems to categorize costs on its
net cost statement. We found that almost all rent was charged to
the processing, assistance, and management category. From a
financial reporting perspective, rent should be allocated to the
various IRS cost categories that benefited from IRS office space.
In our March 1998 testimony12 on IRS' fiscal year 1999 budget
request, we stated that IRS included funding requests for similar
activities in its tax enforcement as well as its appropriations
request for processing, assistance, and management. For example,
IRS requested $891.6 million for the "Telephone and
Correspondence" budget activity within the processing, assistance,
and management appropriation in fiscal year 1999. That activity
covers all non-face-to-face contacts between IRS and taxpayers.
Such contacts include typical forms of assistance, such as
answering telephone 12Tax Administration: IRS' Fiscal Year 1999
Budget Request and Fiscal Year 1998 Filing Season (GAO/T-GGD/AIMD-
98-114, March 31, 1998). Page 13
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 calls and
correspondence, as well as several enforcement activities, such as
correspondence audits and attempts to collect overdue taxes over
the telephone. At the same time, however, IRS' tax law enforcement
request included an unspecified amount of money for various forms
of assistance, including walk-in service, taxpayer education
efforts, and problem resolution. Since IRS uses its appropriation
categories to categorize costs for its financial data and on its
Statement of Net Costs for its financial statements, this
categorization causes misclassification of costs on IRS' financial
statements and will affect the validity of cost-based performance
measurements. Recommendations To effectively manage and
report on key balances, we recommend that the Commissioner of
Internal Revenue direct the Chief Financial Officer to develop
subsidiary records for accounts payable and undelivered orders and
a list of current year nonpayroll operating expenses that will
provide reliable accounts payable, undelivered orders, and
nonpayroll operating expense data. This could include adding an
indicator code when inputting transactions into the accounting
system that will let IRS identify and eliminate offsetting
transactions. In the long-term, it could include enhancements to
IRS' financial systems to include the capability of routinely
generating subsidiary records of outstanding accounts payable and
undelivered order balances and a reliable list of current year
nonpayroll operating expenses. In addition, we recommend that the
Commissioner of Internal Revenue direct the Chief Financial
Officer to develop the data to support meaningful cost information
categories and cost-based performance measures. IRS Does Not
IRS has historically been unable to reliably account for and
control its Adequately Account property and equipment (P&E).
Federal property management regulations specify that each agency
shall establish and maintain control of personal for and Control
Its property inventories to avoid fraud, waste, and abuse.
However, IRS has Property and itself reported
deficiencies in its property management controls since 1983.
Equipment In its fiscal year 1998 Federal Managers'
Financial Integrity Act (FMFIA) report, IRS reported that it has
material weaknesses in property management procedures and controls
over the use and accountability of capitalized property. IRS also
reported that without a reliable system of accounting for
property, it is unable to determine if property is being properly
used or misappropriated. We found that Page 14
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 * IRS
materially understated the amount of P&E in its financial
statements as of September 30, 1998, and * IRS does not have
sufficient control over its P&E due to inaccurate detailed
records. In addition, IRS' P&E detailed records are not integrated
with its accounting system, and there were amounts in detailed
records substantially different from amounts recorded in IRS'
accounting records. IRS' Property and IRS does not
have adequate policies and procedures in place to ensure that
Equipment Is Significantly all P&E purchases are identified
and capitalized at the appropriate cost in Understated
accordance with federal accounting standards13 and IRS does not
review its leases to determine if they meet the criteria for
capitalization of leases. According to SFFAS No. 6, agencies
should record as P&E all items that meet certain characteristics,
such as a useful life of 2 years or more. All costs incurred to
bring P&E to a form and location suitable for its intended use
should be capitalized and included in the cost of the item,
including the design and installation costs and the costs of
externally developed software. As of September 30, 1998, IRS
reported $164 million, net, of P&E on its financial statements.
However, based on our review of detailed records, financial
information related to IRS' computer projects, equipment
expenditures, and lease agreements, IRS appears to be materially
understating its P&E balance. IRS has expended significant amounts
for computer-related projects, such as its new system to process
tax returns and remittances (receipts)14 and service center
mainframe consolidation. According to IRS' records, a significant
portion of over $100 million in expenditures associated with these
two major computer projects in fiscal year 1998 were costs
incurred in acquiring computer hardware and software and preparing
it for use. Information obtained from both the information systems
office and from IRS' expense data in its accounting records showed
that in fiscal year 1998 IRS spent over $100 million for these two
systems. However, IRS showed P&E additions of only about $30
million for all equipment purchases for fiscal year 1998 and,
therefore, most of the over $100 million spent for the 13Statement
of Federal Financial Accounting Standards (SFFAS) No. 6,
Accounting for Property, Plant, and Equipment (effective beginning
with fiscal year 1998). 14This system is called the Integrated
Submission and Remittance Processing System (ISRP) and processes
tax returns and tax receipts received directly from taxpayers.
Page 15 GAO/AIMD-99-196 IRS
Administrative Weaknesses B-282549 service center mainframe
consolidation and new system to process tax returns and
remittances was inappropriately expensed. IRS' use of Treasury's
$50,000 minimum capitalization threshold for individual items and
a $500,000 threshold for bulk purchases of items costing more than
$5,000 each15 also contributed to IRS' understatement of P&E.
