Foreign Assistance: Controls Over U.S. Funds Provided for the Benefit of
the Palestinian Authority (Letter Report, 01/08/96, GAO/NSIAD-96-18).

A series of letters allegedly prepared by the Palestinian Authority's
Finance Minister and the Director General of the Palestine Economic
Council for Development and Reconstruction (PECDAR) indicates that $138
million from unidentified sources was "diverted" in late 1994 to finance
several covert transactions. These transactions include purchasing land
and building apartments in Jerusalem, funding a Palestinian journal, and
providing financial support to groups inside Israel that are sympathetic
to the Palestinian cause. In response to Congressional concerns that
U.S. assistance may have been involved in these transactions, this
report discusses (1) the financial controls established by the World
Bank and the U.S. Agency for International Development to monitor the
use of U.S. funds provided to the Palestinian Authority, PECDAR, or the
Palestine Liberation Organization officials for budget support purposes
and (2) what controls the U.S. Agency for International Development
established over project funds provided to other U.S. government
agencies, private contractors, nongovernmental organizations, private
voluntary organizations, and the United Nations for the benefit of the
Palestinian Authority.

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

 REPORTNUM:  NSIAD-96-18
     TITLE:  Foreign Assistance: Controls Over U.S. Funds Provided for 
             the Benefit of the Palestinian Authority
      DATE:  01/08/96
   SUBJECT:  Technical assistance
             International relations
             International agreements
             Cooperative agreements
             Foreign financial assistance
             Foreign governments
             Law enforcement personnel
             Internal controls
             Auditing procedures
IDENTIFIER:  Holst Fund
             West Bank
             Gaza
             
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Cover
================================================================ COVER


Report to Congressional Requesters

January 1996

FOREIGN ASSISTANCE - CONTROLS OVER
U.S.  FUNDS PROVIDED FOR THE
BENEFIT OF THE PALESTINIAN
AUTHORITY

GAO/NSIAD-96-18

Foreign Assistance

(711152)


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

  NGO - ongovernmental organizations
  PECDAR - Palestine Economic Council for Development and
     Reconstruction
  PLO - Palestine Liberation Organization
  PVO - Private Voluntary Organizations
  USAID - U.S.  Agency for International Development

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


B-265866

January 8, 1996

The Honorable Jesse A.  Helms
Chairman, Committee on Foreign
 Relations
United States Senate

The Honorable Benjamin A.  Gilman
Chairman, Committee on International
 Relations
House of Representatives

Your June 6, 1995, letter requested that we analyze a series of
letters that allegedly were prepared by the Palestinian Authority's
Finance Minister and the Director General of the Palestine Economic
Council for Development and Reconstruction (PECDAR).  These letters
indicate that $138 million from an unidentified source(s) was
"diverted" in late 1994 to finance a number of covert transactions,
such as purchasing land and building apartments in Jerusalem, funding
a Palestinian journal, and providing financial support to groups
inside Israel sympathetic to the Palestinian cause. 

To address your general concern that U.S.  assistance funds may have
been involved in one or more of these transactions, we ascertained
(1) what financial controls were set up by the World Bank and the
U.S.  Agency for International Development (USAID) to monitor the use
of U.S.  funds provided to Palestinian Authority, PECDAR, or
Palestine Liberation Organization (PLO) officials for budget support
purposes and (2) what controls USAID established over project funds
provided to other U.S.  government agencies, private contractors,
nongovernmental organizations (NGO), private voluntary organizations
(PVO), and the United Nations for the benefit of the Palestinian
Authority. 

We did not examine whether the letters are authentic since you asked
the Central Intelligence Agency to make that determination.  We did
not have the authority to review whether the funds spent by other
donor nations for Palestinian Authority police salaries and project
assistance were at risk.  Other nation funding accounted for
approximately three-quarters of the estimated $389 million in total
donor disbursements in 1994.  Our report focuses on the estimated $51
million the United States disbursed in 1994:  $10 million to the
World Bank's Holst Fund,\1 $5 million to help pay for Palestinian
Authority police salaries, and $36 million for specific development
projects. 


