Internal Revenue Service: Assessment of the Fiscal Year 2006	 
Budget Request (27-APR-05, GAO-05-566). 			 
                                                                 
The Internal Revenue Service (IRS) has been shifting its	 
priorities from taxpayer service to enforcement and its 	 
management of Business Systems Modernization (BSM) from 	 
contractors to IRS staff. Although there are sound reasons for	 
these adjustments, they also involve risks. With respect to the  
fiscal year 2006 budget request, GAO assessed (1) how IRS	 
proposes to balance its resources between taxpayer service and	 
enforcement programs and the potential impact on taxpayers, (2)  
status of IRS's efforts to develop and implement the BSM program,
and (3) the progress IRS has made in implementing best practices 
in developing its Information Technology (IT) operations and	 
maintenance budget.						 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-05-566 					        
    ACCNO:   A22838						        
  TITLE:     Internal Revenue Service: Assessment of the Fiscal Year  
2006 Budget Request						 
     DATE:   04/27/2005 
  SUBJECT:   Budget administration				 
	     Budgets						 
	     Federal agency reorganization			 
	     Program evaluation 				 
	     Program management 				 
	     Risk management					 
	     Strategic planning 				 
	     Internal controls					 
	     Tax administration 				 
	     Policies and procedures				 
	     Business operations				 
	     IRS Business Systems Modernization 		 
	     Program						 
                                                                 

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GAO-05-566

United States Government Accountability Office

GAO	Statement for the Record For the Subcommittee on Transportation,
Treasury, the Judiciary, Housing and Urban Development, and Related
Agencies, Committee on Appropriations, U.S. Senate

For Release on Wednesday, April 27, 2005 INTERNAL REVENUE SERVICE

               Assessment of the Fiscal Year 2006 Budget Request

Statement for the record by James R. White
Director
Strategic Issues

Statement for the record by David A. Powner
Director
Information Technology Management Issues

                                       A

GAO-05-566

[IMG]

April 27, 2005

INTERNAL REVENUE SERVICE

Assessment of the Fiscal Year 2006 Budget Request

                                 What GAO Found

IRS's fiscal year 2006 budget request of $10.9 billion is an increase of
3.7 percent over last year's enacted levels. This includes an 8 percent
increase for enforcement, and a 1 percent and 2 percent decrease for
taxpayer service and BSM. However, the potential impact of these changes
on taxpayers in either the short-or long-term is unclear, because IRS has
not provided details of proposed taxpayer service reductions, and although
it is developing long-term goals, they are not yet finalized. Because of
the proposed reductions and new and improved taxpayer services in recent
years, this is an opportune time to examine the menu of services IRS
provides. It may be possible to maintain the overall level of service to
taxpayers by offsetting reductions in some areas with new and improved
service in other areas such as on IRS's Web site.

Taxpayers and IRS are seeing some payoff from the BSM program, with the
deployment of initial phases of several modernized systems in 2004.
Nevertheless, the BSM program continues to be high-risk, in part, because
projects have incurred significant cost increases and schedule delays and
the program faces major challenges in areas such as human capital and
requirements management. As a result of budget reductions and other
factors, IRS has made major adjustments. It is too early to tell what
effect these adjustments will have on the program, but they are not
without risk and could potentially impact future budgets. Further, the BSM
program is based on strategies developed years ago, which, coupled with
the delays and changes brought on by budget reductions, indicates that it
is time for IRS to revisit its long-term goals, strategy, and plans for
BSM. Because of these challenges, IRS is redefining and refocusing the BSM
program.

Likewise, IRS has made progress in implementing best practices that would
improve its budget development and support for its IT operations and
maintenance request. In particular, the recent release of a modernized
financial management system included a cost module. However, at this time,
historical data is not yet available for IRS to use this module in
formulating its IT operations and maintenance request.

IRS Budget Summary for Key Activities, Fiscal Years 2004-2006

Dollars in millions Source: GAO analysis of IRS data. Note: Numbers may
not add due to rounding.

                           Fiscal    Fiscal    Fiscal Percent Percent Percent 
                        year 2004 year 2005 year 2006 change  change   change 
                        (enacted) (enacted) (request) (2004-  (2005-   (2004- 
                                                       2005)   2006)    2006) 
               Taxpayer                                               
                service    $3,710    $3,606    $3,567  -2.8%   -1.1%    -3.8% 
            Enforcement     6,052     6,392     6,893     5.6     7.8   13.9% 
                    BSM       388       203       199  -47.6     -2.0  -48.7% 

United States Government Accountability Office

Mr. Chairman and Members of the Subcommittee:

We are pleased to present this statement for the record regarding the
Internal Revenue Service's (IRS) fiscal year 2006 budget request and in
support of your April 7, 2005 hearing on IRS's appropriations.

IRS is in the midst of making significant adjustments to its modernization
strategy to better serve taxpayers and ensure their compliance with the
nation's tax laws. It is now seven years since the passage of the Internal
Revenue Service Restructuring and Reform Act of 1998 (RRA 98)1 and IRS is
shifting its priorities from improving taxpayer service to strengthening
tax law enforcement efforts. IRS is also adjusting its strategy for
managing its Business Systems Modernization (BSM) effort by shifting
significant program management responsibilities from contractor to IRS
staff. Although there are sound reasons for these adjustments, they also
involve risk.

We have reported that IRS has made progress improving taxpayer service
since the passage of RRA 98.2 For example, IRS's telephone assistance is
now more accessible and accurate. Further, IRS is more efficient at
processing tax returns, in part, because of the growth of electronic
filing, and has cut processing staff. IRS has also implemented some
modernized information systems and increased its capacity to manage large
systems acquisition and development programs. However, progress has not
been uniform. We have reported on large and pervasive declines in IRS's
tax law enforcement programs after 1998. We have also reported that a
number of systems modernization projects were over budget and behind
schedule.3

As noted, IRS is shifting its priorities to better address these problems.
The risk, as IRS shifts its priorities towards enforcement, is that some
of the gains in the quality of taxpayer service could be surrendered.
There are analogous risks associated with moving more of the management of
BSM in-house.

1 Pub. L. No. 105-206 (1998).

2 See for example, GAO-05-67, Tax Administration: IRS Improved Performance
in the 2004 Filing Season, But Better Data on the Quality of Some Services
Are Needed

(Washington, D.C.: Nov. 15, 2004).

3 GAO, Internal Revenue Service: Assessment of Fiscal Year 2005 Budget
Request and 2004 Filing Season Performance, GAO-04-560T (Washington, D.C.:
Mar. 30, 2004).

With these risks in mind, our statement for the record discusses IRS's
fiscal year 2006 budget request. To address your request to provide this
statement, we assessed (1) how IRS proposes to balance its resources
between taxpayer service and enforcement programs and the potential impact
on taxpayers, (2) the status of IRS's efforts to develop and implement the
BSM program, and (3) the progress IRS has made in implementing best
practices for developing its information technology (IT) operations and
maintenance budget.

