IRS accounting system cumbersome despite updates

Closing the annual financial books at the Internal Revenue Service requires a massive effort to compensate for outdated systems, despite the tax agency's successful implementation last year of a modernized system for internal administrative transactions.

In an audit (GAO-06-137) examining fiscal 2004 and fiscal 2005 financial statements, the Government Accountability Office lauded the IRS for implementing the new system, known as the Integrated Financial System.

But only the first phase of IFS has been implemented, and it is not integrated with tax administration accounts, GAO said.

Auditors gave the IRS an unqualified audit opinion for the sixth year in a row, but noted a heavy reliance on outdated systems and said information security remains weak.

IFS is part of the tax agency's ongoing $10 billion effort to update its internal and tax processing systems. Solving the IRS's financial management problems "depends largely on the ultimate success" of the modernization, the GAO report stated.

The integrated system so far has improved audit trails and provides more timely information on activities and transactions including purchases of goods and services. But the IRS "again had to rely extensively on resource-intensive compensating processes" to prepare the comprehensive financial statements, GAO said.

The IRS said in a statement that it "recognizes it must upgrade the IFS software to achieve further financial system improvements." The agency will consider additional funding for the project "as part of its annual strategic assessment and budget formulation process."

Once troubled, the IRS's modernization project is now on track and producing results for the agency. But improvements came too late to prevent Congress from slashing almost a third from the modernization budget in fiscal 2005 and keeping the funding level at that relatively low level during fiscal 2006.

Because they lost about $85 million, modernization officials put on hold further updates to IFS and permanently shut down another project, the Custodial Accounting Project, which would have connected IFS with the tax administration database.

When Congress first made cuts to the IRS' modernization budget, agency officials said their top priority would be funding the Customer Data Account Engine, a replacement for the 40-year-old Master File tax administration system, which depends on an obsolete computer language and runs on magnetic tape.

CADE processed 1.3 million tax returns over the first four months of this year and accelerated refund processing, according to a July Treasury Inspector General Tax Administration report.

IRS's decision to focus on CADE at the expense of its internal financial processing systems is understandable, said Stephen Holden, a former IRS modernization program director who is now an assistant professor of information systems at the University of Maryland-Baltimore County.

"All the benefits that accrue from CADE, they're much more tangible, they're much more visible to the public," Holden said. At the same time, having to choose between upgrading internal financial systems and working on CADE is "almost an untenable choice for them to make," he said. "They're both infrastructure investments."

In CAP's place, the IRS in March began another project called the Custodial Detail Data Base, which it says will address some audit weaknesses through creation of a ledger for unpaid taxes. CAP's replacement project should link to the Master File during fiscal 2006, and subject to funding, will also link to CADE in fiscal 2007.