Federal accounting standards allow each agency to establish its
own threshold and guidance on applying the threshold to bulk
purchases. However, agencies should not expense material purchases
that have characteristics requiring capitalization, such as a
useful life of 2 years or more. During our testing, we identified
significant purchases meeting SFFAS No. 6 requirements for
capitalization as P&E being charged to nonpayroll operating
expenses. In our expense sample, we noted a payment of about
$300,000 for 10 tape units costing about $30,000 each and a
$100,000 payment for 80 personal computers costing about $1,300
each. These items were not capitalized because the expenditure did
not meet the $50,000 individual capitalization threshold or the
$500,000 threshold for bulk purchases. Also, our testing of
nonpayroll operating expenses included a $1.3 million payment
related to the purchase of numerous computer workstations for the
mainframe consolidation project. However, none of the individual
pieces of equipment listed on the invoice exceeded $5,000 and thus
this large (bulk) purchase of P&E was expensed. The $50,000
individual item threshold and bulk purchase threshold far exceed
the cost of most of IRS' P&E items and result in a material
distortion of IRS' reported P&E in its financial statements. For
example, IRS reported equipment-related expenses of $339 million16
in its fiscal year 1998 financial statements. For fiscal year
1997, only $46 million in equipment-related purchases was
capitalized as P&E, while $305 million in equipment purchases was
expensed. As illustrated in figure 2, we found that $1.2 billion
(69 percent) of IRS' gross P&E reported in its detailed records as
of September 30, 1998, was 15A bulk purchase of general property,
plant, and equipment is the single purchase of like items in a lot
(i.e., the items have the same basic utility and are composed of
similar parts-furniture, automated data processing (ADP) hardware,
etc.). 16Equipment expenses reported on the financial statements
for fiscal year 1998 were $339 million, which included $100
million in depreciation and amortization expense. Equipment
expenses reported on the financial statements for fiscal year 1997
included $99 million in depreciation and amortization expense.
Page 16 GAO/AIMD-99-196
IRS Administrative Weaknesses B-282549 not included in P&E in the
financial statements either because the items have an individual
item value of less than the $50,000 capitalization threshold and
do not meet the bulk purchase capitalization threshold or because
the individual component parts of major computer project purchases
are not aggregated. Figure 2: IRS' September 30, 1998, P&E
Detailed Records by Individual Item Dollar Amount (Gross Amounts)
Source: Unaudited IRS data. This analysis also reflected that
about 46 percent of P&E reported in IRS' detailed records was in
the $0 to $5,000 range, most of which was likely purchased in
bulk. Since IRS specifies that individual items must cost at least
$5,000 each to be subject to the bulk purchase threshold, 46
percent of IRS' P&E was automatically expensed. Inappropriate
capitalization levels resulted in understatement of P&E on IRS'
September 30, 1998, balance sheet and overstatement of nonpayroll
operating expenses. Such practices distort the net cost of
operations and understate assets. Page 17
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 We also
analyzed IRS' purchases of P&E for the last 5 fiscal years17 as
shown in IRS' detailed records to determine the effect of IRS'
$50,000 capitalization threshold. As shown in table 3, over the
last 5 fiscal years only 33 percent of the P&E recorded in IRS'
detailed records had a purchase price of over $50,000. Table 3:
IRS' P&E Purchases for Fiscal Years 1994-1998 (Dollars in
Millions) P&E additions P&E additions per over $50,000 per
Percent of additions Fiscal year detailed
records detailed records over $50,000 1994
$207 $81 39 1995
232 76 33 1996
216 81 38 1997
150 46 31 1998
138 28 20 Total
$943 $312 33 Note:
IRS capitalizes P&E with an acquisition amount or price equal to
or above $50,000. According to our and IRS reports, IRS' detailed
records are incomplete. Source: Unaudited IRS data. In addition,
IRS did not capitalize any lease agreements in fiscal year 1998.
Based on our review of IRS' detailed records, some lease
agreements appear to meet the criteria in SFFAS No. 6 for
capitalization. For example, in our review of mainframe
consolidation costs, we identified $63.5 million that was budgeted
for fiscal year 1998 that was for computer equipment and software
with a 3-year lease to purchase. This would appear to meet the
criteria for capitalization. IRS officials told us that IRS did
not evaluate leases to determine whether any leases met the P&E
capitalization criteria. IRS will be incurring major expenditures
to modernize its tax systems and it will be important for IRS to
properly account for these expenditures as they are made. In
December 1998, IRS awarded its prime contract for tax systems
modernization. IRS is partnering with the private sector to make
technology investments in its primary business lines: customer
service, compliance, electronic commerce, submission processing,
corporate systems, and financial reporting. As these investments
are made, SFFAS 17IRS depreciates a majority of its P&E over a
maximum of 5 years. Therefore, all P&E over 5 years old would have
a zero net value on the financial statements. Page 18
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 No. 6 calls
for capitalizing the cost of externally developed computer
systems, including software. Unless IRS changes its practices,
most of these capital costs will not be captured as IRS' P&E given
IRS' capitalization threshold and recognition practices. Thus,
IRS' financial statements will not reflect the significant assets
that IRS has purchased as part of tax system modernization.