Our assessment of the budget request and BSM is based on a comparative
analysis of IRS's fiscal year 2002 through 2006 budget requests, funding,
expenditures, other documentation, and interviews with IRS officials. For
this assessment, we used historical budget and performance data from
reports and budget requests used by IRS, Department of Treasury, and
Office of Management and Budget (OMB). In past work, we assessed IRS's
budget and performance data.4 Since the data sources and procedures for
producing this year's budget data have not significantly changed from
prior years, we determined that the data were sufficiently reliable for
the purposes of this report although for fiscal years 2005 and 2006
subject to change. Regarding our analysis of IRS's BSM program, we
primarily used the agency's BSM expenditure plans to determine the status
of the program. To assess the reliability of the cost and schedule
information contained in these plans, we interviewed applicable IRS
officials to gain an understanding of the data and discuss our use of that
data. In addition, we checked that information in the plans was consistent
with information contained in IRS internal briefings. Accordingly, we
determined that the data in the plans were sufficiently reliable for
purposes of this statement. We performed our work in Washington, D.C. and
Atlanta, Georgia from December 2004 through March 2005, in accordance with
generally accepted government auditing standards.

In summary, our assessment shows that:

o 	IRS's 2006 fiscal year budget request reflects a continuing shift in
priorities from improving taxpayer service to strengthening enforcement
efforts, but the potential impact of these changes on

4 GAO, Tax Administration: IRS Needs to Further Refine Its Tax Filing
Season Performance Measures, GAO-03-143 (Washington, D.C.: Nov. 22, 2002)
and GAO, Financial Audit: IRS's Fiscal Years 2004 and 2003 Financial
Statements, GAO-05-103 (Washington, D.C.: Nov. 10, 2004).

taxpayers in both the short-and long-term is unclear. IRS is requesting
$10.9 billion, an increase of 3.7 percent over fiscal year 2005 enacted
levels. This includes an 8 percent increase for enforcement, and a 1
percent and 2 percent decrease for taxpayer service and BSM, respectively.
IRS has not finalized the details on where reductions in taxpayer service
would occur. In addition, IRS is developing, but currently lacks,
long-term goals that can help IRS inform stakeholders, including the
Congress, and aid them in assessing performance and making budget
decisions. In light of the current budget environment and IRS's
improvements in taxpayer service over the last several years, this is an
opportune time to reconsider the menu of services it provides. It may be
possible to maintain the overall level of assistance to taxpayers by
changing the menu of services offered, offsetting reductions in some areas
with new and improved service in other areas such as on IRS's Web site.

o 	IRS has taken important steps forward towards implementing the BSM
program by delivering the initial phases of several modernized systems in
2004 and early 2005. Nevertheless, BSM continues to be high risk because,
in part, its projects have incurred significant cost increases and
schedule delays, and the program continues to face major challenges. As a
result of funding reductions and other factors, IRS has made major
adjustments to the BSM program, including reducing the management reserve
and changing the mix and roles of contractor versus federal staff used to
manage the program. It is too early to tell what effect these adjustments
will ultimately have on the BSM program, but they are not without risk,
could potentially impact future budget requests, and will delay the
implementation of certain functionality that was intended to provide
benefit to IRS operations and taxpayers. Finally, the BSM program is based
on visions and strategies developed years ago, which, coupled with the
already significant delays the program has experienced and the changes
brought on by the budget reductions, indicates that it is time for IRS to
revisit its long-term goals, strategy, and plans for BSM, including an
assessment of when significant future BSM functionality would be
delivered. According to the Associate Chief Information Officer (CIO) for
BSM, IRS is redefining and refocusing this program.

o 	IRS has made progress toward implementing investment management best
practices that would improve its budget development and support for its IT
operations and maintenance funding requests. For example, the recent
release of a new accounting system included an activitybased cost module,
which IRS considered to be a necessary action to

implement these best practices. However, Office of the Chief Financial
Officer officials stated that IRS needs 3 years of actual costs to have
the historical data necessary to provide a basis for future budget
estimates. Accordingly, they expect that IRS will begin using the
activity-based cost module in formulating the fiscal year 2008 budget and
will have the requisite 3 years of historical data in time to develop the
fiscal year 2010 budget.

  IRS's Budget Request Continues to Shift Priority from Taxpayer Service to
  Enforcement, but the Short- and Long-term Impacts on Taxpayers Are Unclear

IRS's fiscal year 2006 budget request reflects a continuing shift in
priorities by proposing reductions in taxpayer service and increases in
enforcement activities. The request does not provide details about how the
reductions will impact taxpayers in the short-term. Nor does IRS have
long-term goals; thus the contribution of the fiscal year 2006 budget
request to achieving IRS's mission in the long-term is unclear. Because of
budget constraints and the progress IRS has made improving the quality of
taxpayer services, this is an opportune time to reconsider the menu of
services IRS offers.

IRS Is Proposing Reductions in Taxpayer Service and BSM and Increases in
Enforcement

IRS is requesting $10.9 billion, which includes just over a 1 percent
decrease for taxpayer service, a 2 percent decrease for BSM, and nearly an
8 percent increase for enforcement, as shown in table 1.5 As table 1
further shows, the changes proposed in the 2006 budget request continue a
trend from 2004. In comparison to the fiscal year 2004 enacted budget, the
2006 budget request proposes almost 4 percent less for service, almost 49
percent less for BSM, and nearly 14 percent more for enforcement.6

5 IRS is proposing a new budget structure beginning in fiscal year 2006.
The proposal would integrate support costs and the IT appropriation into
taxpayer assistance and operations appropriation with eight program areas
involving both taxpayer service and enforcement. See appendix I for
information on the new budget structure.

6 The Administration proposes to fully fund enforcement efforts and costs
as contingent appropriations. This would be achieved by using one of two
budgetary mechanisms that would allow for an adjustment to total
discretionary spending for fiscal year 2006 of not more than $446 million
for IRS tax enforcement.

    Table 1: IRS Budget Summary for Key Activities, Fiscal Years 2004-2006)

Dollars in millions

                                                      Percent Percent Percent 
                         Fiscal    Fiscal      Fiscal change  change   change 
                      year 2004 year 2005   year 2006 (2004-   (2005-  (2004- 
                      (enacted) (enacted) (requested)   2005)   2006)   2006) 
            Taxpayer                                                  
             Service     $3,710    $3,606      $3,567   -2.8%   -1.1%   -3.8% 
         Enforcement      6,052     6,392       6,893     5.6     7.8    13.9 
                 BSM        388       203         199   -47.6    -2.0   -48.7 

Source: GAO analysis of IRS data.

Note: Numbers may not add due to rounding.

As table 1 also shows, taxpayer service sustained a reduction of $104
million or 2.8 percent between fiscal years 2004 and 2005. According to
IRS officials, the majority of this reduction was the result of
consolidating paper-processing operations, shifting resources from service
to enforcement, and reducing some services. IRS officials said that this
reduction is not expected to adversely impact the services they provide to
taxpayers but added that the agency cannot continue to absorb reductions
in taxpayer service without beginning to compromise some services.

For fiscal years 2005 and 2006, table 2 shows some details of changes in
both dollars and full-time equivalents (FTE).7 Both are shown because
funding changes do not translate into proportional changes in FTEs due to
cost increases for salaries, rent, and other items. For example, the $39
million or 1.1 percent reduction in taxpayer service translates into a
reduction of 1,385 FTEs or 3.6 percent. Similarly, the over $500 million
or 7.8 percent increase in enforcement spending translates into an
increase of 1,961 FTEs or 3.4 percent.