--------------------
\1 The World Bank established the Holst Fund as a central repository
for donations to help the Palestinian Authority pay start-up expenses
and short-term operating costs.  The World Bank is responsible for
overseeing the use of these funds on behalf of the contributing
donors.  In 1994, the Holst Fund disbursed approximately $51 million
to the Palestinian Authority and PECDAR.  This total includes a
$10-million contribution from the United States. 


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

Accountability concerns over the use of U.S.  funds for budget
support purposes should be mitigated by the extensive financial
controls implemented by the World Bank and USAID.  Most notably,
donor funds provided to the World Bank's Holst Fund in 1994 were
audited and accounted for by a team of Touche Ross, Saba & Co.,
auditors located in Israel and the self-rule territories.  According
to Bank officials, Touche Ross agents reviewed 10 percent of all
salary payments, 25 percent of all other payments, and all contracts
valued in excess of $25,000 in 1994.  In the case of the $5 million
the United States spent on Palestinian Authority police salaries in
1994, USAID hired an Egyptian audit firm to accompany the PLO's
paymaster to verify individual payment records and to provide an
overall accounting of disbursed funds. 

USAID project assistance funds were distributed to a wide variety of
recipients, including other U.S.  government agencies, private
contractors, NGOs, PVOs, and the United Nations.  No project funds
were directly disbursed to Palestinian Authority, PECDAR, or PLO
officials.  USAID's contracts, grants, cooperative agreements, and
memorandums of understanding with funds recipients incorporated
standard U.S.  assistance provisions, such as (1) grant and project
officer oversight, (2) incremental funding, (3) monthly or quarterly
financial status reports, (4) progress reports, and (5) auditing
provisions.  USAID's audit provisions call for annual audits of each
contractor's overhead rate, contract-specific audits on an as-needed
basis, and close-out audits of all contracts valued in excess of
$500,000 (all USAID contracts exceeded this threshhold).  Nonprofit
organizations receiving funds through grants and cooperative
agreements are subject to the Office of Management and Budget's A-133
audit process. 


   BUDGET SUPPORT VERSUS PROJECT
   ASSISTANCE
------------------------------------------------------------ Letter :2

The financial assistance pledged by the United States and other
nations after the PLO and Israel signed the Declaration of Principles
may be divided into two broad categories:  (1) infrastructure and
technical assistance projects and (2) budget support to help finance
the Palestinian Authority's operating expenses.  Individual donor
projects cover a wide range of infrastructure and technical
assistance needs.  These needs include housing construction;
wastewater plants; health services; jobs programs; and technical
assistance in such areas as establishment of a legal system; studies
to modernize and strengthen the financial sector; and training for
Palestinian staff in the electric, water, highway, and sanitation
sectors. 

The budget support category was established to help the Palestinian
Authority meet its operating expenses while it established its own
revenue collection system and revenue clearance arrangements with
Israel.  It includes three components:  (1) the World Bank's Holst
Fund; (2) police salaries funneled through the U.N.  Relief and Works
Agency; and (3) transitional costs funded by individual donor nations
to help support a number of activities.\2

Table 1 shows total donor disbursements in 1994 by assistance
category and major distribution channels.  As indicated, the budget
support category accounted for 38 percent of total donor
disbursements. 



                                Table 1
                
                   Donor Disbursements by Assistance
                Category and Major Distribution Channels
                                for 1994

                         (Dollars in millions)

                             Disbursement
Assistance category                     s  Major distribution channels
---------------------------  ------------  ---------------------------
Infrastructure and <             b>$240.8  Bilateral aid projects,
 technical assistance        (62 percent)   U.N. Relief and Works
 projects total                             Agency, U.N. Development
                                            Program, and the World
                                            Bank

Budget support
----------------------------------------------------------------------
Holst Fund                           50.9  World Bank
Police recurrent costs               40.9  U.N. Relief and Works
                                            Agency\a
Transitional projects
Central administration               16.8  European Union, U.N.
                                            Development Program
Ex-detainees                          8.4  European Union
Gaza employment                       8.6  U.N. Development Program
 creation
NGO financing                        22.4  European Union
======================================================================
Total                              $148.0
                             (38 percent)
======================================================================
Total                              $388.8
----------------------------------------------------------------------
\a Initially, the United States and several other donors provided
funds directly to the PLO or Palestinian Authority to cover police
salaries and equipment needs.  Later, the U.N.  Relief and Works
Agency was selected to centrally manage and oversee donor donations
to the police force. 

