Military Pay
The Defense Finance and Accounting Service--Indianapolis Could Improve Control Activities over Its Processing of Active Duty Army Military Personnel Federal Payroll Taxes Gao ID: GAO-09-557R June 18, 2009GAO first designated DOD financial management as high risk in 1995. GAO's biennial reports on high-risk areas are meant to bring focus to specific areas needing added attention. Areas are identified, in some cases, as high risk due to their greater vulnerabilities to fraud, waste, abuse, and mismanagement. Since 1995, weaknesses in DOD's financial management have adversely affected not only the reliability of reported financial data, but also the efficiency and effectiveness of its business operations. The department has annually acknowledged that pervasive, long-standing weaknesses in business systems, processes, and controls have prevented auditors from determining the reliability of reported financial statement information. Weaknesses in Army military pay systems, processes, and controls have contributed to this problem. The Department of the Army paid about $4.7 billion in federal payroll taxes for approximately 638,900 active duty military servicemembers for calendar year 2007, from the active duty Army military personnel appropriation. The Secretary of the Army relies on the Defense Finance and Accounting Service-Indianapolis (DFAS-IN) for processing and accounting support in paying the taxes for active duty servicemembers. This support includes calculating and reporting federal payroll taxes for active duty Army servicemembers to the Internal Revenue Service (IRS) and paying those taxes to the Department of the Treasury. Federal payroll taxes are amounts withheld from employees' wages for federal income taxes, Social Security, and Medicare (Hospital Insurance) taxes, as well as the employer's mandatory matching contributions for Social Security and Medicare taxes. GAO's five standards of internal control provide the overall framework for establishing and maintaining internal control in the federal government. These standards help management identify and address major performance and management challenges and areas at greatest risk of fraud, waste, abuse, and mismanagement. Further, the Office of Management and Budget Circular No. A-123, Management's Responsibility for Internal Control, relies on GAO's standards to provide the specific requirements for federal agencies, such as the Department of Defense (DOD), to assess and report on controls. The scope of this review comprises control activities and monitoring--two of the five standards for internal control. Our prior reviews of the DOD budget requests for military personnel appropriations identified possible inaccuracies in the processing of the active duty Army military personnel federal payroll taxes and potential weaknesses in control activities at DFAS-IN. Following that identification of possible inaccuracies, under the authority of the Comptroller General to conduct evaluations under his own initiative, we conducted this performance audit to determine whether DFAS-IN has effective controls in place for processing of the active duty Army military personnel federal payroll taxes. We also assessed whether DFAS-IN conducted periodic monitoring of its processing of federal payroll taxes. We focused our review on federal payroll taxes for the period January 2004 through June 2008.
DFAS-IN lacked effective controls for processing and accounting for active duty Army military personnel federal payroll taxes because of weaknesses in its procedures for information processing and accurate and timely documentation of transactions. We found that DFAS-IN did not systematically reconcile payroll taxes; it made numerous calculation and data entry errors in its worksheets; and in numerous instances, it incorrectly calculated and reported Social Security and Medicare withholding amounts for servicemembers. We were not able to determine the extent to which individual servicemembers identified errors in their pay statements and requested corrections. However, we determined that the underlying control weaknesses that resulted in errors and untimely calculation and reporting of payroll data have continued for several years. DFAS-IN further lacked effective procedures to ensure the accuracy and timeliness of transaction documentation. In addition, neither DFAS nor DFAS-IN internal review staff performed periodic monitoring of the processing of federal payroll taxes for the 2004-2008 time period to assure that the related internal controls were operating effectively, and neither has developed plans to conduct such reviews. As a result of these control weaknesses, some servicemembers had too much tax withheld, while others had too little withheld. Additionally, DFAS-IN did not follow IRS employer tax guidance. As a result, the Department of the Army may be owed refunds from the IRS due to erroneous overpayments of federal payroll taxes; or the Army may owe additional payments to the IRS due to erroneous underpayments of federal payroll taxes. If there were erroneous overpayments, the Army will have lost the opportunity to use those funds for other pressing needs. In the case of underpayments, the general fund of the Treasury will ultimately be subsidizing the Social Security and Hospital Insurance trust funds to make up for amounts that are owed by employers but not collected. Because of DFAS-IN's lack of effective procedures for documentation of its transactions, and errors in calculating and recording payroll taxes, neither the Army nor the IRS can be certain of the Army's current payroll tax liabilities. Lastly, as a result of the lack of periodic monitoring or plans to perform the monitoring, DFAS-IN is unable to take prompt corrective actions to resolve any weaknesses in its control activities. We are making recommendations to the Under Secretary of Defense (Comptroller) / Chief Financial Officer to strengthen DFAS-IN internal control and monitoring activities over active duty Army military personnel payroll.
RecommendationsOur recommendations from this work are listed below with a Contact for more information. Status will change from "In process" to "Open," "Closed - implemented," or "Closed - not implemented" based on our follow up work.