Controls Over Inventory As previously reported by us,18 IRS
internal auditors, and IRS itself, IRS' Records are Weak
controls over its detailed records are not adequate to ensure that
these records provide a reliable record of P&E assets. For
example, we found that IRS did not accurately keep track of
additions and deletions of P&E in fiscal year 1998. In addition,
our work and that of IRS' internal auditors raised questions about
the accuracy of property valuation in IRS' detailed records. IRS
relies entirely on its detailed records and an annual analysis of
leasehold improvements to determine its amount of P&E. IRS
maintains its detailed records in the Integrated Network and
Operations Management System (INOMS) for computer-related P&E and
the Property Asset Tracking System (PATS) for noncomputer-related
P&E. Although IRS uses a $50,000 threshold for financial
reporting, IRS' offices track P&E in detailed records using a much
lower dollar threshold. IRS has several requirements for how
physical inventories of property should be performed. For example,
IRS' ADP Property Management Procedural Guide calls for conducting
physical inventories annually. IRS' fiscal year 1998 procedures
governing non-ADP P&E require that a physical inventory to verify
the existence and accuracy of property be taken at regular
intervals, but in no case should the interval exceed 3 years. IRS
has established procedures whereby each year, one-third of the
non-ADP property should be inventoried in order to complete a 100-
percent inventory every 3 years. IRS' internal audit reported that
these procedures are not always being followed and, as discussed
below, IRS' detailed records are inaccurate. During our audit of
IRS' fiscal year 1998 financial statements, we tested the
reliability of IRS' detailed records by physically verifying the
existence of 18Financial Audit: Examination of IRS' Fiscal Year
1996 Administrative Financial Statements (GAO/AIMD-97-89, August
29, 1997). Page 19 GAO/AIMD-
99-196 IRS Administrative Weaknesses B-282549 selected property
items. These limited tests, as well as IRS internal audit reports
and the results of IRS' own inventories, showed that IRS' detailed
records were substantially in error. Many of the equipment items
on-hand were not included in the detailed records, items that were
no longer in IRS' possession had not been removed from the
records, and information on other items included in the records
were inaccurate, as the following examples illustrate. * We found
that 10 of 141 items (7 percent) we selected from the floor of
IRS' field offices were not included in IRS' detailed records,
including items such as a front-end loader, electric pallet
jacket, television, facsimile machine, and a video cassette
recorder. * IRS was unable to locate 10 of the 153 (7 percent)
items we selected for review from IRS' detailed records, including
items such as a 1993 Chevrolet Blazer motor vehicle, a laptop
computer, a workstation, a microcomputer, and a laser printer
which, according to IRS' records, cost over $300,000. After
performing additional follow-up, IRS was able to determine that
the Chevrolet Blazer was leased from GSA in May 1993, and
subsequently returned in July 1998 at the expiration of the lease
agreement. However, IRS had not updated its property records to
show that it no longer had the Blazer. * IRS assigned costs
ranging from $300,000 to $1,000,000 to substantially identical
mail sorting machines. * For 15 of 294 items, IRS' detailed
records contained inaccurate data related to barcodes, serial
numbers, manufacturer, and model numbers. At one office in which
we observed IRS staff conducting physical inventories where they
attempted to trace from IRS' detailed records to the floor, IRS
staff were unable to locate 19 of 130 computer equipment assets
(15 percent), which cost over $50,000 each. In addition, 20 of 443
items (5 percent) that they attempted to trace from the floor were
not included in IRS' detailed records. At a different office, we
found that 11 of 12 items (92 percent) over $50,000 had been
disposed of but had not been removed from the detailed records.
IRS' internal auditors have reported significant weaknesses in
IRS' control over its P&E as illustrated in the following
examples. Page 20 GAO/AIMD-99-196 IRS
Administrative Weaknesses B-282549 * In February 1999,19 the
Office of Treasury Inspector General for Tax Administration
reported that a significant amount of telecommunications equipment
sampled from the floor of IRS sites could not be located on the
corresponding detailed records. At the Tennessee Computing Center,
only 4 of 27 telecommunications equipment items identified as
physically existing were actually recorded by IRS in INOMS. At the
Cleveland Customer Service site, only 6 of 55 items were
appropriately recorded in IRS' detailed records. * In April
1998,20 IRS' Internal Audit reported that P&E inventory procedures
for computer equipment and software were not effective for
maintaining an accurate inventory or consistently followed by all
districts in the Northeast Region. For example, an inventory
that was to be performed for all computer hardware and certain
related software was not carried out by all districts in the
region as some districts were unaware of the requirement. Also, a
procedure to update the property system to reflect the relocation
of computer equipment was flawed, resulting in the potential for
an inaccurate inventory. The accuracy of IRS' detailed records is
especially important because IRS uses these records to determine
the amount to record as P&E on its financial statements. This is
because IRS inappropriately expenses all P&E purchases and then
once a year computes its ending P&E balance based on its detailed
records. The detailed records are maintained by IRS' field
offices, which record individual property acquisitions and
dispositions in the detailed records throughout the year. Since
IRS' detailed records are not integrated with its general ledger
accounting system, IRS is compelled to manually adjust the general
ledger P&E account to force it to agree to its detailed records.
To determine the amount of P&E to record on its financial
statements, IRS summarizes information from its detailed records
on assets with individual item dollar values of $50,000 or more.
IRS then adjusts P&E and nonpayroll operating expenses in its
accounting records. In making these adjustments, IRS attempts to
eliminate from its expenses the P&E additions for the fiscal year.