7 According to IRS, an FTE is the equivalent of one person working full
time for 1 year without overtime.

Table 2: IRS Requested Changes in Funding for Taxpayer Service and
Enforcement, Fiscal Years 2005 and 2006 (requested)

Change fiscal year 2005 - Fiscal year 2005 (estimated) Fiscal year 2006
(requested) fiscal year 2006

Dollars Full-time Dollars Full-time Dollars Full-time Program activities
(in millions) equivalents (in millions) equivalents (in millions)
equivalents

                Assistance $1,829 20,798 $1,806 20,160 -$23 -638

                    Outreach 500 2,473 466 1,905 - 34 - 568

Processing 1,276 15,695 1,295 15,516 19

        Taxpayer service subtotal 3,606 38,966 3,567 37,581 -39 - 1,385

Research 154 1,119 158 1,119 4

Examination 3,478 31,498 3,712 32,284 234

Collection 1,826 18,023 1,991 18,815 165

Investigation 682 4,899 767 5,250 85

Regulatory 253 1,912 265 1,944 12

            Enforcement subtotal 6,392 57,451 6,893 59,412 500 1,961

Taxpayer service and enforcement total 9,998 96,417 10,460 96,993 462

Source: GAO analysis of IRS data.

Note: Numbers may not add due to rounding.

The difference between changes in dollars and FTEs could be even larger
because of unbudgeted expenses. Unbudgeted expenses have consumed some of
IRS's budget increases and internal savings increases over the last few
years. Unbudgeted expenses include unfunded portions of annual salary
increases, which can be substantial given IRS's large workforce, and other
costs such as higher-than-budgeted rent increases. According to IRS
officials, these unbudgeted expenses accounted for over $150 million in
each of the last 4 years.

An IRS official also told us they anticipate having to cover unbudgeted
expenses in 2006. As of March 2005, IRS officials were projecting
unbudgeted salary increases of at least $40 million. This projection could
change since potential federal salary increases for 2006 have not been
determined.

IRS Is Proposing $39 Million Less for Taxpayer Service, but the Impact on
Taxpayers Is Unclear

The budget request provides some detail on how IRS plans to absorb cost
increases in the taxpayer service budget. IRS is proposing a gross
reduction of over $134 million in taxpayer service from reexamining the
budget's base and plans to use more than $95 million of it to cover annual
increases such as salaries. This leaves a net reduction of nearly $39
million or 1.1 percent in the taxpayer service budget. The extent to which
IRS is able to achieve the gross reductions will impact its ability to use
the funds as anticipated.

Decisions on how the $134 million gross reduction would be absorbed were
not finalized prior to releasing the budget. According to IRS officials,
some of the reductions would result from efficiency gains such as reducing
printing and postage costs; however, others would result from reductions
in the services provided to taxpayers such as shortening the hours of
tollfree telephone service operations. The officials also said most
decisions have now been made about general areas for reduction and most
changes will not be readily apparent to taxpayers.

Although IRS has made general decisions about the reductions, many of the
details have yet to be determined. Therefore, the extent of the impact on
taxpayers in the short term is unclear. For example, IRS plans to reduce
dependence on field assistance, including walk-in sites, but has not
reached a final decision on how to reduce services. Table 3 provides
further detail on how IRS is proposing to reduce funding and resources for
taxpayer service.

Table 3: IRS Requested Changes in Funding and Full-time Equivalents for Taxpayer
                      Service, Fiscal Years 2005 and 2006

Change fiscal year 2005-2006

             Fiscal year 2005 (actual) Fiscal year 2006 (requested)

Dollars

 Full-time Dollars Full-time Dollars Full-time Program activities (in millions)
        equivalents (in millions) equivalents (in millions) equivalents

Assistance Outreach

        Electronic            $1,536   17,745     $1,557     17,721     $21   
           Field                 274   2,796       230       2,181      -44   
      EITC assistance             19    258         19        258       < 1   
     Assistance total          1,829   20,798     1,806      20,160     -23   

      Publication & Media        291   821      276     520     -15  
     Taxpayer Education &                                            
         Communication           203  1,592     184    1,326    -19  
         EITC Outreach             7    60       7       60     < 1  
        Outreach total           500  2,473     466    1,905    -34  
          Processing          1,276   15,695   1,295   15,516   19   
    Taxpayer service total    3,606   38,966   3,568   37,581   -39    -1,385 

IRS Continues to Request Significant Increases for Enforcement to Build on
Recent Hiring Gains

Source: GAO analysis of IRS data.

Note: Numbers may not add due to rounding.

IRS's fiscal year 2006 budget request is the sixth consecutive year the
agency has requested additional staffing for enforcement. However, up
until last year, IRS was unable to increase enforcement staffing;
unbudgeted costs and other priorities consumed the budget increase.

IRS's proposal for fiscal year 2006, if implemented as planned, would
return enforcement staffing in these occupations to their highest levels
since 1999. Of the more than $500 million increase requested for 2006,
about $265 million would fund enforcement initiatives, over $182 million
would be used in part for salary increases, and over $55 million is a
proposal to transfer funding authority from the Department of Justice's
Interagency Crime and Drug Enforcement. The $500 million increase would be
supplemented by internal enforcement savings of $88 million. As is the
case with taxpayer service savings, the extent to which IRS achieves
enforcement savings will affect its ability to fund the new enforcement
initiatives.

The $265 million for new enforcement initiatives consist of:

o 	$149.7 million and 920 FTEs to attack corrosive non-compliance activity
driving the tax gap such as abusive trusts and shelters, including
offshore credit cards and organized tax resistance;

o 	$51.8 million and 236 FTEs to detect and deter corrosive corporate
noncompliance to attack complex abusive tax avoidance transactions on a
global basis and challenge those who promote their use;

o 	$37.9 million and 417 FTEs to increase individual taxpayer compliance
by identifying and implementing actions to address non-compliance with
filing requirements; increasing Automated Underreporter resources to
address the reporting compliance tax gap; increasing audit coverage; and
expanding collection work in walk-in sites;

o 	$14.5 million and 77 FTEs to combat abusive transactions by entities
with special tax status by initiating examinations more promptly,
safeguarding compliant customers from unscrupulous promoters, and
increasing vigilance to ensure that the assets of tax-exempt organizations
are put to their intended tax-preferred purpose and not misdirected to
fund terrorism or for private gain; and

o  $10.8 million and 22 FTEs to curtail fraudulent refund crimes.

The $88 million in internal savings would be reinvested to perform the
following activities:

o 	$66.7 million and 585 FTEs to devote resources to front-line
enforcement activities;

o 	$14.9 million and 156 FTEs to, in part, address bankruptcy-related
taxpayer questions; and

o 	$6.7 million and 52 FTEs to address complex, high-risk issues such as
compliance among tax professionals.