Table 2 shows total U.S.  fiscal year 1994 disbursements by
assistance category and major distribution channels. 



                                Table 2
                
                    U.S. Disbursements by Assistance
                Category and Major Distribution Channels
                          for Fiscal Year 1994

                         (Dollars in millions)

                             Disbursement
Assistance category                     s  Major distribution channels
---------------------------  ------------  ---------------------------
Infrastructure and                $27.8\a  USAID grantees (i.e., PVOs,
 technical assistance        (65 percent)   NGOs, other federal
 projects total                             agencies, World Bank, U.N.
                                            Relief and Works Agency)
                                            and for-profit contractors

Budget support
----------------------------------------------------------------------
Holst Fund                           10.0  USAID grant to the World
                                            Bank
Police recurrent costs                5.0  USAID grant to the PLO\b
Transitional projects
NGO financing                         0.2  USAID grant to the
                                            Palestinian Housing
                                            Council
======================================================================
Total                               $15.2
                             (35 percent)
======================================================================
Total                               $43.0
----------------------------------------------------------------------
Note:  We used fiscal year data since USAID officials could not
provide us with detailed expenditure data for calendar year 1994. 
The calendar year data used earlier in this report was based on a
global estimate by USAID officials that the United States spent a
total of $51 million in calendar year 1994 on budget support and
project assistance. 

\a Figure includes an estimated $3.3 million in political risk
insurance issued by the Overseas Private Investment Corporation.  It
also includes $3.2 million in other agency funding attributed to U.S. 
assistance efforts. 

\b Grant awarded prior to the U.N.  Relief and Works Agency's
involvement in disbursing and monitoring police salaries.  Grant was
made to the PLO for the benefit of the Palestinian Authority. 


--------------------
\2 These transitional costs include (1) central administration costs
not covered by the Holst Fund; (2) resettlement of prisoners released
by Israel; (3) job creation efforts in Gaza--principally organized
through the U.N.  Development Program; and (4) temporary NGO support
services in the health, education, and agriculture sectors and in
youth and women's programs. 


   CONTROLS OVER BUDGET SUPPORT
   FUNDS
------------------------------------------------------------ Letter :3

As indicated in table 2, U.S.  assistance funds were distributed
through bilateral aid recipients, the United Nations, World Bank, and
other U.S.  agencies.  Most U.S.  assistance funds could not be
directly accessed by Palestinian Authority or PECDAR officials.  Two
major exceptions were in the budget support category.  First, the
United States provided a $10-million grant to the World Bank's Holst
Fund to help cover the Palestinian Authority's start-up and
short-term operating expenses.  Second, the United States provided a
$5-million grant to the PLO on behalf of the Palestinian Authority to
cover police salaries.  In each case, Palestinian Authority, PECDAR,
or PLO officials did have direct access to these funds through
special accounts set up by the World Bank and USAID.  However, in
each instance, extensive controls were established to oversee
disbursed funds. 


      WORLD BANK CONTROLS
---------------------------------------------------------- Letter :3.1

The World Bank implemented several controls over the use of Holst
Fund donations.  First, the Bank established a grant agreement with
PECDAR stipulating certain categories of eligible expenditures and
expectations regarding funds accountability and oversight procedures. 
Second, Holst Fund accounts accessible to Palestinian Authority and
PECDAR officials were capped to make the level of monthly
expenditures consistent with the Palestinian Authority's budget
needs.  Third, the firm of Touche, Ross, Saba & Co., was hired to act
as the Bank's auditor in the field.  According to a senior World Bank
official, the firm reviewed 10 percent of salary payments and 25
percent of all other payments to ensure that expenses were properly
documented and that funds were only used for approved purposes.  In
addition, Touche Ross individually examined all contracts valued in
excess of $25,000.  The same official noted that the auditors also
performed spot checks of individuals receiving salary checks and
goods or services received.\3