Director: Team: Phone:GAO-09-557R, Military Pay: The Defense Finance and Accounting Service--Indianapolis Could Improve Control Activities over Its Processing of Active Duty Army Military Personnel Federal Payroll Taxes
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GAO-09-557R:
United States Government Accountability Office:
Washington, DC 20548:
June 18, 2009:
The Honorable Robert F. Hale:
Under Secretary of Defense (Comptroller)/Chief Financial Officer:
Department of Defense:
Subject: Military Pay: The Defense Finance and Accounting Service-
Indianapolis Could Improve Control Activities over Its Processing of
Active Duty Army Military Personnel Federal Payroll Taxes:
Dear Mr. Hale:
The Department of the Army paid about $4.7 billion in federal payroll
taxes for approximately 638,900 active duty military servicemembers for
calendar year 2007, from the active duty Army military personnel
appropriation. The Secretary of the Army relies on the Defense Finance
and Accounting Service-Indianapolis (DFAS-IN) for processing and
accounting support in paying the taxes for active duty
servicemembers.[Footnote 1] This support includes calculating and
reporting federal payroll taxes for active duty Army servicemembers to
the Internal Revenue Service (IRS) and paying those taxes to the
Department of the Treasury. Federal payroll taxes are amounts withheld
from employees' wages for federal income taxes, Social Security, and
Medicare (Hospital Insurance[Footnote 2]) taxes, as well as the
employer's mandatory matching contributions for Social Security and
Medicare taxes.
GAO's five standards of internal control[Footnote 3] provide the
overall framework for establishing and maintaining internal control in
the federal government. These standards help management identify and
address major performance and management challenges and areas at
greatest risk of fraud, waste, abuse, and mismanagement. Further, the
Office of Management and Budget Circular No. A-123, Management's
Responsibility for Internal Control,[Footnote 4] relies on GAO's
standards to provide the specific requirements for federal agencies,
such as the Department of Defense (DOD), to assess and report on
controls. The scope of this review comprises control activities and
monitoring--two of the five standards for internal control.
Our prior reviews of the DOD budget requests for military personnel
appropriations identified possible inaccuracies in the processing of
the active duty Army military personnel federal payroll taxes and
potential weaknesses in control activities at DFAS-IN. Following that
identification of possible inaccuracies, under the authority of the
Comptroller General to conduct evaluations under his own initiative, we
conducted this performance audit to determine whether DFAS-IN has
effective controls in place for processing of the active duty Army
military personnel federal payroll taxes. We also assessed whether DFAS-
IN conducted periodic monitoring of its processing of federal payroll
taxes. We focused our review on federal payroll taxes for the period
January 2004 through June 2008.
To address our objective, we gained an overall understanding of DFAS-
IN's federal payroll tax processing by examining key documents and
interviewing DFAS-IN representatives involved in that processing. We
also examined selected controls over the active duty Army military
personnel federal payroll taxes with regard to IRS employer tax
guidance.[Footnote 5] Specifically, we compared DFAS-IN written
procedures, tax worksheets, and tax reports with applicable IRS
employers' tax guidance, including IRS publications, forms, and
instructions to determine whether DFAS-IN control activities were
sufficient to provide reasonable assurance of meeting that guidance. We
also reviewed DOD's Financial Management Regulation 7000-14.R (DOD
FMR)[Footnote 6] to assess DFAS-IN controls according to these
criteria. We discussed with Defense Finance and Accounting Service
(DFAS) and DFAS-IN officials their perspectives about the roles and
responsibilities for performing internal reviews and evaluating
external reviews of the DFAS-IN federal payroll tax processing. We used
GAO's Standards for Internal Control in the Federal Government in
assessing DFAS-IN policies and procedures. We do not provide a
conclusion regarding DFAS-IN's overall compliance with the Standards
for Internal Control because we did not conduct tests for each of the
five standards. We assessed two of the five standards--control
activities and monitoring. Control activities are the policies,
procedures, techniques and mechanisms that enforce management
directives. Internal control monitoring should assess the quality of
performance over time and ensure that the findings of audits and other
reviews are promptly resolved.
We used our analysis of DFAS documents and its payroll processing and
reporting procedures, and IRS guidance, to assess the effectiveness of
existing control activities and monitoring. We examined DFAS-IN active
duty Army military personnel federal payroll tax reports and supporting
data. These federal payroll tax reports and supporting data included
employers' quarterly reports and various reports generated by the
active duty Army military personnel pay system for calendar years 2004
through 2007 and the first two quarters of 2008, and servicemembers'
individual W-2 data[Footnote 7] for 2004 through 2007. We recalculated
the payroll taxes independently using DFAS-IN source data and the IRS
federal payroll tax guidance, such as the instructions for the IRS Form
941, and then compared our results with the DFAS-IN payroll tax
reports. We confirmed that DFAS-IN used the payroll tax data generated
by the active duty Army military personnel pay system as its supporting
data. We also used the active duty Army military personnel pay system
year-end tax data to assess the accuracy of DFAS-IN's Social Security
and Medicare tax withholding for active duty Army servicemembers.
We conducted this performance audit from September 2007 through June
2009,[Footnote 8] in accordance with generally accepted government
auditing standards. Those standards require that we plan and perform
the audit to obtain sufficient, appropriate evidence to provide a
reasonable basis for our findings and conclusions based on our audit
objectives. We believe that the evidence obtained provides a reasonable
basis for our findings and conclusions based on our audit objectives.