In the past, IRS has had trouble achieving enforcement staffing increases
because other priorities, including unbudgeted expenses, have absorbed
additional funds. IRS achieved some gains in 2004 and expects modest gains
in 2005. Figure 1 shows that the number of revenue agents (those who audit
complex returns), revenue officers (those who do field collection work),
and special agents (those who perform criminal

investigations) decreased over 21 percent between 1998 and 2003, but
increased almost 6 percent from 2003 to 2004.

Figure 1: Revenue Agents, Revenue Officers, and Special Agents, Fiscal
Years 19982006

                             Full-time equivalents

25,000

20,000

15,000

10,000

5,000 0

           1998 1999 2000 2001 2002 2003 2004 2005a 2006a Fiscal year

                                 Revenue agents

                                Revenue officers

                                 Special agents

Total agents

                       Source: GAO analysis of IRS data.

a Fiscal years 2005 and 2006 are IRS projections.

IRS's recent gains in enforcement staffing are encouraging, as tax law
enforcement continues to remain an area of high risk for the federal
government because the resources IRS has dedicated to enforcing the tax
laws have declined, while IRS's enforcement workload-measured by the
number of taxpayer returns filed-has continually increased.8 Figure 2
shows the trend in field, correspondence, and total audit rates since
1995. Field audits involve face-to-face audits and correspondence audits
are

8 GAO, High Risk Series: An Update, GAO-05-207 (Washington, D.C.: January
2005).

typically less complex involving communication through notices. IRS
experienced steep declines in audit rates from 1995 to 1999, but the audit
rate-the proportion of tax returns that IRS audits each year-has slowly
increased since 2000. The figure shows that the increase in total audit
rates of individual filers has been driven mostly by correspondence
audits, while more complex field audits, continue to decline.

Figure 2: Audit Rate of Individual Income Tax Returns, Fiscal Years
1995-2004

Audit rate

2.0

1.8

1.6

1.4

1.2

1.0

0.8

0.6

0.4

0.2

0.0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004

Fiscal year

Field Correspondence Total

Source: GAO analysis of IRS data.

The link between the decline in enforcement staff and the decline in
enforcement actions, such as audits, is complicated, and the real impact
on taxpayers' rate of voluntary compliance is not known. This leaves open
the question of whether the declines in IRS's enforcement programs are
eroding taxpayers' incentives to voluntarily comply. IRS's National
Research Program (NRP) recently completed a study on compliance by
individual tax filers based on tax data provided on 2001 tax returns. The
study estimated that the tax gap-the difference between what taxpayers owe
and what they pay-is at least $312 billion per year as of 2001 and could
be as large as $353 billion. This study is important for several

reasons beyond measuring compliance. It is intended to help IRS better
target its enforcement actions, such as audits, on non-compliant
taxpayers, and minimize audits of compliant taxpayers. It should also help
IRS better understand the impact of taxpayer service on compliance.

IRS Is Developing Longterm Goals That Can Be Used to Assess Performance
and Make Budget Decisions

IRS is developing but currently lacks long-term goals that can be used to
assess performance and make budget decisions.9 Long-term goals and results
measurement are a component of the statutory strategic planning and
management framework that the Congress adopted in the Government
Performance and Results Act of 1993.10 As a part of this comprehensive
framework, long-term goals that are linked to annual performance measures
can help guide agencies when considering organizational changes and making
resource decisions.

A recent Program Assessment Rating Tool (PART) review conducted by OMB
reported that IRS lacks long-term goals.11 As a result, IRS has been
working to identify and establish long-term goals for all aspects of its
operations for over a year. IRS officials said these goals will be
finalized and provided publicly as an update to the agency's strategic
plan before May 2005.

For IRS and its stakeholders, such as the Congress, long-term goals can be
used to assess performance and progress towards these goals, and determine
whether budget decisions contribute to achieving those goals.

9 IRS has one long-term goal set by the Congress in RRA 98 for IRS to have
80 percent of all individual income tax returns filed electronically.

10 Pub. L. No. 103-62 (1993). The Government Performance and Results Act
of 1993 seeks to improve the management of federal programs, as well as
their effectiveness and efficiency, by requiring executive agencies to
prepare multiyear strategic plans, annual performance plans, and annual
performance reports. Under the Act, strategic plans are the starting point
for setting goals and measuring progress towards them. The Act requires
executive agencies to develop strategic plans that include an agency's
mission statement, long-term general goals, and the strategies that the
agency will use to achieve these goals. The plans should also explain the
key external factors that could significantly affect achievement of these
goals, and describe how long-term goals will be related to annual
performance goals.

11 The PART was applied during the fiscal year 2004 budget cycle to
"programs" selected by OMB. The PART includes general questions in each of
four broad topics to which all programs are subjected: (1) program purpose
and design, (2) strategic planning, (3) program management, and (4)
program results (i.e., whether a program is meeting its longterm and
annual goals). OMB also makes an overall assessment on program
effectiveness.

Without long-term goals, the Congress and other stakeholders are hampered
in evaluating whether IRS is making satisfactory long-term progress.
Further, without such goals, the extent to which IRS's 2006 budget request
would help IRS achieve its mission over the long-term is unclear.

This Is an Opportune Time to Review IRS's Menu of Taxpayer Services

For at least two reasons, this is an opportune time to review the menu of
taxpayer services that IRS provides. First, IRS's budget for taxpayer
services was reduced in 2005 and an additional reduction is proposed for
2006. As already discussed, these reductions have forced IRS to propose
scaling back some services. Second, as we have reported, IRS has made
significant progress in improving the quality of its taxpayer services.
For example, IRS now provides many Internet services that did not exist a
few years ago and has noticeably improved the quality of telephone
services. This opens up the possibility of maintaining the overall level
of taxpayer service but with a different menu of service choices. Cuts in
selected services could be offset by the new and improved services.

Generally, as indicated in the budget, the menu of taxpayer services that
IRS provides covers assistance, outreach, and processing. Assistance
includes answering taxpayer questions via telephone, correspondence, and
face-to-face at its walk-in sites. Outreach includes educational programs
and the development of partnerships. Processing includes issuing millions
of tax refunds.

When considering program reductions, we support a targeted approach rather
than across-the-board cuts.12 A targeted approach helps reduce the risk
that effective programs are reduced or eliminated while ineffective or
lower priority programs are maintained.

With the above reasons in mind for reconsidering IRS's menu of services,
we have compiled a list of options for targeted reductions in taxpayer
service. The options on this list are not recommendations but are intended
to contribute to a dialogue about the tradeoffs faced when setting IRS's
budget. The options presented meet at least one of the following criteria

12 GAO, 21st Century Challenges: Reexamining the Base of the Federal
Government, GAO05-325SP (Washington, D.C.: February 2005).

that we generally use to evaluate programs or budget requests.13 These
criteria include that the activity

o  duplicates other efforts that may be more effective and/or efficient;

o 	historically does not meet performance goals or provide intended
results as reported by GAO, the Treasury Inspector General for Tax
Administration (TIGTA), IRS, or others;

o  experiences a continued decrease in demand;

o 	lacks adequate oversight, implementation and management plans, or
structures and systems to be implemented effectively;

o 	has been the subject of actual or requested funding increases that
cannot be adequately justified; or

o 	has the potential to make an agency more self-sustaining by charging
user fees for services provided.