However, no analysis is done to ensure that the detailed records
are complete and agree with the dollar amounts in the accounting
records. As shown in table 4, the amount of P&E 19Review of the
Internal Revenue Service's Year 2000 Efforts to Inventory
Telecommunications and Commercial Off-the-Shelf Products (Office
of Treasury Inspector General for Tax Administration Audit Report
No. 092402, February 10, 1999). 20Review of INOMS Controls for the
Century 2000 Initiative in the Northeast Region (IRS Internal
Audit Report No. 681803, April 24, 1998). Page 21
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 acquired
each year according to the detailed records has been much less
than the amount shown under equipment-related purchases in IRS'
financial statements. Table 4: Differences in Accounting and
Detailed Records for P&E Expensed for Fiscal Years 1996-1998
(Dollars in Millions) P&E expensed per P&E expensed per
Difference in accounting Fiscal year accounting records
detailed records and detailed records 1996
$311 $216
$95 1997 305
104 201 1998
339 111 228
Total $955 $431
$524 Note: IRS expensed P&E with an acquisition amount or price
below $50,000 for fiscal years 1997 and 1998. Depreciation and
amortization expenses of $99 million (fiscal year 1997) and $100
million (fiscal year 1998) were not deducted from the reported
equipment expense amounts of $305 million (for fiscal year 1997)
and $339 million (for fiscal year 1998), because we could not
break out amortization from depreciation expense. According to our
and IRS reports, IRS' detailed P&E records are incomplete. Source:
Unaudited IRS data. Recommendations We recommend that IRS
develop and implement procedures and controls to ensure that
detailed P&E records are accurately maintained. These procedures
and controls would include ensuring that physical inventories at
field locations are effectively performed, including prompt
resolution of discrepancies found in the inventories and
appropriate adjustment of detailed records. Because of
inaccuracies in existing detailed P&E records and in order to
provide an accurate starting point, we recommend that the
Commissioner of Internal Revenue consider directing that a
physical inventory of P&E be performed with adjustments being made
to IRS' detailed records accordingly. To ensure that such efforts
are not wasted, IRS first needs to establish and implement
effective procedures to ensure that the accuracy of detailed P&E
records, once corrected, is maintained. In conjunction with or
shortly after a physical inventory, we recommend that the
Commissioner of Internal Revenue direct that a systematic
validation of the P&E amounts (valuation) for items in IRS'
detailed records be performed. Page 22
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 To address
the likely understatement of reported P&E and improve the accuracy
of information contained in the P&E records, we recommend that the
Commissioner of Internal Revenue direct the Chief Financial
Officer to * develop a means to capture and capitalize all costs
incurred to bring P&E to a form and location suitable for its
intended use in accordance with SFFAS No. 6, including the design
and installation costs and the costs of externally developed
software, * revise the current capitalization policy to ensure
that material P&E acquisitions are not expensed, and * review all
lease agreements to determine whether they meet the criteria for
capital leases and capitalize and properly record any leases that
meet the criteria. In the long-term, to address the system
deficiencies affecting IRS' ability to effectively manage and
report on its P&E balances, we recommend that the Commissioner of
Internal Revenue direct that enhancements be made to IRS'
financial systems to include recording P&E and capital leases as
assets when purchased and to generate detailed records for P&E
that reconcile to the financial records. Financial Reporting
We found that IRS' general ledger for administrative activities
cannot Process Is Inadequate routinely generate reliable and
prompt financial information. IRS' basic approach to preparing its
financial statements was designed specifically for the narrowly
defined purpose of preparing auditable amounts and balances only
at fiscal year-end. Also, one of the significant challenges facing
IRS involves establishing a financial management team with
sufficient expertise to ensure that reliable financial information
is produced. In order to improve financial management, it will
take both a sustained commitment by top management and a sound
support team. IRS relies on various costly and time-consuming ad
hoc procedures and adjustments to prepare its financial statements
at year-end. These include adjustments for P&E and leasehold
improvements and numerous other adjustments made at year-end.
Therefore, information to measure results is not available
throughout the year as a management tool to aid managers in
fulfilling their responsibilities for evaluating performance. For
fiscal year 1998, adequate supervision of the financial reporting
process did not occur. Key financial management positions went
unfilled and review of financial and accounting entries was
lacking or ineffective. Page 23
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 For the
preparation of IRS' fiscal year 1998 financial statements, there
was heavy reliance on contractor support to provide the supporting
data for the financial statements without necessary supervision
and involvement by IRS personnel. The Comptroller General's
standards for internal controls21 require supervisors to
continuously review and approve the assigned work of their staffs.