Results in Brief:
DFAS-IN lacked effective controls for processing and accounting for
active duty Army military personnel federal payroll taxes because of
weaknesses in its procedures for information processing and accurate
and timely documentation of transactions. We found that DFAS-IN did not
systematically reconcile payroll taxes; it made numerous calculation
and data entry errors in its worksheets; and in numerous instances, it
incorrectly calculated and reported Social Security and Medicare
withholding amounts for servicemembers. We were not able to determine
the extent to which individual servicemembers identified errors in
their pay statements and requested corrections. However, we determined
that the underlying control weaknesses that resulted in errors and
untimely calculation and reporting of payroll data have continued for
several years.
DFAS-IN further lacked effective procedures to ensure the accuracy and
timeliness of transaction documentation. In addition, neither DFAS nor
DFAS-IN internal review staff performed periodic monitoring of the
processing of federal payroll taxes for the 2004-2008 time period to
assure that the related internal controls were operating effectively,
and neither has developed plans to conduct such reviews. As a result of
these control weaknesses, some servicemembers had too much tax
withheld, while others had too little withheld. Additionally, DFAS-IN
did not follow IRS employer tax guidance. As a result, the Department
of the Army may be owed refunds from the IRS due to erroneous
overpayments of federal payroll taxes; or the Army may owe additional
payments to the IRS due to erroneous underpayments of federal payroll
taxes. If there were erroneous overpayments, the Army will have lost
the opportunity to use those funds for other pressing needs. In the
case of underpayments, the general fund of the Treasury will ultimately
be subsidizing the Social Security and Hospital Insurance trust funds
to make up for amounts that are owed by employers but not collected.
Because of DFAS-IN's lack of effective procedures for documentation of
its transactions, and errors in calculating and recording payroll
taxes, neither the Army nor the IRS can be certain of the Army's
current payroll tax liabilities. Lastly, as a result of the lack of
periodic monitoring or plans to perform the monitoring, DFAS-IN is
unable to take prompt corrective actions to resolve any weaknesses in
its control activities.
We are making recommendations to the Under Secretary of Defense
(Comptroller)/Chief Financial Officer to strengthen DFAS-IN internal
control and monitoring activities over active duty Army military
personnel payroll.
Background:
GAO first designated DOD financial management as high risk in 1995.
GAO's biennial reports on high-risk areas are meant to bring focus to
specific areas needing added attention.[Footnote 9] Areas are
identified, in some cases, as high risk due to their greater
vulnerabilities to fraud, waste, abuse, and mismanagement. Since 1995,
weaknesses in DOD's financial management have adversely affected not
only the reliability of reported financial data, but also the
efficiency and effectiveness of its business operations. The department
has annually acknowledged that pervasive, long-standing weaknesses in
business systems, processes, and controls have prevented auditors from
determining the reliability of reported financial statement
information. Weaknesses in Army military pay systems, processes, and
controls have contributed to this problem.
Overview of Internal Controls:
As federal managers strive to achieve their agencies' missions and
goals and to provide accountability for their operations, they need to
establish, continually assess, and evaluate their internal control
structure to ensure that it is well designed and operating effectively,
and is appropriately updated to meet changing conditions. Internal
control should be an integral component of an organization's
management, and it should provide reasonable assurance that the
following objectives are being achieved:
* effectiveness and efficiency of operations, including the use of the
entity's resources;
* reliability of financial reporting, including reports on budget
execution,
* financial statements, and other reports for internal and external
use; and:
* compliance with applicable laws and regulations.
Control activities are the policies, procedures, techniques, and
mechanisms used to help ensure that agency objectives are met. Control
activities include proper authorization, controls over information
processing, and accurate and timely recording of transactions and
events. Managers need to review control activities and key controls to
determine how well an agency is performing, how the agency may be
improved, and the degree to which such review may help identify and
address major risks for fraud, waste, abuse, and mismanagement. Ongoing
monitoring occurs during normal operations and includes regular
management and supervisory activities, such as reviewing and approving
supporting documentation. Monitoring also includes the policies and
procedures to promptly resolve any internal or external review findings
and recommendations.
IRS Guidance Regarding Federal Payroll Taxes:
The IRS collects federal taxes, including payroll taxes, processes tax
returns, and enforces the nation's tax laws. To comply with federal
payroll tax requirements, employers, such as the Department of the
Army, must do the following:
* For each pay period, employers must withhold employees' federal
income, Social Security and Medicare tax liabilities, add the
employer's mandatory matching contribution for Social Security and
Medicare, and deposit the employer's and employees' amounts with the
IRS or an authorized financial institution.
* For each calendar quarter, employers must summarize the monthly
federal payroll tax liabilities on IRS Form 941, Employer's QUARTERLY
Federal Tax Return, broken out by various amounts, including total
wages, taxable Social Security and Medicare wages, and total deposits
for the quarter. Employers must submit the Form 941 to the IRS with a
signature attesting that the report is true, correct, and complete.