We recognize that the options listed below involve tradeoffs. In each
case, some taxpayers would lose a service they use. However, the savings
could be used to help maintain the quality of other services. We also want
to give IRS credit for identifying savings, including some on this list.
The options include

o 	closing walk-in sites. Taxpayer demand for walk-in services has
continued to decrease and staff answer a more limited number of tax law
questions in person than staff answer via telephone.

o 	limiting the type of telephone questions answered by IRS assistors. IRS
assistors still answer some refund status questions even though IRS
provides automated answers via telephone and its Web site.

o 	mandating electronic filing for some filers such as paid preparers or
businesses. As noted, efficiency gains from electronic filing have enabled
IRS to consolidate paper processing operations.

13 We selected these criteria from a variety of sources based on generally
accepted government auditing standards.

o 	charging for services. For example, IRS provides paid preparers with
information on federal debts owed by taxpayers seeking refund anticipation
loans.

  Progress in BSM Implementation, but the Program Remains High Risk and Budget
  Reductions Have Resulted in Significant Adjustments

Although IRS has implemented important elements of the BSM program, much
work remains. In particular, the BSM program remains at high risk and has
a long history of significant cost overruns and schedule delays.
Furthermore, budget reductions have resulted in significant adjustments to
the BSM program, although it is too early to determine their ultimate
effect.

IRS Has Made Progress in Implementing BSM, but Much Work Remains

IRS has long relied on obsolete automated systems for key operational and
financial management functions, and its attempts to modernize these aging
computer systems span several decades. IRS's current modernization
program, BSM, is a highly complex, multibillion-dollar program that is the
agency's latest attempt to modernize its systems. BSM is critical to
supporting IRS's taxpayer service and enforcement goals. For example, BSM
includes projects to allow taxpayers to file and retrieve information
electronically and to provide technology solutions to help reduce the
backlog of collections cases. BSM is important for another reason. It
allows IRS to provide the reliable and timely financial management
information needed to account for the nation's largest revenue stream and
better enable the agency to justify its resource allocation decisions and
congressional budgetary requests.

Since our testimony before this subcommittee on last year's budget
request, IRS has deployed initial phases of several modernized systems
under its BSM program. The following provides examples of the systems and
functionality that IRS implemented in 2004 and the beginning of 2005.

o 	Modernized e-File (MeF). This project is intended to provide electronic
filing for large corporations, small businesses, and tax-exempt
organizations. The initial releases of this project were implemented in
June and December 2004, and allowed for the electronic filing of forms and
schedules for the form 1120 (corporate tax return) and form 990
(tax-exempt organizations' tax return). IRS reported that, during the

2004 filing season, it accepted over 53,000 of these forms and schedules
using MeF.

o 	e-Services. This project created a Web portal and provided other
electronic services to promote the goal of conducting most IRS
transactions with taxpayers and tax practitioners electronically. IRS
implemented e-Services in May 2004. According to IRS, as of late March
2005, over 84,000 users have registered with this Web portal.

o 	Customer Account Data Engine (CADE). CADE is intended to replace IRS's
antiquated system that contains the agency's repository of taxpayer
information and, therefore, is the BSM program's linchpin and highest
priority project. In July 2004 and January 2005, IRS implemented the
initial releases of CADE, which have been used to process filing year 2004
and 2005 1040EZ returns, respectively, for single taxpayers with refund or
even-balance returns. According to IRS, as of March 16, 2005, CADE had
processed over 842,000 tax returns so far this filing season.

o 	Integrated Financial System (IFS). This system replaces aspects of
IRS's core financial systems and is ultimately intended to operate as its
new accounting system of record. The first release of this system became
fully operational in January 2005.

Although IRS is to be applauded for delivering such important
functionality, the BSM program is far from complete. Future deliveries of
additional functionality of deployed systems and the implementation of
other BSM projects are expected to have a significant impact on IRS's
taxpayer services and enforcement capability. For example, IRS has
projected that CADE will process about 2 million returns in the 2005
filing season. However, the returns being processed in CADE are the most
basic and constitute less than 1 percent of the total tax returns expected
to be processed during the current filing season. IRS expects the full
implementation of CADE to take several more years. Another BSM project-the
Filing and Payment Compliance (F&PC) project-is expected to increase (1)
IRS's capacity to treat and resolve the backlog of delinquent taxpayer
cases, (2) the closure of collection cases by 10 million annually by 2014,
and (3) voluntary taxpayer compliance. As part of this project, IRS plans
to implement an initial limited private debt collection capability in
January 2006, with full implementation of this aspect of the F&PC project
to be delivered by January 2008 and additional functionality to follow in
later years.

BSM Program Has History of Cost Increases and Schedule Delays and Is High
Risk

The BSM program has a long history of significant cost increases and
schedule delays, which, in part, has led us to report this program as
highrisk since 1995.14 Appendix II provides the history of the BSM
life-cycle cost and schedule variances. In January 2005 letters to
congressional appropriation committees, IRS stated that it had showed a
marked improvement in significantly reducing its cost variances. In
particular, IRS claimed that it reduced the variance between estimated and
actual costs from 33 percent in fiscal year 2002 to 4 percent in fiscal
year 2004. However, we do not agree with the methodology used in the
analysis supporting this claim. Specifically, (1) the analysis did not
reflect actual costs, instead it reflected changes in cost estimates
(i.e., budget allocations) for various BSM projects; (2) IRS aggregated
all of the changes in the estimates associated with the major activities
for some projects, such as CADE, which masked that monies were shifted
from future activities to cover increased costs of current activities; and
(3) the calculations were based on a percentage of specific fiscal year
appropriations, which does not reflect that these are multiyear projects.

In February 2002 we expressed concern over IRS's cost and schedule
estimating and made a recommendation for improvement.15 IRS and its prime
systems integration support (PRIME) contractor have taken action to
improve their estimating practices, such as developing a cost and schedule
estimation guidebook and developing a risk-adjustment model to include an
analysis of uncertainty. These actions may ultimately result in more
realistic cost and schedule estimates, but our analysis of IRS's
expenditure plans16 over the last few years shows continued increases in
estimated project life-cycle costs (see fig. 3).

14 For our latest high-risk report, please see GAO, High-Risk Series: An
Update, GAO-05-207 (Washington, D.C., January 2005).

15 GAO, Business Systems Modernization: IRS Needs to Better Balance
Management Capacity with Systems Acquisition Workload, GAO-02-356
(Washington, D.C.: Feb. 28, 2002).

16 BSM funds are unavailable until the IRS submits to congressional
appropriations committees for approval a modernization expenditure plan
that (1) meets the OMB capital planning and investment control review
requirements; (2) complies with IRS's enterprise architecture; (3)
conforms with IRS's enterprise life-cycle methodology; (4) is approved by
IRS, the Department of the Treasury, and OMB; (5) is reviewed by GAO; and
(6) complies with acquisition rules, requirements, guidelines, and systems
acquisition management practices.

Figure 3: Life-cycle Cost Estimates for Key BSM Projects

Estimates (dollars in millions) 200

180

160

140

120

100

80

60

40

20

0 11/01 11/02 3/03 9/03 1/04 7/04

Date expenditure plans submitted to the Congress (month/year)

Customer Account Data Engine, Release 1
e-Services
Modernized e-File, Release 1
Custodial Accounting Project, Release 1
Integrated Financial System, Release 1

Source: GAO analysis of IRS data.