However, this did not occur at IRS for fiscal year 1998. These
deficiencies contributed to IRS' inability to adequately support
most of its administrative accounts for its financial statements
leading to disclaimers of opinions for four financial statements
and a qualified opinion on its balance sheet. Several of the
deficiencies noted in this report resulted from inadequate
supervision over the accounting and financial reporting functions,
as the following examples illustrate. * As discussed above,
reconciliations of fund balance with Treasury were not prompt or
successful for fiscal year 1998. The schedules provided to us,
which were purported to be reconciliations, came directly from
IRS' contractors with no IRS review. Consequently, we believe that
IRS did not provide adequate oversight of the contractors to
ensure that the reconciliations were properly and promptly
performed. * Key personnel with responsibilities for financial
systems and reporting on IRS' administrative activities had left
IRS by July 1998 and had not been replaced by year-end. For
example, the Financial Applications Support & Technology and
Financial Systems section chiefs left IRS and were not replaced by
February 1999. Also, the head of the Accounting Standards &
Evaluation Division transferred to a field office in fiscal year
1998. Consequently, IRS was compelled to prepare its financial
statements without managers to properly oversee and review them,
as well as perform supervisory review on post-closing adjusting
and reclassification entries. * Due to the implementation of new
federal accounting and reporting requirements, IRS prepared four
new financial statements, including the Statements of Budgetary
Resources and Financing. The accountant responsible for preparing
these budgetary statements had written guidance issued only by
Treasury and OMB to assist in preparing the statements. There was
little to no supervisory input provided to the accountant
preparing the statements nor did the statements undergo a detailed
review prior to being issued in draft. Consequently, throughout
our review of the draft statements, we found numerous errors and
omissions, which should have been caught and corrected had these
21Standards for Internal Controls in the Federal Government, U.S.
General Accounting Office, 1983. Page 24
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 statements
been appropriately reviewed by management. For example, in several
drafts of IRS' financial statements, the three major budgetary
accounts reflected negative available unobligated balances
totaling about $200 million. A negative balance could indicate the
possibility of an Anti-Deficiency Act violation. IRS officials
told us that IRS did not violate the Anti-Deficiency Act and had
it performed a more comprehensive review, it would have corrected
this error prior to providing us its draft financial statements.
Based on our inquiry, IRS performed additional analysis on these
accounts and subsequently revised its balances to show available
unobligated balances totaling about $50 million.22 Even after
these adjustments, we were unable to determine if the revised
balances in these accounts were reliable. Table 5 shows the draft
and final numbers for unobligated balances available as of
September 30, 1998. Table 5: Unobligated Balances Available as of
September 30, 1998 (Dollars in Millions) December 15, 1998 draft
Final financial Appropriation of
financial statements statements Processing,
assistance, and management
-$23 $8 Tax law enforcement
-22 4 Information systems
-148 34 Other
311 318 Total
$118 $364 Note: IRS received an
appropriation of $295 million for information technology
investments. However, these funds were not available for
obligation until September 1, 1998, and were not obligated as of
September 30, 1998. Source: Unaudited IRS data. * During fiscal
year 1998, a large number of post-closing adjusting and
reclassification entries were made to correct erroneous entries
and balances in the accounting records. For example, we questioned
the reasonableness of the downward adjustment account and upward
adjustment account of prior year undelivered orders, which were
each larger than the beginning balance of undelivered orders of
$668 million. 22Note that we did not give an opinion on IRS'
Statement of Budgetary Resources or test compliance with the Anti-
Deficiency Act due to limitations on the scope of our work. Page
25 GAO/AIMD-99-196 IRS
Administrative Weaknesses B-282549 Based on our inquiry, IRS
identified about $580 million worth of transactions that were
inappropriately included in each of these adjustment accounts, as
shown in table 6. Table 6: Upward and Downward Adjustments of
Undelivered Orders (Dollars in Millions) Upward adjustments
Downward adjustments Original balance
-$683 $727 Per IRS, transactions
inappropriately 581 -577
included Revised balance
-$102 $150 Source: Unaudited IRS data. IRS
subsequently reduced each of these adjustment accounts by about
$580 million. Since these accounts are included in five separate
line items in the Statement of Budgetary Resources, these errors
would have significantly understated some line items while
overstating others, resulting in a material distortion of the
financial statement. Even after these adjustments, however, we
were unable to determine if the revised balances in these accounts
were reliable because we were not able to obtain a list of
outstanding undelivered orders at the beginning or end of the
year. Recommendations IRS can improve its financial reporting
process by ensuring that appropriate supervisory and management
review of its financial statements and operations occurs. We
recommend that the Commissioner of Internal Revenue direct that
additional knowledgeable staff are employed or that existing staff
are appropriately cross-trained to be able to develop IRS'
financial statements and perform its accounting and financial
functions or are able to perform the necessary supervision needed
to obtain reliable and supportable financial data on time. Also,
to address IRS' deficiencies in its accounting and financial
reporting processes, we recommend that the Commissioner of
Internal Revenue direct the Chief Financial Officer to establish
procedures for the financial statements to undergo review at the
appropriate levels within the Chief Financial Officer's office,
with documented evidence of the reviews. Page 26
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 Agency
Comments and IRS said it agreed for the most part with the
conclusions in this report. IRS Our Evaluation
said it has already begun implementing many actions to improve its
administrative financial operations. For example, IRS said that
subsequent to the completion of the fiscal year 1998 financial
statement audit, IRS put in place an entirely new management team
on the administrative accounting side. IRS noted, however, that
several of the issues raised in this report will require fixing
and/or replacing the current accounting system as well as
integration with the other administrative systems (e.g.
procurement, property, and personnel) and cannot be fixed in the
short-term. We are pleased to see that IRS has begun taking
positive steps towards addressing the recommendations in this
report in order to improve its administrative accounting such as
hiring needed supervisory personnel. However, it will take
sustained senior management attention to resolve IRS' weaknesses
in its administrative accounting area. This report contains
recommendations to you. The head of a federal agency is required
by 31 U.S.C. 720 to submit a written statement on actions taken on
these recommendations. You should send your statements to the
Senate Committee on Governmental Affairs and the House Committee
on Governmental Reform and Oversight within 60 days after the date
of this report. A written statement also must be sent to the House
and Senate Committees on Appropriations with the agency's first
request for appropriations made more than 60 days after the date
of this report. We are sending copies of this report to Senator
Ted Stevens, Senator Robert Byrd, Senator Ben Nighthorse Campbell,
Senator Byron Dorgan, Senator William Roth, Senator Daniel P.