* For each calendar year, employers must prepare and submit IRS Forms W-
2to each employee with the annual totals of wages, taxable wages,
Social Security and Medicare taxes withheld, and other data.
* At any time, when employers discover errors on previously filed IRS
Forms 941, the employers must file an IRS Form 941-X, Adjusted
Employer's QUARTERLY Federal Tax Return or Claim for Refund, to request
a claim or adjustment of amounts overreported, and to pay amounts
underreported.[Footnote 10] To the extent the employers' corrections
affect amounts already reported on IRS Forms W-2, the employers must
report the corrections on IRS Forms W-2c and submit the forms to the
Social Security Administration (SSA) and the employees.
Management Roles and Responsibilities:
Various stakeholders are responsible for DOD's financial management
related to the processing of federal payroll taxes for the active duty
Army military personnel appropriation (Military Personnel, Army). These
stakeholders and their roles and responsibilities include the
following:
* The Under Secretary of Defense (Comptroller)/Chief Financial Officer
develops and establishes DOD policy on financial reports and provides
oversight of the issuance and implementation of such policies in
accordance with the DOD FMR,[Footnote 11] to include the establishment
of internal controls and audit trails required for preparing financial
reporting, processing associated transactions, and reconciling accounts
with financial balances. Further, the Under Secretary of Defense
(Comptroller)/Chief Financial Officer prescribes the financial
management responsibilities of the DOD components, such as the
Secretary of the Army and the Director, DFAS.
* The Secretary of the Army manages the active duty Army military
personnel appropriations. The Assistant Secretary for Financial
Management and Comptroller verifies that the data and reports are
accurate and certifies the annual year-end closing statement, including
obligations and disbursements.[Footnote 12] Further, the Secretary of
the Army provides Army-generated data, which must be accurate,
complete, timely, and supported by documentation, for the finance and
accounting systems that are maintained by DFAS.
* The Director, DFAS, who has overall responsibility for DOD's
accounting functions, delegates to the Director, DFAS-IN, the
responsibility for the Department of Army's accounting functions,
including the processing and accounting of active duty Army military
personnel pay and the processing of active duty Army military personnel
federal payroll taxes.
* The Director, DFAS-IN, establishes procedures to prepare consistent,
timely, and auditable financial reports and control totals to provide
for the accuracy of financial management reports.
Active Duty Army Military Personnel Pay System:
DFAS-IN administers active duty Army military pay through the DFAS
Defense Joint Military Pay System-Active Component (DJMS-AC), including
calculating pay and entitlements and paying individual servicemembers.
Managed by the Director, DFAS Denver, the system is a database of
master military pay accounts, one for each servicemember paid through
this system. The data contained in each active duty Army master
military pay account are managed by DFAS-IN, which, in turn, relies on
the accuracy and timeliness of changes in individual servicemembers'
pay and entitlements provided to DFAS-IN by the Army's personnel
system. In addition to paying individual servicemembers, this system
generates numerous periodic financial reports summarizing the Military
Personnel, Army appropriation obligations and disbursements, including
periodic summary reports of the results of pay transactions and federal
payroll tax amounts withheld by each month and year, for both
individual servicemembers and the appropriation totals.
DFAS-IN Lacked Effective Controls for Assuring the Accuracy of Active
Duty Army Military Personnel Federal Payroll Taxes:
For the period of January 2004 through June 2008, DFAS-IN did not use
effective controls to report the active duty Army's federal payroll
taxes reliably and in accordance with IRS guidance, particularly with
regard to (1) information processing of employer and employee tax
records, and (2) accurate and timely documentation of transactions.
Additionally, neither DFAS nor DFAS-IN internal review staff performed
periodic monitoring of their controls for the processing of federal
payroll taxes, and neither has developed plans to conduct such reviews
in the near or long term.
DFAS-IN Lacked Effective Information Processing of Employer and
Employee Tax Records:
DFAS-IN lacked effective procedures for information processing of the
active duty Army military federal payroll taxes for the Department of
the Army. DFAS-IN did not systematically reconcile payroll taxes, it
made numerous calculation and data entry errors in its worksheets, and
in numerous instances it incorrectly calculated and reported Social
Security and Medicare withholding amounts for servicemembers.
To assure accurate accounting and reliable financial reporting, an
agency must process its information correctly and completely.
Reconciling tax worksheet amounts with payroll data is a key control
activity in this area. DFAS-IN performs the accounting functions,
including federal payroll taxes, for the Secretary of the Army, who is
accountable for the active duty Army military personnel appropriation.
From January 2005 through December 2007, DFAS-IN did not properly
reconcile the active duty Army pay records with its quarterly federal
tax returns and year-end annual federal tax reports, as would be needed
to confirm that it reported correct amounts for year-end tax
liabilities. Instead, DFAS-IN reported liability amounts from the year-
end annual federal tax reports that were not supported by its monthly
worksheets or the quarterly and year-end forms that are required by the
IRS. DFAS-IN did not use the supporting data needed to determine the
correct tax liabilities for the Department of the Army. Also, from
January 2004 through December 2007[Footnote 13], DFAS-IN incorrectly
reported Social Security and Medicare tax withholding amounts for
numerous active duty Army servicemembers, overwithholding from some and
underwithholding from others. Further, DFAS-IN supervisors certified
monthly tax worksheets prepared by the DFAS-IN staff that contained
data entry or calculation errors. As a result, all 16 of the DFAS-IN
employers' quarterly reports to the IRS during the 4-year period were
incorrect.