The Associate CIO for BSM stated that he believes that IRS's cost and
schedule estimating has improved in the past year. In particular, he
pointed out that IRS met its cost and schedule goals for the
implementation of the latest release of CADE, which allowed the agency to
use this system to process certain 1040EZ forms in the 2005 filing season.
It is too early to tell whether this signals a fundamental improvement in
IRS's ability to accurately forecast project costs and schedules.

The reasons for IRS's cost increases and schedule delays vary. However, we
have previously reported that they are due, in part, to weaknesses in
management controls and capabilities. We have previously made
recommendations to improve BSM management controls, and IRS has
implemented or begun to implement these recommendations. For example, in
February 2002, we reported that IRS had not yet defined or implemented an
IT human capital strategy, and recommended that IRS develop plans for

obtaining, developing, and retaining requisite human capital resources.17
In September 2003, TIGTA reported that IRS had made significant progress
in developing a human capital strategy but that it needed further
development. In August 2004, the current Associate CIO for BSM identified
the completion of a human capital strategy as a high priority. Among the
activities that IRS is implementing are prioritizing its BSM staffing
needs and developing a recruiting plan. IRS has also identified, and is
addressing, other major management challenges in areas such as
requirements, contract, and program management. For example, poorly
defined requirements have been among the significant weaknesses that have
been identified as contributing to project cost overruns and schedule
delays. As part of addressing this problem, in March 2005, the IRS BSM
office established a requirements management office, although a leader has
not yet been hired.

IRS Is Adjusting the BSM Program in Response to Budget Reductions

The BSM program is undergoing significant changes as it adjusts to
reductions in its budget. Figure 4 illustrates the BSM program's requested
and enacted budgets for fiscal years 2004 through 2006.18 For fiscal year
2005, IRS received about 29 percent less funding than it requested (from
$285 million to $203.4 million). According to the Senate report for the
fiscal year 2005 Transportation, Treasury, and General Government
appropriations bill, in making its recommendation to reduce BSM funding,
the Senate Appropriations Committee was concerned about the program's cost
overruns and schedule delays. In addition, the committee emphasized that
in providing fewer funds, it wanted IRS to focus on its highest priority
projects, particularly CADE.19 In addition, IRS's fiscal year 2006 budget
request reflects an additional reduction of about 2 percent, or about $4.4
million, from the fiscal year 2005 appropriation.

17 GAO-02-356.

18 IRS uses the appropriated funds to cover contractor costs related to
the BSM program. IRS funds internal costs for managing BSM with another
appropriation. These costs are not tracked separately for BSM-related
activities.

19 U.S. Senate, Senate Report 108-342 (2004).

Figure 4: Changes in the BSM budget (dollars in millions)a

e-Services	FY04 FY05

FY06 No funds requested for FY06

Filing and Payment Compliance	FY04 FY05 FY06 No funds appropriated for
FY05

Modernized e-File	FY04 FY05

FY06

Customer Account Data Engine	FY04 FY05

FY06

Custodial Accounting Project FY04

FY05 No funds requested for FY05

FY06 No funds requested for FY06

Integrated Financial System	FY04 FY05 No funds requested for FY05

FY06 No funds requested for FY06

Core infrastructure projects	FY04 FY05

FY06

                     Architecture, integration, FY04 and management FY05 FY06

Management reserve	FY04 FY05

FY06

0 102030405060708090 Millions of dollars

Requested

Enacted

Source: IRS.

a The BSM account authorizes funds to be obligated for 3 years.

It is too early to tell what effect the budget reductions will ultimately
have on the BSM program. However, the significant adjustments that IRS is
making to the program to address these reductions are not without risk,
could potentially impact future budget requests, and will delay the
implementation of certain functionality that was intended to provide
benefit to IRS operations and the taxpayer. For example:

o Reductions in Management reserve/project risk adjustments. In response
to the fiscal year 2005 budget reduction, IRS reduced the amount that it
had allotted to program management reserve and project risk adjustments by
about 62 percent (from about $49.1 million to about $18.6 million).20 If
BSM projects have future cost overruns that cannot be covered by the
depleted reserve, this reduction could result in (1) increased budget
requests in future years or (2) delays in planned future activities (e.g.,
delays in delivering promised functionality) to use those allocated funds
to cover the overruns.

o 	Shifts of BSM management responsibility from the PRIME contractor to
IRS. Due to budget reductions and IRS's assessment of the PRIME
contractor's performance, IRS decided to shift significant BSM
responsibilities for program management, systems engineering, and business
integration from the PRIME contractor to IRS staff. For example, IRS staff
are assuming responsibility for cost and schedule estimation and
measurement, risk management, integration test and deployment, and
transition management. There are risks associated with this decision. To
successfully accomplish this transfer, IRS must have the management
capability to perform this role. Although the BSM program office has been
attempting to improve this capability through, for example, implementation
of a new governance structure and hiring staff with specific technical and
management expertise, IRS has had significant problems in the past
managing this and other large development projects, and acknowledges that
it has major challenges to overcome in this area.

o 	Suspension of the Custodial Accounting Project (CAP). Although the
initial release of CAP went into production in September 2004, IRS has
decided not to use this system and to stop work on planned improvements
due to budget constraints. According to IRS, it made this decision after
it evaluated the business benefits and costs to develop and maintain CAP
versus the benefits expected to be provided by other projects, such as
CADE. Among the functionality that the initial releases of CAP were
expected to provide were (1) critical control and reporting capabilities
mandated by federal financial management laws; (2) a traceable audit trail
to support financial reporting; and (3) a subsidiary ledger to accurately
and promptly identify, classify, track, and report

20 We did not include in our calculations, reductions to specific project
risk adjustment amounts that were made for reasons other than the fiscal
year 2005 budget reduction.

custodial revenue transactions and unpaid assessments. With the suspension
of CAP, it is now unclear how IRS plans to replace the functionality this
system was expected to provide, which was intended to allow the agency to
make meaningful progress toward addressing long-standing financial
management weaknesses. IRS is currently evaluating alternative approaches
to addressing these weaknesses.

o 	Reductions in planned functionality. According to IRS, the fiscal year
2006 funding reduction will result in delays in planned functionality for
some of its BSM projects. For example, IRS no longer plans to include Form
1041 (the income tax return for estates and trusts) in the fourth release
of Modernized e-File, which is expected to be implemented in fiscal year
2007.

The BSM program is based on visions and strategies developed in 2000 and
2001. The age of these plans, in conjunction with the significant delays
already experienced by the program and the substantive changes brought on
by budget reductions, indicate that it is time for IRS to revisit its
longterm goals, strategy, and plans for BSM. Such an assessment would
include an evaluation of when significant future BSM functionality would
be delivered. IRS's Associate CIO for BSM has recognized that it is time
to recast the agency's BSM strategy because of changes that have occurred
subsequent to the development of the program's initial plans. According to
this official, IRS is redefining and refocusing the BSM program, and he
expects this effort to be completed by the end of this fiscal year.

