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concerning the financial sanagement system's underlying data limitations, and
reliably determining, by January 6, 1997, the estimated
Also, IRS needs to revies and update current policies and procedures for maintaining documentation supporting accounts receivable, and where necessary, train employees to properly record detailed taxpayer transactions. Currently, IRS is reviewing its policies for retaining documentation supporting accounts receivable.
In addition, IRS will be challenged to fully meet the federal accounting standards for accounting for accounts receivable, which become effective for fiscal year 1998. IRS will need to
design its financial management system to analyze all outstanding amounts to properly identify and report valid accounts receivable and the amount expected to be collected;
track all activity affecting IRS' accounts receivable
-- provide dollar information about its compliance assessments. Accounting for Revenue
Our audit of IRS' fiscal year 1995 financial statements found that
the amounts of total revenue (reported to be $1.4 trillion for fiscal year 1995) and tax refunds (reported to be $122 billion for fiscal year 1995) could not be verified or reconciled to accounting records maintained for individual taxpayers in the aggregate, and
-- the amounts reported for various types of taxes collected
(social security, income, and excise taxes, for example)
Our financial audits have found that IRS' financial statement amounts for revenue, in total and by type of tax, were not derived from its revenue general ledger accounting system or its master files of detailed individual taxpayer records. The revenue accounting system does not contain detailed information by type of tax, such as individual income tax or corporate tax, and the master file cannot summarize the taxpayer information needed to support the amounts identified in the system. As a result, IRS relied without much success on alternative sources, such as
Treasury schedules, to obtain the summary total by type of tax needed for its financial statement presentation.
To substantiate the Treasury figures, our audits attempted to reconcile IRS" master files--the only detailed records available of tax revende collected--with Treasury records. For fiscal year 1994, for example, we found that IRS' reported total of $1.3 trillion for revende collections taken from Treasury schedules WAS $10.4 billion more than what was recorded in IRS master files. Because IRS was unable to satisfactorily explain, and we could not determine the reasons for this difference, the full magnitude of the discrepancy remains uncertain.
In addition to the difference in total revenues collected, we also found large discrepancies between information in IRS' master files and the Treasury data used for the various types of taxes reported in IRS* financial statements. For fiscal year 1994, for example, some of the larger reported amounts in IRS' financial statement for which IRS had insufficient support were $615 billion in individual taxes collected--this amount was $10.8 billion more than what was recorded in IRS' master files; $433 billion in social security insurance taxes collected--this amount was $5 billion less than what was recorded in IRS' master files; and $148 billion in corporate income taxes--this amount was $6.6 billion more than what was recorded in IRS' master files. Thus, IRS did not know and we could not determine if the reported amounts were correct. These discrepancies also further reduce our confidence in the accuracy of the amount of total revenues collected.
Causes of IRS' Revenue Accounting Problem Contributing to these discrepancies is a fundamental problem in the way tax payments are reported to IRS. About 80 percent, or about $1.1 trillion, of total tax payments are made by businesses and typically include (1) taxes withheld from employees checks for income taxes, (2) Federal Insurance Compensation Act (FICA) collections, and (3) the employer's matching share of FICA. IRS requires business taxpayers to make tax payments using federal tax deposit coupons.
The payment coupons identify the type of tax return to which they relate, such as a Form 941, Quarterly Wage and Tax Return, but do not specifically identify either the type of taxes being paid or the individuals whose tax withholdings are being paid. For example, a payment coupon indicating that a deposit relates to a Form 941 return can cover payments for employees' tax withholding, FICA taxes, and employers' FICA taxes. Because only the total dollars being deposited are indicated on the coupon, IRS knows that the entire amount relates to a Form 941 return but does not know how much of the deposit relates to the different kinds of taxes covered by that type of return.
Consequently, at the time tax payments are made, IRS is not provided information on the ultimate recipient of the taxes collected. Furthermore, the type of tax being collected is not distinguished early in the collection stream. This creates a massive reconciliation process involving billions of transactions and subsequent tax return filings.
For example, when an individual files a tax return, IRS initially accepts amounts reported as a legitimate record of a taxpayer's income and taxes withheld. For IRS' purposes, these amounts represent taxes paid because they cannot be readily verified to the taxes reported by an individual's employer as having been paid. At the end of each year, IRS receives information on individual taxpayers' earnings from the Social Security Administration. IRS compares the information from the Social Security Administration to the amounts reported by taxpayers with their tax returns. However, this matching process can take 2 and a half years or more to complete, making IRS' efforts to identify noncompliant taxpayers extremely slow and significantly hindering IRS' ability to collect amounts subsequently identified as owed from false or incorrectly reported amounts.
