GAO-18-165, Accessible Version, FINANCIAL AUDIT: IRS's ...

United States Government Accountability Office

Report to the Secretary of the Treasury

November 2017

FINANCIAL AUDIT

IRS's Fiscal Years 2017 and 2016 Financial Statements

Accessible Version

GAO-18-165

Highlights of GAO-18-165, a report to the Secretary of the Treasury

November 2017

FINANCIAL AUDIT

IRS's Fiscal Years 2017 and 2016 Financial Statements

Why GAO Did This Study

In accordance with the authority conferred by the Chief Financial Officers Act of 1990, as amended, GAO annually audits IRS's financial statements to determine whether (1) the financial statements are fairly presented and (2) IRS management maintained effective internal control over financial reporting. GAO also tests IRS's compliance with selected provisions of applicable laws, regulations, contracts, and grant agreements.

IRS's tax collection activities are significant to overall federal receipts, and the effectiveness of its financial management is of substantial interest to Congress and the nation's taxpayers.

What GAO Recommends

Based on prior financial statement audits, GAO made numerous recommendations to IRS to address internal control deficiencies. GAO will continue to monitor and will report separately on IRS's progress in implementing prior recommendations that remain open. Consistent with past practice, GAO will also be separately reporting on the new internal control deficiencies identified in this year's audit and providing IRS recommendations for corrective actions to address them.

In commenting on a draft of this report, IRS stated that it is dedicated to continuing to improve its financial management, internal controls, and information security.

What GAO Found

In GAO's opinion, the Internal Revenue Service's (IRS) fiscal years 2017 and 2016 financial statements are fairly presented in all material respects. However, in GAO's opinion, IRS did not maintain effective internal control over financial reporting as of September 30, 2017, because of a continuing material weakness in internal control over unpaid assessments. GAO's tests of IRS's compliance with selected provisions of applicable laws, regulations, contracts, and grant agreements detected no reportable instances of noncompliance in fiscal year 2017.

The continuing material weakness in internal control over unpaid assessments was primarily caused by financial system limitations and other control deficiencies that rendered IRS's systems unable to properly distinguish between federal taxes receivable, compliance assessments, and write-offs, as necessary to determine reliable balances for financial reporting purposes. To compensate for these deficiencies, IRS applied a statistical estimation process to determine the amount of federal taxes receivable, net, which is the largest asset on IRS's balance sheet. Through this estimation process, IRS recorded a significant adjustment of $13 billion to the 2017 fiscal year-end gross federal taxes receivable balance produced by its financial systems. In response to GAO's recommendations from prior audits, IRS has taken actions over the years to address this material weakness, including establishing a task force to improve unpaid assessments data quality. However, further enhancements to IRS's financial systems are needed to address the continuing issues with the accuracy of tax records, enable IRS to record reliable taxes receivable transaction detail, improve IRS's ability to effectively manage taxpayers' accounts, and reduce taxpayer burden.

During fiscal year 2017, IRS continued to make progress in addressing deficiencies in internal control over its financial reporting systems. However, continuing and newly identified control deficiencies in IRS's information security placed IRS systems and data at risk. Collectively, these deficiencies represent a significant deficiency in IRS's internal control over financial reporting systems. Until IRS takes the necessary steps to address these deficiencies in controls, its financial reporting and taxpayer data will remain at increased risk of inappropriate and undetected use, modification, or disclosure.

In addition to its internal control deficiencies, IRS faces significant ongoing financial management challenges related to (1) safeguarding taxpayer receipts and associated information, (2) preventing and detecting fraudulent refunds based on identity theft, and (3) implementing the tax-related provisions of the Patient Protection and Affordable Care Act. The difficulties confronting IRS in its efforts to effectively manage each of these challenges are further magnified by the need to do so in an environment of diminished resources.

View GAO-18-165. For more information, contact Cheryl E. Clark at (202) 512-3406 or clarkce@.

United States Government Accountability Office

Contents

Letter

1

Independent Auditor's Report

3

Report on the Financial Statements and on Internal Control over

Financial Reporting

4

Report on Compliance with Laws, Regulations, Contracts, and

Grant Agreements

20

Agency Comments

21

Management's Discussion and Analysis

23

Mission and Organizational Structure

23

Strategic and Performance Goals

27

Major Trends

28

Core Responsibilities

29

State of the IRS Workforce

30

Preparing for the Future

32

Major Accomplishments

34

Traditional Services

40

FY 2017 Compliance Activity

41

Implementing Legislation

45

Passport Denial and Revocation

48

Ongoing and Future Challenges

50

Financial Management Highlights

53

Funding by Appropriation ($ thousands)

55

Use of Resources

56

Overview of Revenue and Administrative Accounts

57

Excise Tax Trust Fund

58

MAJOR MANAGEMENT CHALLENGES AND HIGH-RISK AREAS 69

TIGTA Management and Performance Challenges

71

Appendix A

85

Appendix B

86

Appendix C

89

Appendix D

91

Financial Statements

94

Note 1. Summary of Significant Accounting Policies

7

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GAO-18-165 IRS's Fiscal Years 2017 and 2016 Financial Statements

Reporting Entity

7

Operating Divisions

7

Functional Divisions

7

Support Divisions

8

Major Programs

8

Basis of Accounting and Presentation

8

Fund Balance with Treasury

9

Other Assets

9

General Property and Equipment

11

Federal Tax Refunds Payable and Due from Treasury

12

Financing Sources and Revenues Appropriations Received

12

Program Costs

14

Custodial Activity

15

Funds from Dedicated Collections

15

Allocation Transfers

16

Fiduciary Activities

16

Employee Compensation and Benefits Accrued Annual, Sick, and

Other Leave

17

Note 2.

Fund Balance with Treasury 19

Note 3. Other Assets

20

Note 4. Cash and Other Monetary Assets

21

Note 5.

Federal Taxes Receivable, Net and Due to Treasury 22

Note 6.

Non-entity Assets 23

Note 7.

General Property and Equipment, Net 24

Deployed Internal Use Software

25

Work in Process Internal Use Software

26

Note 8. Liabilities Other Liabilities

27

2017

27

2016

28

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GAO-18-165 IRS's Fiscal Years 2017 and 2016 Financial Statements

Liabilities Not Covered by Budgetary Resources

29

Note 9.

Capital Leases

Leases 30

30

Note 10. Commitments and Contingencies

32

Note 11. Cost and Earned Revenue by Programs

33

2017 (In Millions)

33

2016 (In Millions)

33

Note 12. Statement of Budgetary Resources (SBR) New Obligations and Upward Adjustments

34

Explanation of Differences Between the FY 2016 SBR and the FY

2018 President's Budget

35

Undelivered Orders at the End of Period

36

Note 13. Collections of Federal Tax Revenue

37

Note 14. Federal Tax Refund and Outlay Activities

38

Note 15.Fiduciary Activities

39

Note 16. Reconciliation of Net Cost of Operations to Budget

41

Other Information

42

Refundable Tax Credits and Other Outlays

42

Other Outlays

45

Social Security and Medicare Taxes

46

Tax Expenditures

47

Tax Gap and Tax Burden

48

Appendix I: Management's Report on Internal Control over Financial Reporting

52

Appendix II: Comments from the Internal Revenue Service

55

Page iii

GAO-18-165 IRS's Fiscal Years 2017 and 2016 Financial Statements

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