  Additional Actions Needed to Improve Budgeting for IT Operations and
  Maintenance

IRS has requested about $1.62 billion for IT operations and maintenance in
fiscal year 2006, within its proposed new Tax Administration and
Operations account. Under the prior years' budget structure, these funds
were included in a separate account, for which IRS received an
appropriation of about $1.59 billion in fiscal year 2005. The $1.62
billion requested in fiscal year 2006 is intended to fund the personnel
costs for IT staff (including staff supporting the BSM program) and
activities such as IT security, enterprise networks, and the operations
and maintenance costs of its current systems. We have previously expressed
concern that IRS does not employ best practices in the development of its
IT operations and

maintenance budget request.21 Although IRS has made progress in addressing
our concern, more work remains.

The Paperwork Reduction Act (PRA) of 199522 requires federal agencies to
be accountable for their IT investments and responsible for maximizing the
value and managing the risks of their major information systems
initiatives. The Clinger-Cohen Act of 199623 establishes a more definitive
framework for implementing the PRA's requirements for IT investment
management. It requires federal agencies to focus more on the results they
have achieved and introduces more rigor and structure into how agencies
are to select and manage IT projects. In addition, leading private-and
public-sector organizations have taken a project- or system-centric
approach to managing not only new investments but also operations and
maintenance of existing systems. As such, these organizations

o 	identify operations and maintenance projects and systems for inclusion
in budget requests;

o 	assess these projects or systems on the basis of expected costs,
benefits, and risks to the organization;

o  analyze these projects as a portfolio of competing funding options; and

o  use this information to develop and support budget requests.

This focus on projects, their outcomes, and risks as the basic elements of
analysis and decision making is incorporated in the IT investment
management approach that is recommended by OMB and GAO. By using these
proven investment management approaches for budget formulation, agencies
have a systematic method, on the basis of risk and return on investment,
to justify what are typically substantial information systems operations
and maintenance budget requests.

In our assessment of IRS's fiscal year 2003 budget request, we reported
that the agency did not develop its information systems operations and

21 GAO, Internal Revenue Service: Improving Adequacy of Information
Systems Budget Justification, GAO-02-704 (Washington, D.C., June 28,
2002).

22 Pub. L. No.104-13 (1995).

23 Pub. L. No. 104-106 section 5001 et. seq. (1996).

maintenance request in accordance with the investment management approach
used by leading organizations. We recommended that IRS prepare its future
budget requests in accordance with these best practices.24 To address our
recommendation, IRS agreed to take a variety of actions, which it has made
progress in implementing. For example, IRS stated that it planned to
develop an activity-based cost model to plan, project, and report costs
for business tasks/activities funded by the information systems budget.
The recent release of IFS included an activitybased cost module, but IRS
does not currently have historical cost data to populate this module.
According to officials in the Office of the Chief Financial Officer, IRS
is in the process of accumulating these data. These officials stated that
IRS needs 3 years of actual costs to have the historical data that would
provide a basis for future budget estimates. Accordingly, these officials
expected that IRS would begin using the IFS activity-based cost module in
formulating the fiscal year 2008 budget request and would have the
requisite 3 years' of historical data in time to develop the fiscal year
2010 budget request. In addition, IRS planned to develop a capital
planning guide to implement processes for capital planning and investment
control, budget formulation and execution, business case development, and
project prioritization. IRS has developed a draft guide, which is
currently under review by IRS executives, and IRS expects it to become
policy on October 1, 2005. Although progress has been made in implementing
best practices in the development of the IT operations and maintenance
budget, until these actions are completely implemented IRS will not be
able to ensure that its request is adequately supported.

Conclusions	As IRS shifts its priorities to enforcement and faces tight
budgets for service, the agency will be challenged to maintain the gains
it has made in taxpayer service. In order to avoid a "swinging pendulum,"
where enforcement gains are achieved at the cost of taxpayer service and
vice versa, IRS and the Congress would benefit from a set of agreed-upon
longterm goals. Long-term goals would provide a framework for assessing
budgetary tradeoffs between taxpayer service and enforcement and whether
IRS is making satisfactory progress towards achieving those goals.
Similarly, long-term goals could help identify priorities within the
taxpayer service and enforcement functions. For example, if the budget for
taxpayer service were to be cut and efficiency gains did not offset the
cut, long-term

24 GAO-02-704.

goals could help guide decisions about whether to make service cuts across
the board or target selected services. To its credit, IRS has been
developing a set of long-term goals, so we are not making a recommendation
on goals. However, we want to underscore the importance of making the
goals public in a timely fashion, as IRS has planned. The Congress would
then have an opportunity to review the goals and start using them as a
tool for holding IRS accountable for performance.

In addition, the Congress would benefit from more information about the
short-term impacts of the 2006 budget request on taxpayers. The 2006
budget request cites a need for reducing the hours of telephone service
and scaling back walk-in assistance but provides little additional detail.
Without more detail about how taxpayers will be affected, it is difficult
to assess whether the 2006 proposed budget would allow IRS to achieve its
stated intent of both maintaining a high level of taxpayer service and
increasing enforcement.

BSM and related initiatives such as electronic filing hold the promise of
delivering further efficiency gains that could offset the need for larger
budget increases to fund taxpayer service and enforcement. Today,
taxpayers have seen payoffs from BSM; however, the program is still high
risk and budget reductions have caused substantive program changes. IRS
has recognized it is time to revisit its long-term BSM strategy and is
currently refocusing the program. As we did with long-term goals above, we
want to underscore the importance of timely completion of the revision of
the BSM strategy.

Recommendation	In a related statement (GAO-05-416T), GAO recommended that
the Commissioner of Internal Revenue supplement the 2006 budget request
with more detailed information on how proposed service reductions would
impact taxpayers.

Appendix I

Description of IRS's Proposed Budget Structure

IRS's proposed new budget structure as depicted in figure 7 combines the
three major appropriations that the agency has had in the past-
Processing, Assistance, and Management; Tax Law Enforcement; and
Information Systems into one appropriation called Tax Administration and
Operations. The Business Systems Modernization and Health Insurance Tax
Credit Administration appropriations accounts remain unchanged. The Tax
Administration and Operations appropriation is divided among eight
critical program areas. These budget activities focus on Assistance,
Outreach, Processing, Examination, Collection, Investigations, Regulatory
Compliance, and Research. According to IRS, as it continues to move
forward with developing and implementing this new structure, these program
areas and the associated resource distributions will be refined to provide
more accurate costing.

IRS reported that the new budget structure has a more direct relationship
to its major program areas and strategic plan. We did not evaluate IRS's
proposed budget structure as part of this engagement because it was not
within the scope of our review. However, we have recently completed a
study on the administration's broader budget restructuring effort. In that
study we say that, going forward, infusing a performance perspective into
budget decisions may only be achieved when the underlying information
becomes more credible and used by all major decision makers. Thus, the
Congress must be considered a partner. In due course, once the goals and
underlying data become more compelling and used by the Congress, budget
restructuring may become a better tool to advance budget and performance
integration.1

1 For a more detailed discussion, see GAO, Performance Budgeting: Efforts
to Restructure Budgets to Better Align Resources with Performance,
GAO-05-117SP (Washington, D.C.: February 2005).