Consistent with this process, IRS' system is designed to identify only total receipts by type of return and not the entity which is to receive the funds collected, such as the General Fund at Treasury for employee income tax withholdings or the Social Security Trust Fund for FICA. Ideally, the system should contain summarized information on detailed taxpayer accounts, and such amounts should be readily and routinely reconciled to the detailed taxpayer records in IRS' master files.
Also, IRS has not yet established an adequate procedure to reconcile the revenue data that the system does capture with data recorded and reported by Treasury. Further, documentation describing what IRS' financial management system is programmed to do is neither comprehensive nor up-to-date, which means that IRS does not yet have a complete picture of the financial system's operations--a prerequisite to fixing the problems.
Beginning with our audit of IRS' fiscal year 1992 financial statements, we have made recommendations to correct weaknesses involving IRS' revenue accounting system and processes. They include
addressing limitations in the information submitted to IRS with tax payments by requiring that payments identify the type of 'taxes being collected,
implementing procedures to complete reconciliations of
documenting IRS' financial management system to identify and correct the limitations and weaknesses that hamper its ability to substantiate the revenue and refund amounts reported on its financial statements.
Short-term Fixes to Revenue Accounting Problems The problem of identifying collections by type of tax results from inherent limitations in IRS' present financial system. To correct this problem in the short-term, IRS has developed a methodology that uses software programs IRS believes will capture from its revenue financial management system the detailed revenue and refund transactions that would support reported amounts in its future financial statements. In short, this approach is directed at developing reasonable estimates of taxes by type of tax collected by using the capabilities of IRS' present systems. '
To reconcile IRS' tax revenue data with Treasury's balances, IRS' plans call for the extracts from these software programs to be available in accordance with the following schedule.
-- Data for the first 6 months of fiscal year 1996 will be
available by October 1, 1996.
Data for the entire fiscal year will be available by January 15, 1997.
To provide an allocation of taxes between Social Security, income, and excise taxes, IRS plans call for the extracts from these software programs to be available in the following timeframes.
-- Allocations for the first three quarters of fiscal year 1996
are due by November 30, 1996.
-- An allocation for the final quarter of fiscal year 1996 is
due by January 30, 1997.
Also, regarding the issue of reconciling accounting records with individual taxpayer accounts, IRS is trying to better understand the differences between its systems and Treasury's records. To gain this understanding, IRS plans to soon complete documentation of its revenue financial management system. This is critical to (1) aid in identifying better interim solutions for reporting revenues and refunds and (2) provide better insights on the longer term system fixes needed to enable IRS to readily and reliably provide the underlying support for its reported revenue and refund amounts.
Fixing Revenue Accounting Problem Long-term IRS has not yet put in place the necessary procedures to routinely reconcile activity in its summary accounting records with that maintained in its detailed masterfile records or taxpayer accounts. This
problem is further exacerbated by IRS' financial management system, which was not designed to support financial statement presentation, and thus significantly hinders IRS' ability to identify the ultimate recipient of collected taxes.
Longer term system fixes are necessary to achieve more reliable reporting of these amounts. In this regard, as part of Tax Systems Modernization, IRS has designed the Electronic Federal Tax Payment System (EFTPS), to electronically receive deposits from businesses. EFTPS is planned to be operational by the end of 1996. If implemented as designed, EFTPS will have the capability of collecting actual receipt information for excise and social security taxes.
However, not all employers will be required to use EFTPS to make their federal tax deposit payments. According to IRS officials, approximately 20 percent of the employers that make federal tax deposit payments will have the option of remaining with the current system, which provides limited information. Therefore, even if employers that use EFTPS are required to provide additional information on social security and excise taxes, to the extent that some businesses will still make deposits using the current system, IRS will not have the complete information it needs to determine collections from excise and social security taxes.
In addition, IRS will have to make changes to meet criteria for determining revenue that are contained in federal accounting standards, which will be effective for fiscal year 1998. This will require IRS to account for the source and disposition of all taxes in a manner that enables accurate reporting of cash collections and accounts receivable and appropriate transfers of revenue to the various trust funds and the general fund. TO achieve this, IRS' accounting system will need to capture the flow of all revenue-related transactions from assessment to ultimate collection and disposition.
Also, IRS' revenue accounting system does not meet the government's standard general ledger or other financial management systems requirements. According to IRS, these requirements are not being met because the revenue accounting system was designed more than 10 years ago to post transactions to taxpayers' accounts. IRS is in the initial stages of developing a new revenue financial accounting system which is expected to meet the government's standard general ledger and other financial management systems requirements. However, the new system is not expected to be completed until after 1998.