Fourth, the Bank only released additional funds to the Holst Fund
accounts after the auditors approved the replenishment requests filed
by the Palestinian Authority and PECDAR.  According to a senior World
Bank official, this process had accounted for all Holst Fund
disbursements through June 1995.\4


--------------------
\3 Both USAID and the World Bank indicated that they intend to review
Touche Ross' compliance with its contract terms.  The USAID Inspector
General plans to review the auditor's oversight activities in
connection with a broad review of World Bank financial controls
related to the disbursement of U.S.  assistance.  USAID is currently
seeking approval for this audit.  Per its grant agreement with USAID,
the World Bank must arrange for an external audit of the records and
accounts maintained by Touche Ross with respect to approved
expenditures.  A Bank official stated that this audit is tentatively
planned for early 1996. 

\4 The Holst Fund did encounter certain problems in early 1995 that
appear to have been satisfactorily resolved.  These problems related
to the use of bank overdrafts by the Palestinian Authority to help
cover operating expenses that exceeded the monthly funding levels
provided by the Holst Fund.  This led to a commingling of donor and
Palestinian Authority funds.  To resolve this situation, the Bank
closed the Palestinian Authority's accounts in June 1995 after
receiving certified replenishment requests that met or exceeded the
total amount advanced into each account.  New accounts were
subsequently opened that explicitly forbid the use of overdrafts and
the commingling of funds. 


      USAID CONTROLS
---------------------------------------------------------- Letter :3.2

The U.S.  contribution of $5 million toward police salaries was made
directly to the PLO on behalf of the Palestinian Authority because
the disbursement system managed by the U.N.  Relief and Works Agency
was not in place when these funds were made available.  The United
States did, however, contract with the Egyptian audit firm of Farid
S.  Mansour & Co., to monitor the disbursement of these funds.  The
auditor reported that the $5 million was appropriately disbursed and
used only for the intended purposes.  The United States does not plan
to provide any further funding for police salaries. 


   CONTROLS OVER PROJECT FUNDS
------------------------------------------------------------ Letter :4

As noted in table 2, USAID funds for infrastructure and technical
assistance projects were disbursed through four main vehicles:  (1)
direct contracts with for-profit organizations, (2) grants and
cooperative agreements with PVOs and NGOs, (3) grant agreements with
the World Bank and United Nations, and (4) USAID project funds
provided to other U.S.  government agencies.  In all these instances,
Palestinian Authority, PECDAR, and PLO officials did not have direct
access to U.S.  assistance funds. 

As a standard practice, USAID dispenses funds through contracts,
grants, cooperative agreements, or memorandums of understanding. 
These documents stipulate the funded amount; the purpose and scope of
the funded activity; procedures for requesting and receiving
incremental funding; and provisions relating to project oversight,
funds accountability, and audit requirements.\5 These standard
oversight mechanisms also apply to grants to international
organizations such as the World Bank and the United Nations, although
the active involvement of USAID project and grant officers is reduced
since each of these organizations has its own field staff and project
monitoring structure.  In the case of agreements between USAID and
another U.S.  agency, the receiving agency is responsible for the
use, management, and audit of transferred funds. 

As a general rule, USAID grantees and contractors are paid after the
cognizant project officer has reviewed the recipient's monthly or
quarterly expenditure claim.\6 Although these expenditure vouchers
show only line-item totals, project officers must certify that the
claimed amounts look reasonable based on project reports and their
on-site visits. 

USAID contractors are audited by the U.S.  government agency that has
the most business with that contractor.  The three types of audits
commonly performed on all USAID-funded contracts are annual audits of
the contractor's overhead rate, contract-specific audits on an
as-needed-basis, and close-out audits for contracts valued in excess
of $500,000. 