Reconciliations:
DFAS-IN staff did not perform systematic payroll tax reconciliations,
as required by a DFAS-IN standard operating procedure and the DOD FMR.
[Footnote 14] For calendar years 2004 through 2007, DFAS-IN did not
properly reconcile the active duty Army pay records with the active
duty Army quarterly federal tax returns and year-end annual federal tax
reports. Such reconciliation is necessary to confirm that DFAS-IN
reported correct amounts for year-end tax liabilities. Instead of
calculating year-end tax liabilities for calendar years 2005 through
2007, DFAS-IN staff reported liability amounts from the year-end annual
federal tax reports. The year-end annual federal tax report is
comprised of servicemembers' individual end-of-year tax data, as
reported annually to the SSA. DFAS-IN staff told us they do not know
exactly what tax data are included in the monthly disbursement reports,
so they do not know whether any adjustments are needed or how to adjust
those amounts to ensure the accuracy of the tax liabilities for IRS
reporting. Table 1 shows the unreconciled active duty Army military
personnel Social Security and Medicare wages and taxes we identified
for calendar years 2004 through 2007.
Table 1: Unreconciled Active Duty Army Military Personnel Social
Security and Medicare Wages and Taxes, Calendar Years 2004 through
2007:
Description; Social Security wages reported to SSA;
Calendar year: 2004: $16,224,643,204;
Calendar year: 2005: $16,864,717,600;
Calendar year: 2006: $17,637,279,525;
Calendar year: 2007: $18,500,310,465.
Description; Social Security wages reported on the monthly disbursement
Calendar year: 2004: reports; $16,229,951,922;
Calendar year: 2005: $16,853,396,020;
Calendar year: 2006: $17,628,012,814;
Calendar year: 2007: $18,492,989,529.
Description; Unreconciled Social Security Wages;
Calendar year: 2004: ($5,308,718);
Calendar year: 2005: $11,321,580;
Calendar year: 2006: $9,266,711;
Calendar year: 2007: $7,320,936.
Description; Social Security withholding taxes reported to SSA;
Calendar year: 2004: $1,005,945,305;
Calendar year: 2005: $1,045,599,318;
Calendar year: 2006: $1,093,491,375;
Calendar year: 2007: $1,147,012,601.
Description; Social Security withholding taxes reported on the monthly
disbursement reports;
Calendar year: 2004: $1,005,592,573;
Calendar year: 2005: $1,045,226,281;
Calendar year: 2006: $1,093,412,169;
Calendar year: 2007: $1,146,943,272.
Description; Unreconciled Social Security Withholding Taxes;
Calendar year: 2004: $352,732;
Calendar year: 2005: $373,037;
Calendar year: 2006: $79,206;
Calendar year: 2007: $69,329.
Description; Medicare wages reported to SSA;
Calendar year: 2004: $16,266,923,238;
Calendar year: 2005: $16,913,652,210;
Calendar year: 2006: $17,684,362,925;
Calendar year: 2007: $18,546,557,443.
Description; Medicare wages reported on the monthly disbursement
reports;
Calendar year: 2004: $16,256,691,438;
Calendar year: 2005: $16,903,095,743;
Calendar year: 2006: $17,675,002,424;
Calendar year: 2007: $18,539,092,738.
Description; Unreconciled Medicare Wages;
Calendar year: 2004: $10,231,800;
Calendar year: 2005: $10,556,468;
Calendar year: 2006: $9,360,501;
Calendar year: 2007: $7,464,704.
Description; Medicare withholding taxes reported to SSA;
Calendar year: 2004: $235,869,963;
Calendar year: 2005: $245,248,947;
Calendar year: 2006: $256,419,967;
Calendar year: 2007: $268,924,325.
Description; Medicare withholding taxes reported on the monthly
disbursement reports;
Calendar year: 2004: $235,786,959;
Calendar year: 2005: $245,168,276;
Calendar year: 2006: $256,399,871;
Calendar year: 2007: $268,908,035.
Description; Unreconciled Medicare Withholding Taxes;
Calendar year: 2004: $83,004;
Calendar year: 2005: $80,671;
Calendar year: 2006: $20,096;
Calendar year: 2007: $16,290.
Source: GAO analysis of DOD data.
Note: Totals may not add because of rounding.