Moynihan, Senator Orrin Hatch, Senator Max Baucus, Senator Fred
Thompson, Senator Joseph Lieberman, Senator Pete Domenici, Senator
Frank Lautenberg, Representative Bill Young, Representative David
Obey, Representative Jim Kolbe, Representative Steny Hoyer,
Representative Bill Archer, Representative Charles Rangel,
Representative Dan Burton, Representative Henry Waxman,
Representative Stephen Horn, Representative Jim Turner,
Representative John Kasich and Representative John Spratt in their
capacities as Chair or Ranking Minority Member of Senate and House
Committees and Subcommittees. We are also sending copies to the
Honorable Lawrence H. Summers, Secretary, Department of Treasury;
the Honorable Jacob J. Lew, Page 27
GAO/AIMD-99-196 IRS Administrative Weaknesses B-282549 Director,
Office of Management and Budget, and other interested parties.
Copies will be made available to others upon request. Please
contact me at (202) 512-3406 or Joan Hawkins at (202) 512-8433 if
you have any questions concerning this report. Other key
contributors to this report are listed in appendix IV. Sincerely
yours, Gregory D. Kutz Associate Director Governmentwide
Accounting and Financial Management Issues Page 28
GAO/AIMD-99-196 IRS Administrative Weaknesses Page 29 GAO/AIMD-
99-196 IRS Administrative Weaknesses Contents Letter
1 Appendix I
32 Scope and Methodology Appendix II
33 Comments From the Internal Revenue Service Appendix III
35 Status of GAO Recommendations on IRS Administrative Activities
Appendix IV
39 GAO Contacts and Staff Acknowledgments Related GAO Products
40 Page 30 GAO/AIMD-99-196 IRS Administrative Weaknesses
Contents Tables Table 1: IRS' Suspense Account Components as
of September 30, 1998 (Dollars in Thousands)
8 Table 2: Information on Data Tapes Provided by IRS (Dollars in
Millions)
12 Table 3: IRS' P&E Purchases for Fiscal Years 1994-1998 (Dollars
in Millions)
18 Table 4: Differences in Accounting and Detailed Records for P&E
Expensed for Fiscal Years 1996-1998 (Dollars in Millions)
22 Table 5: Unobligated Balances Available as of September 30,
1998 (Dollars in Millions)
25 Table 6: Upward and Downward Adjustments of Undelivered Orders
(Dollars in Millions)
26 Table III.1: Status of Open GAO Recommendations on IRS
Administrative Activities
35 Figures Figure 1: IRS' Fiscal Year 1998 $7.9 Billion of
Operating Expenses by Program (Dollars in Billions)
5 Figure 2: IRS' September 30, 1998, P&E Detailed Records by
Individual Item Dollar Amount (Gross Amounts)
17 Abbreviations ADP automated data processing FMFIA
Federal Managers' Financial Integrity Act GSA General
Services Administration INOMS Integrated Network and
Operations Management System IRS Internal Revenue Service
OMB Office of Management and Budget P&E property
and equipment Page 31 GAO/AIMD-99-196
IRS Administrative Weaknesses Appendix I Scope and Methodology
Appendix I As part of our audit of IRS' fiscal year 1998 financial
statements, we conducted an evaluation of IRS' internal controls.
We designed our audit procedures to test relevant controls and
included tests for proper authorization, execution, accounting,
and reporting of transactions. Some of the key procedures we
performed included the following. * We selected a statistical
sample of nonpayroll operating expense transactions and traced
sample information to supporting documentation, such as invoices,
receiving reports, and obligating documents, and reconciled total
expense transaction data to the general ledger and the financial
statements. * We selected a statistical sample of payroll
operating expense transactions and traced sample information to
supporting documentation, such as time and attendance records and
personnel folders, conducted analytical procedures on year-end
payroll expenses, and obtained documentation to support IRS
personnel liabilities from other federal agencies, such as the
Department of Labor. * We conducted site visits to confirm the
physical existence of a nonrepresentative selection of property
and equipment at several IRS service centers and other IRS
locations. We also selected items at these locations and traced
them to IRS' records to ensure completeness. * We observed
selected property and equipment inventories taken by IRS. * We
reviewed IRS' contractor-provided reconciliations of the fund
balance with Treasury. To assess the reliability of budget
information presented in IRS' financial statements, we planned to
use a combination of detail testing, analytical procedures, and
where applicable, rely on our work performed in the property and
equipment, accounts payable, and operating expenses areas.
However, IRS was unable to provide us with the necessary data from
which to select our samples due to IRS' lack of subsidiary
ledgers, and thus we were unable to perform the detail tests.
Also, due to deficiencies identified in our work in a number of
areas such as P&E, accounts payable, and nonpayroll operating
expenses, we were unable to determine whether the corresponding
budgetary balances were materially correct. We performed our work
from July 1998 through March 1999 in accordance with generally
accepted government auditing standards and OMB Bulletin 98-08.