Nonprofit organizations receiving U.S.  funding are also periodically
audited under the Office of Management and Budget's A-133 audit
process.  International organizations use their own audit procedures
and provide copies of final audit reports to cognizant USAID
officials.  A-133 audits include a review of the recipient's internal
controls and a sample of contracts and line-item expenses.  A-133 and
direct contract audits are performed either by Inspector General
staff from the cognizant audit agency or by approved U.S.  or foreign
audit firms with a review by Inspector General staff.  In addition to
the A-133 and contract audit, the Inspector General periodically
performs program audits that supplement the standard audits performed
for individual recipients of U.S.  assistance.\7


--------------------
\5 Project oversight is mainly provided by a cognizant USAID project
officer who is responsible for all programmatic aspects of the
project and a USAID grant officer who is responsible for monitoring
pre-award activities and post-award financial data.  Project officer
duties include reviewing periodic financial and progress reports from
the aid recipient as well as conducting site visits to confirm that
funded activities are performing as expected.  USAID has offices in
Tel Aviv and Jerusalem to monitor project activities in the area. 
USAID grant officers are stationed in Amman, Jordan. 

\6 The U.S.  contribution to the World Bank's Holst Fund was an
exception to this rule since the funded amount was disbursed in two
lump sums of $5 million.  This was done because the Holst Fund was
established to serve as a repository for donor contributions that
could not be earmarked for specific project activities. 

\7 For example, the USAID Inspector General recently issued a report
on whether (1) USAID's offices in the West Bank and Gaza are capable
of monitoring USAID's programs in the area and (2) PVOs receiving
U.S.  assistance have the capability to implement USAID programs.  On
the whole, the Inspector General's report concluded that adequate
capabilities exist in each case.  USAID staff also indicated that the
Regional Inspector General in Cairo plans to examine the controls the
Palestinian Authority has put in place and its ability to ensure
accountability of funds it receives and manages. 


   AGENCY COMMENTS
------------------------------------------------------------ Letter :5

USAID officials provided us with oral comments on a draft of this
report.  These officials agreed with the report's presentation, but
they did note a limited number of technical points, which they
believed needed to be corrected or clarified.  We incorporated these
technical changes where appropriate. 


   SCOPE AND METHODOLOGY
------------------------------------------------------------ Letter :6

To obtain information for this report, we met with officials at the
State Department and USAID to discuss their analyses of the same
letters you sent us.  We also met with USAID officials to discuss the
types of controls in place to ensure that U.S.  assistance funds were
used only for their intended purposes.  We obtained copies of a
number of contracts, grants, cooperative agreements, and memorandums
of understanding to see whether standard financial controls were
incorporated into these documents. 

We did not review USAID project records and field activities to
determine whether described controls were effectively implemented. 
However, we did ask USAID officials to provide data on the
implementation of oversight controls for 10 projects funded by USAID
in the West Bank and Gaza in 1994.  Citing end-of-fiscal year work
demands and the absence of key staff, USAID indicated that it could
not provide us with the requested data in a timely manner.  In
commenting on a draft of this report, USAID officials indicated that
had they been given additional time, they could have responded to our
data request.  Based on discussions with the Senate Committee on
Foreign Relations staff, we intend to follow up with USAID officials
to obtain this data.  We will report the results of this effort in a
separate report. 

We met with World Bank officials to review the financial controls
used to ensure that donor funds provided to the Palestinian Authority
and PECDAR were appropriately used.  Planned audits by the World Bank
and USAID's Inspector General should document whether the Bank's
auditors properly implemented applicable control procedures. 

We did not review the financial controls used by the U.N.  Relief and
Works Agency to monitor the disbursement of donor support for police
salaries.  We also did not review the controls developed by other
nations to account for the use of their project funds. 

We conducted our review from July through August 1995 in accordance
with generally accepted government auditing standards. 


---------------------------------------------------------- Letter :6.1

We are sending copies of this report to the Administrator, U.S. 
Agency for International Development; the Director, Office of
Management and Budget; and other interested congressional committees
and members.  Copies will also be made available to others upon
request. 

This report was prepared under the direction of Benjamin F.  Nelson,
Director, International Relations and Trade Issues.  Other major
contributors to this report were Diana Glod, Assistant Director and
Michael ten Kate, Evaluator-in-Charge.  Please contact Ms.  Glod at
(202) 647-1588 if you or your staff have any questions about this
report. 

Henry L.  Hinton, Jr.
Assistant Comptroller General

*** End of document. ***