[End of table]
Calculation and Data Entry Errors in Worksheets:
In accordance with its internal criteria, DFAS-IN used the payroll tax
data generated by the active duty Army military pay system as its
supporting data for processing tax reports, from January 2004 through
June 2008--the period of our review. However, DFAS-IN staff members
made numerous errors in calculations or data entries in the worksheets
for all 54 months of this period. The resulting incorrect amounts were
used in reporting the Army's federal payroll taxes on the quarterly IRS
Forms 941. On 34 of the 54 worksheets supporting its IRS Form 941
reports, DFAS-IN staff improperly included as current-year amounts
those that had been identified by the Army military pay system as prior-
period payroll tax adjustments. Further, 43 of the 54 DFAS-IN
worksheets contained incorrect formulas for calculating federal taxable
wage amounts. DFAS-IN personnel entered data in the worksheets that did
not correspond to the data generated by the Army military pay system
reports, and DFAS-IN supervisors certified these incorrectly processed
worksheets. Although the reports generated by the pay system had
control totals, DFAS-IN did not reconcile its calculations recorded on
the worksheets with the control totals to ensure accuracy. For example,
in January 2008, DFAS-IN entered federal wages for Army cadets into its
worksheet as $394,000, while the Army military pay system report
identified the amount as $3.94 million--a discrepancy of $3.5 million.
Lastly, although DFAS-IN supervisors certified monthly tax worksheets
prepared by the DFAS-IN staff, these worksheets also contained data
entry or calculation errors. As a result of the lack of adequate
supervisory review, all the DFAS-IN employers' quarterly reports to the
IRS during the period were incorrect.
As a result of these errors and omissions, DFAS-IN filed incorrect IRS
Forms 941 for the active duty Army military personnel federal payroll
taxes for the period January 2004 through June 2008. From January 2004
through September 2007, DFAS did not prepare and submit accurate and
timely amended IRS Forms 941 and supporting IRS Forms 941c, Supporting
Statement to Correct Information. For that period, DFAS-IN incorrectly
included prior-year correction amounts in its IRS Forms 941 instead of
amending its earlier IRS Forms 941 on IRS Forms 941c. After we
identified and discussed these errors during our September 2007 visit,
DFAS-IN properly excluded the prior-year correction amounts in its
processing of federal tax liabilities for October 2007 through June
2008.
Withholding Errors:
DFAS-IN incorrectly calculated Social Security and Medicare tax
withholding amounts in each year of the 4-year period for 2004 through
2007 for some active duty Army servicemembers. IRS guidance and the DOD
FMR specifically identify the percentage amounts of taxable wages that
DFAS-IN should have withheld for Social Security and Medicare.[Footnote
15] However, we found about 1,500 errors in the 2.5 million wage and
tax statements for active duty Army servicemembers prepared during the
4-year period. We found examples of over-and underwithholding of
individuals' Social Security and Medicare taxes in each year of the 4-
year period. As detailed below, DFAS-IN:
* overwithheld as much as $2,170 in Social Security taxes from 380
active duty Army servicemembers' pay accounts, and underwithheld as
much as $5,580 of these taxes from 435 servicemembers' pay accounts;
* overwithheld Social Security taxes from the pay accounts of 35
servicemembers whose wages exceeded the taxable wage base limits;
* improperly withheld Social Security taxes from the pay accounts of 13
servicemembers who had no Social Security taxable wages;
* improperly withheld Medicare taxes from the pay accounts of 21
servicemembers who had no Medicare taxable wages; and:
* overwithheld Medicare taxes from the pay accounts of 305
servicemembers and underwithheld Medicare taxes from the pay accounts
of 421 servicemembers.
We analyzed the information in the original DFAS-IN year-end tax
reports, as reported to the SSA, for 2004 through 2007. DFAS-IN
officials told us they have submitted corrected W-2, Wage and Tax
Statement, data in later filings to the SSA, and that those filings may
have corrected the errors we found in the original filings. Although it
is possible that individual servicemembers may have identified errors
and requested corrections on their W-2s, there is no assurance that all
errors were corrected. DFAS-IN does not have a process in place for
identifying and correcting errors in tax withholding. Further, as shown
in table 2, DFAS-IN repeated the same types of Social Security and
Medicare tax withholding errors over the 4-year period.
Table 2: Active Duty Army Military Personnel Payroll Taxes: Social
Security and Medicare Tax Withholding Errors Identified for Calendar
Years 2004-2007:
Description of error: Total number of individual W-2s for the year;
Calendar year: 2004: 627,136;
Calendar year: 2005: 621,266;
Calendar year: 2006: 629,364;
Calendar year: 2007: 638,860;
Calendar year: 2004-2007: 2,516,626.
Description of error: Social Security overwithholding errors;
Calendar year: 2004: 120;
Calendar year: 2005: 91;
Calendar year: 2006: 91;
Calendar year: 2007: 78;
Calendar year: 2004-2007: 380.
Description of error: Social Security underwithholding errors;
Calendar year: 2004: 75;
Calendar year: 2005: 88;
Calendar year: 2006: 139;
Calendar year: 2007: 133;
Calendar year: 2004-2007: 435.
Description of error: Total Social Security tax withholding errors;
Calendar year: 2004: 195;
Calendar year: 2005: 179;
Calendar year: 2006: 230;
Calendar year: 2007: 211;
Calendar year: 2004-2007: 815.
Description of error: Dollar value of Social Security tax withholding
errors;
Calendar year: 2004: $35,035;
Calendar year: 2005: $24,275;
Calendar year: 2006: $31,538;
Calendar year: 2007: $24,184;
Calendar year: 2004-2007: $115,032.