Page 32 GAO/AIMD-99-196 IRS
Administrative Weakness Appendix II Comments From the Internal
Revenue ServiceAppendix II Page 33 GAO/AIMD-99-196 IRS
Administrative Weaknesses Appendix II Comments From the Internal
Revenue Service Page 34 GAO/AIMD-
99-196 IRS Administrative Weaknesses Appendix III Status of GAO
Recommendations on IRS Administrative Activities
Appendix II I As a result of our financial audits of IRS from
fiscal years 1992 through 1996, we made a total of 29
recommendations for improving IRS' administrative accounting and
internal controls. Action was completed on 15 of these
recommendations as of the end of the fiscal year 1996
administrative financial statement audit, and thus these
recommendations were closed. In fiscal year 1997, IRS'
administrative activities were audited by the Department of the
Treasury Office of Inspector General.1 The following table shows
the updated status of the 14 prior administrative accounting and
internal control recommendations that were still open at the
completion of the fiscal year 1996 audit, numbered 1-14 in the
table. We also have added new recommendations we are making in
this report as a result of our fiscal year 1998 audit. They are
numbered 15-27 in the following table. Table III.1: Status of
Open GAO Recommendations on IRS Administrative Activities Report
Administrative recommendations
Description of recommendations Financial Management: IRS Lacks
Accountability Over Its ADP Resources (GAO/AIMD-93-24, August 5,
1993) 1. Develop and implement standard operating procedures that
We are closing this recommendation and incorporate controls to
ensure that detailed records are accurately
replacing it with recommendations 19, 20, maintained. Such
controls should include (1) establishing specific
21, and 25 to highlight the need for action. procedures to ensure
the prompt and accurate recording of acquisitions and disposals in
IRS' ADP fixed asset system, including guidance addressing the
valuation of previously leased assets, (2) reconciling accounting
and detailed records monthly as an interim measure until the
successful integration of inventory and accounting systems is
completed as planned, and (3) implementing mechanisms for ensuring
that annual physical inventories at field locations are
effectively performed, that discrepancies are properly resolved,
and that detailed records are appropriately adjusted. 2. Oversee
efforts for ensuring that P&E inventory data, including
Open. telecommunications and electronic filing equipment, are
complete and accurate. 3. Determine what information related to
ADP resources, such as Open. equipment
condition and remaining useful life, would be most useful to IRS
managers for financial management purposes and develop a means for
accounting for these data. 1See Internal Revenue Service
Accountability Report Fiscal Year 1997, Department of the Treasury
(March 1998). Page 35
GAO/AIMD-99-196 IRS Administrative Weaknesses Appendix III Status
of GAO Recommendations on IRS Administrative Activities Report
Administrative recommendations
Description of recommendations 4. Develop an interim means to
capture relevant costs related to in-house Open. Beginning with
fiscal year 2001, software development.
agencies will be required to implement the provisions of SFFAS
No.10, Accounting for Internal Use Software. Financial Management:
IRS Does Not Adequately Manage Its Operating Funds (GAO/AIMD-94-
33, February 9, 1994) 5. Promptly resolve differences between IRS
and Treasury records of We are closing this
recommendation and IRS' cash balances and adjust accounts
accordingly. replacing it with
recommendation 15 to highlight the need for action. 6. Promptly
investigate and record suspense account items to
We are closing this recommendation and appropriate accounts.
replacing it with recommendation 16 to highlight the need for
action. 7. Perform periodic reviews of obligations, adjusting the
records for Open. IRS informed us that it has taken
obligations to amounts expected to be paid and removing expired
corrective action to address this appropriation balances from IRS
records as stipulated by the National recommendation.
We will evaluate the Defense Authorization Act for Fiscal Year
1991. actions taken as part of
our fiscal year 1999 audit. 8. Revise procedures to incorporate
the requirements that accurate Open. IRS informed us
that it has taken receipt and acceptance data on invoiced items be
obtained prior to corrective action to address this
payment and that supervisors ensure that these procedures are
carried recommendation. We will evaluate the out.
actions taken as part of our fiscal year 1999 audit. 9. Revise
document control procedures to require IRS units that actually
Open. IRS informed us that it has taken receive goods or services
to promptly forward receiving reports to corrective
action to address this payment offices so that payments can be
promptly processed. recommendation. We will
evaluate the actions taken as part of our fiscal year 1999 audit.
10. Use the Automated Financial System's enhanced cost
accumulation Open. capabilities to monitor and report costs by
project in all appropriations. 11. Require payment and
procurement personnel, until the integration of No action
planned. In fiscal year 1996, IRS the Automated Financial System
and the procurement system is officials stated
that IRS did not plan to completed as planned, to periodically
(monthly or quarterly) reconcile manually reconcile its
existing procurement payment information maintained in the
Automated Financial System to and payment systems as
an interim amounts in the procurement records and promptly resolve
any measure since they expected to integrate
discrepancies.
the procurement system with the Automated Financial System. These
officials believed that this new system would ensure that payment
amounts recorded in the procurement and accounting systems are
equal. During our fiscal year 1999 audit, we will determine if the
issue has been adequately addressed. Financial Audit: Examination
of IRS' Fiscal Year 1993 Financial Statements (GAO/AIMD-94-120,
June 15, 1994) 12. Establish a method to continuously monitor and
correct actions to Open. ensure that progress is
achieved. 13. Develop reliable detailed information supporting
reported accounts We are closing this recommendation and
payable balances.