Appendix I Description of IRS's Proposed Budget Structure

                   Figure 5: IRS's Proposed Budget Structure

Source: GAO representation of IRS information.

Appendix II

  BSM Project Life Cycle Cost/Schedule Variance and Benefits Summary

The table below shows the life-cycle variance in cost and schedule
estimates for completed and ongoing Business Systems Modernization (BSM)
projects, based on data contained in IRS's expenditure plans. These
variances are based on a comparison of IRS's initial and revised (as of
July 2004) cost and schedule estimates to complete initial operation1 or
full deployment2 of the projects.

  Table 4: BSM Project Life Cycle Cost/Schedule Variance and Benefits Summary

                       Reported/                           
                 Cost    revised Schedule Reported/revised 
             variance  estimated variance        estimated 
                            cost                           
                                                                     Reported 
                  (in        (in (in                             IRS/taxpayer 
Project thousands) thousands) months)   completion date           benefits 

Completed projects

     Security and   +$8,450 $45,401   +5      1/31/02 Provides infrastructure 
                                                      for secure              
      Technology                         (initial               telephony and 
                                         operation)a   electronic interaction 
    Infrastructure                                     among IRS employees,   
                                                                tax           
      Release 1                                         practitioners, and    
                                                            taxpayers.        
       Customer     +14,562 60,762    +9                     Improves         
                                              2/26/02   telecommunications    
    Communications                              (full infrastructure,         
                                          deployment) including telephone     
                                                      call management, call   
                                                      routing, and            
                                                      customer self-service   
                                                      applications.           
       Customer      -721             +3              Provides commercial,    
                             9,245            9/30/02 off-the-shelf           
     Relationship                               (full software to IRS revenue 
                                          deployment) agents to               
Management Exam                                    allow them to           
                                                      accurately compute      
                                                         complex corporate    
                                                           transactions.      
Human Resources   +200              0              Allows IRS employees to 
                            10,200           12/31/02         access          
       Connect                           (initial      and manage their human 
                                         operation)a                resources 
      Release 1                                         information online.   
                                     +14              Provides instant refund 
Internet Refund/ +12,923 26,432            9/26/03         status          
    Fact of Filing                              (full     information and     
                                          deployment)    instructions for     
                                                         resolving refund     
                                                            problems to       
                                                      taxpayers with Internet 
                                                              access.         
      Modernized                    +6.5                 Provides initial     
                    +21,057 50,303            5/31/04    electronic filing    
e-File Release 1                      (initial      capability for large   
                                         operation)a       corporations,      
                                                        small business, and   
                                                            tax-exempt        
                                                          organizations.      

1 Initial operation refers to the point at which a project is authorized
to begin enterprisewide deployment.

2 Full deployment refers to the point at which enterprisewide deployment
has been completed and a project is transitioned to operations and
support.

                                  Appendix II
                      BSM Project Life Cycle Cost/Schedule
                         Variance and Benefits Summary

                         (Continued From Previous Page)

                       Reported/                           
                 Cost    revised Schedule Reported/revised 
             variance  estimated variance        estimated 
                            cost                           
                                                                     Reported 
                  (in        (in (in                             IRS/taxpayer 
Project thousands) thousands) months)   completion date           benefits 

                                Ongoing projects

      Modernized    0 16,325 0             9/30/04        Provides additional 
                                                             functionality to 
e-File Release 2            (initial operation) support corporate          
                                                   electronic filing          
                                                   and other capabilities,    
                                                   including                  
                                                   required public access to  
                                                             filed            
                                                    returns for tax- exempt   
                                                         organizations.       

      Modernized    +5,300 27,175 0     3/31/05           Provides additional 
                                                             functionality to 
e-File Release 3                 (initial    support electronic filing for 
                                    operation)              tax-              
                                                  exempt organizations and    
                                                            other             
                                                  capabilities, including the 
                                                                    interface 
                                                with state retrieval systems. 

e-Services +102,271 148,820 +18           4/30/05    Provides a Web portal 
                                                                 and other e- 
                                   (full deployment) Services to promote the  
                                                             goal of          
                                                     conducting most IRS      
                                                     transactions             
                                                       with taxpayers and tax 
                                                                practitioners 
                                                         electronically.      

Customer Account +118,129 182,774 +30      6/30/05 Provides the modernized 
                                                                     database 
    Data Engine -                        (full        foundation to replace   
                                         deployment)  the existing            
      Individual                                      individual master file  
        Master                                              processing        
    File Release 1                                    systems. Facilitates    
                                                      faster refund           
                                                        processing and more   
                                                              timely          
                                                      response to taxpayer    
                                                      inquiries for           
                                                        Form 1040EZ filers.   

     Integrated   +73,710 173,580 +15      6/30/05  Provides a single general 
     Financial                                                     ledger for 
System Release                     (full        custodial and financial    
         1                            deployment)  data and a                 
                                                   platform to integrate core 
                                                   financial                  
                                                            data with budget, 
                                                             performance, and 
                                                     cost-accounting data.    

Custodial  +91,789 138,950 +33     11/01/05        Provides integrated tax 
                                                                   operations 
Accounting                     (full           and internal management     
    Project                       deployment)  
Release 1                                       information to support     
                                                          evolving            
                                               decision analytics,            
                                               performance                    
                                               measurement, and management    
                                                     information needs.       

Source: GAO analysis of IRS data.

aInformation on the costs and schedule for the full-deployment stage of
these projects was not available in the BSM expenditure plans.

Appendix III

  How IRS Allocated Expenditures FTEs in Fiscal Year 2004

Figures 6 and 7 illustrate how the Internal Revenue Service (IRS)
allocated expenditures and full-time equivalents (FTEs) in fiscal year
2004. Figure 8 shows total expenditures. The percentage of expenditures
devoted to contracts decreased from 9 percent in 2002 to 5 percent in
2004, because of fewer private contracts. The percentage of expenditures
devoted to other non-labor costs increased from 8 percent in 2002 to 12
percent in 2004, according to IRS officials, due to of increases in
miscellaneous costs.

                 Figure 6: IRS expenditures in fiscal year 2004

Communications and utilities $.37 billion

Contracts $.54 billion

Equipment $.54 billion

Rent $.67 billion

Other nonlabor costs $1.31 billion

Labor $7.2 billion Total expenditures $10.7 billion

Note: Numbers do not add to the total and percentages do not add to 100
percent due to rounding.

Figure 9 shows IRS's total FTEs. Since 2002, FTEs have decreased slightly
from 99,180 in 2002 to 99,055 in 2004. We previously reported that
processing FTEs declined 1 percentage point between 2002 and 2003. Between
2003 and 2004, IRS's allocation of FTEs remained similar but with a 1
percent increase in enforcement activities in conducting examinations, and
in management and other services.

Appendix III How IRS Allocated Expenditures FTEs in Fiscal Year 2004

Figure 7: How IRS spent 99,055 FTEs in fiscal year 2004

13,658 FTEs processing tax returns
46,175 FTEs ensuring compliance with the tax law
18,656 FTEs supplying program support

                       Source: GAO analysis of IRS data.

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