Description of error: Medicare tax overwithholding error;
Calendar year: 2004: 54;
Calendar year: 2005: 92;
Calendar year: 2006: 83;
Calendar year: 2007: 76;
Calendar year: 2004-2007: 305.
Description of error: Medicare tax underwithholding error;
Calendar year: 2004: 70;
Calendar year: 2005: 87;
Calendar year: 2006: 136;
Calendar year: 2007: 128;
Calendar year: 2004-2007: 421.
Description of error: Total Medicare tax withholding errors;
Calendar year: 2004: 124;
Calendar year: 2005: 179;
Calendar year: 2006: 219;
Calendar year: 2007: 204;
Calendar year: 2004-2007: 726.
Description of error: Dollar value of Medicare tax withholding errors;
Calendar year: 2004: $3,160;
Calendar year: 2005: $5,400;
Calendar year: 2006: $7,233;
Calendar year: 2007: $6,701;
Calendar year: 2004-2007: $22,494.
Description of error: Total Social Security and Medicare tax
withholding errors;
Calendar year: 2004: 319;
Calendar year: 2005: 358;
Calendar year: 2006: 449;
Calendar year: 2007: 415;
Calendar year: 2004-2007: 1,541.
Description of error: Dollar value of Social Security and Medicare tax
withholding errors;
Calendar year: 2004: $38,195;
Calendar year: 2005: $29,675;
Calendar year: 2006: $38,771;
Calendar year: 2007: $30,885;
Calendar year: 2004-2007: $137,526.
Description of error: Frequency of selected tax withholding errors:
Individuals whose Social Security tax withheld was greater than the
maximum Social Security tax: $5,449.80 for 2004, $5,580.00 for 2005,
$5,840.00 for 2006, and $6,045 for 2007;
Calendar year: 2004: 65;
Calendar year: 2005: 3;
Calendar year: 2006: 1;
Calendar year: 2007: 0;
Calendar year: 2004-2007: 69.
Description of error: Frequency of selected tax withholding errors:
Individuals whose Social Security wages were taxed over the applicable
limits: $87,900 for 2004, $90,000 for 2005, $94,200 for 2006, and
$97,500 for 2007;
Calendar year: 2004: 11;
Calendar year: 2005: 13;
Calendar year: 2006: 10;
Calendar year: 2007: 1;
Calendar year: 2004-2007: 35.
Description of error: Frequency of selected tax withholding errors:
Individuals who had Social Security taxes withheld, even though they
had no Social Security taxable wages;
Calendar year: 2004: 2;
Calendar year: 2005: 3;
Calendar year: 2006: 5;
Calendar year: 2007: 3;
Calendar year: 2004-2007: 13.
Description of error: Frequency of selected tax withholding errors:
Individuals who had Medicare taxes withheld, even though they had no
Medicare taxable wages;
Calendar year: 2004: 3;
Calendar year: 2005: 7;
Calendar year: 2006: 6;
Calendar year: 2007: 5;
Calendar year: 2004-2007: 21.
Source: GAO analysis of DOD data.
Notes: Tax withholding errors in this table are those where the Social
Security or Medicare taxes withheld exceeded $1.00 on individual W-2s
to allow for normal rounding required because both Social Security and
Medicare taxes are percentages of Social Security and Medicare taxable
wages, respectively.
Totals may not add because of rounding.
[End of table]
The errors identified in table 2 are based on unverified W-2 wage
information. As discussed previously and shown in table 1, there are
millions of dollars of unreconciled differences between W-2 information
and the monthly worksheets. Therefore, to the extent there are errors
in the W-2 data, the magnitude of Social Security and Medicare tax
withholding errors could be greater.
DFAS-IN Lacked Accurate and Timely Documentation of Transactions:
DFAS-IN lacked effective procedures to ensure the accuracy and
timeliness of documenting its transactions. An agency must document its
transactions promptly, completely, and accurately to meet the objective
of reliable reporting. According to the Standards for Internal Control,
transactions should be promptly recorded to maintain their relevance
and value to management in controlling operations and making decisions.
In addition, all documentation and records should be properly managed
and maintained.[Footnote 16]
DFAS-IN did not accurately or promptly document in its files its
corrections to prior years' tax returns, instead erroneously including
them in its current-year reports. Further, DFAS-IN did not provide any
documentation to show that it paid the IRS a $2.0 million tax liability
for 2004. According to DFAS-IN officials, they paid the $2.0 million
after our September 2007 visit; however, they could not provide us
documentation of the payment, and it was not recorded on the IRS tax
transcripts, as of September 18, 2008.
Another example of inaccurate documentation involves refunds. Among the
refunds that DFAS-IN received but did not properly or promptly record
was a refund for $4.6 million that should have been recorded as
deposited in the Military Personnel, Army appropriation account, but
instead was recorded in a suspense account.[Footnote 17] Since DFAS-IN
did not record these refunds properly, the remaining appropriation
balances were understated.
DFAS Has Not Monitored Its Processing of Federal Payroll Taxes:
Although DFAS internal review identified similar problems in its 2003
audit,[Footnote 18] neither DFAS nor DFAS-IN internal review office
staff reviewed the processing of federal payroll taxes during the 2004-
2008 time period or developed a plan to conduct the reviews in the near
or long term. In accordance with the Standards for Internal Control, an
agency must periodically monitor its control activities over time and
take corrective actions to resolve the findings.