replacing it with recommendation 17 to highlight the need for
action. Page 36 GAO/AIMD-
99-196 IRS Administrative Weaknesses Appendix III Status of GAO
Recommendations on IRS Administrative Activities Report
Administrative recommendations
Description of recommendations 14. Use current information to
periodically update estimated future Tax Open. Systems
Modernization costs. Financial Management: Serious Weaknesses
Impact Ability to Report on and Manage Operations (GAO/AIMD-99-
196, August 9, 1999) 15. Promptly resolve differences between IRS
and Treasury records of We are making this
recommendation, which IRS' appropriation account balances and
adjust accounts accordingly. For replaces recommendation 5, to
highlight the example, reconciliations should be performed
promptly every month, with need for action on this long-standing
Treasury and IRS amounts in agreement and reconciling items
properly problem area. resolved. 16. Strengthen
control over IRS' operating funds by promptly
We are making this recommendation, which investigating and
clearing suspense account items. For example,
replaces recommendation 6, to highlight the outstanding amounts in
the suspense account should be reviewed every need for action on
this long-standing month to try to resolve and clear outstanding
balances. problem area. 17. Develop
subsidiary records for accounts payable and undelivered
New recommendation. This orders and a list of current year
nonpayroll operating expenses that will recommendation
relates to recommendation provide reliable accounts payable,
undelivered orders, and nonpayroll 13, which we are
closing. operating expense data. 18. Develop the data to support
meaningful cost information categories New recommendation. and
cost-based performance measures. 19. Develop and implement
procedures and controls to ensure that We are
making this recommendation, which detailed P&E records are
accurately maintained. These procedures and replaces
recommendation 1, to highlight the controls would include ensuring
that physical inventories at field locations need for action on
this long-standing are effectively performed, including prompt
resolution of discrepancies problem area. found in the
inventories and appropriate adjustment of detailed records. 20.
Consider directing that a physical inventory of P&E be performed
with New recommendation. This adjustments being made to IRS'
detailed records accordingly. To ensure recommendation relates to
recommendation that such efforts are not wasted, IRS first needs
to establish and 1, which we are closing. implement
effective procedures to ensure that the accuracy of detailed P&E
records, once corrected, is maintained. 21. In conjunction with
or shortly after a physical inventory, perform a New
recommendation. This systematic validation of the P&E amounts
(valuation) for items in IRS' recommendation relates to
recommendation detailed records.
1, which we are closing. 22. Develop a means to capture and
capitalize all costs incurred to bring New recommendation. P&E to
a form and location suitable for its intended use in accordance
with SFFAS No. 6, including the design and installation costs and
the costs of externally developed software. 23. Revise the
current capitalization policy to ensure that material P&E
New recommendation. acquisitions are not expensed. 24. Review all
lease agreements to determine whether they meet the
New recommendation. criteria for capital leases and capitalize and
properly record any leases that meet the criteria. 25. Make
enhancements to IRS' financial systems to include recording
New recommendation. This P&E and capital leases as assets when
purchased and to generate recommendation relates
to recommendation detailed records for P&E that reconcile to the
financial records. 1, which we are closing. Page 37
GAO/AIMD-99-196 IRS Administrative Weaknesses Appendix III Status
of GAO Recommendations on IRS Administrative Activities Report
Administrative recommendations
Description of recommendations 26. Ensure that additional
knowledgeable staff are employed or that New
recommendation. existing staff are appropriately cross-trained to
be able to develop IRS' financial statements and perform its
accounting and financial functions or are able to perform the
necessary supervision needed to obtain reliable and supportable
financial data on time. 27. Establish procedures for the
financial statements to undergo review at New recommendation. the
appropriate levels within the Chief Financial Officer's office,
with documented evidence of the reviews. Page 38
GAO/AIMD-99-196 IRS Administrative Weaknesses Appendix IV GAO
Contacts and Staff Acknowledgments
Appendix IV GAO Contacts Greg Kutz, (202) 512-3406 Joan
Hawkins, (202) 512-8433 Acknowledgments In addition to those
named above, Christina Beck, Craig Feight, David Fisher, Paul
Foderaro, Mai Nguyen, Ruth Sessions, and Keith Thompson made key
contributions to this report. Page 39
GAO/AIMD-99-196 IRS Administrative Weaknesses Related GAO Products
Financial Audit: IRS' Fiscal Year 1998 Financial Statements
(GAO/AIMD-99-75, March 1, 1999). Financial Audit: Examination of
IRS' Fiscal Year 1996 Administrative Financial Statements
(GAO/AIMD-97-89, August 29, 1997). Financial Audit: Examination of
IRS' Fiscal Year 1995 Financial Statements (GAO/AIMD-96-101, July
11, 1996). Financial Audit: Examination of IRS' Fiscal Year 1994
Financial Statements (GAO/AIMD-95-141, August 4, 1995). Financial
Audit: Examination of IRS' Fiscal Year 1993 Financial Statements
(GAO/AIMD-94-120, June 15, 1994). Financial Management: IRS Does
Not Adequately Manage Its Operating Funds (GAO/AIMD-94-33,
February 9, 1994). Financial Management: IRS Lacks Accountability
Over Its ADP Resources (GAO/AIMD-93-24, August 5, 1993). (919366)
Letter Page 40 GAO/AIMD-99-196 IRS
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