Conclusions:
As a result of the lack of effective procedures for information
processing, documenting transactions, and performing periodic reviews
regarding the active duty Army military personnel federal payroll
taxes, the Department of the Army may in some cases be owed refunds
from the IRS due to erroneous overpayments of federal payroll taxes,
and in other cases may owe additional payments to the IRS due to
erroneous underpayments of federal payroll taxes. If there were
erroneous overpayments, the Army will have lost the opportunity to use
those funds for other pressing needs. Additionally, in the case of
underpayments, the general fund of the Treasury will ultimately be
subsidizing the Social Security and Hospital Insurance trust funds to
make up for amounts that are owed but not collected. Neither the Army
nor the IRS can be certain of the Army's current payroll tax
liabilities, and the documented amounts may be inaccurate.
Recommendations for Executive Action:
To strengthen internal control and monitoring activities over active
duty Army military personnel payroll, we recommend that the Under
Secretary of Defense (Comptroller)/Chief Financial Officer require the
Director, DFAS, in conjunction with the Director, DFAS-IN, to take the
following actions:
* Review and correct DFAS-IN's procedures for information processing of
federal payroll taxes to include the following:
- Perform reconciliations of active Army military pay system reports
with the quarterly federal payroll tax returns and year-end annual
federal tax reports.
- Review individual servicemembers' tax withholding and correct any
errors.
* Review and correct DFAS-IN's procedures for accurate and timely
documentation of federal payroll tax transactions.
* Establish procedures and plans to periodically monitor the processing
of federal payroll taxes.
Agency Comments and Our Evaluation:
We provided our draft report to DOD and the IRS. In response to the
draft, DOD concurred with each of our recommendations and provided us
with written comments describing corrective actions it is taking to
implement them. We have reprinted these comments in enclosure I. The
IRS indicated that it had no comments in response to the draft of the
report.
We are providing this letter to relevant congressional defense
committees, the Secretary of Defense, and the Secretary of the Army. In
addition, the report will be available at no charge on the GAO Web site
at [hyperlink, http://www.gao.gov].
If you or your staff have any questions about this report, please
contact either Brenda Farrell at (202) 512-3604, e-mail
farrellb@gao.gov, or Asif Khan at (202) 512-9095, e-mail khana@gao.gov.
Contact points for our Offices of Congressional Relations and Public
Affairs may be found on the last page of this letter. GAO staff who
made key contributions are Deborah Yarborough, Assistant Director;
Ronald Bergman; Gayle Fischer; Robert Mandigo; Grant Mallie; Lonnie
McAllister; Rebecca Shea; Thomas Short; and Cheryl Weissman.
Signed by:
Brenda S. Farrell:
Director, Defense Capabilities and Management:
Signed by:
Asif A. Khan:
Director, Financial Management and Assurance:
[End of section]
Enclosure I: Comments from the Department of Defense:
Office Of The Under Secretary Of Defense:
Comptroller:
1100 Defense Pentagon:
Washington, DC 20301-1100:
June 3, 2009:
Ms. Brenda S. Farrell:
Director, Defense Capabilities and Management:
U.S. Government Accountability Office:
441 G Street, N.W.
Washington, DC 20548
Dear Ms. Farrell,
This is the Department of Defense (DoD) response to the Government
Accountability Office (GAO) draft report, "Military Pay: The Defense
Finance and Accounting Service - Indianapolis Could Improve Control
Activities over Its Processing of Active Duty Army Military Personnel
Federal Payroll Taxes," dated May 15, 2009, (GAO-09-557R). The
Department concurs with the three recommendations.
The Department appreciates the opportunity to comment on the draft
report. My staff point of contact on this matter is Ms. Jacqueline
Jenkins. She may be reached by e-mail at jacqueline.jenkins@osd.mil or
telephone at (703) 602-0126.
Sincerely,
Signed by:
Mark E. Easton:
Deputy Chief Financial Officer:
Enclosure: As stated:
[End of letter]
GAO Draft Report - Dated May 15, 2009:
GAO Code 351077 (GAO-09-557R):
"Military Pay: The Defense Finance and Accounting Service -
Indianapolis Could Improve Control Activities over Its Processing of
Active Duty Army Military Personnel Federal Payroll Taxes"
Department Of Defense Comments To The Recommendations:
Recommendation 1: The GAO recommends that the Under Secretary of
Defense (Comptroller)/Chief Financial Officer require the Director,
Defense Finance and Accounting Service, in conjunction with the
Director, Defense Finance and Accounting Service - Indianapolis (DFAS-
IN), to review and correct DFAS-IN's procedures for information
processing of federal payroll taxes to include the following:
* Perform reconciliations of active Army military pay system reports
with the quarterly federal payroll tax returns and year-end annual
federal tax reports.
* Review individual servicemembers' tax withholding and correct any
errors.
DOD Response: Concur. The Deputy Chief Financial Officer directed the
Director, Defense Finance and Accounting Service (DFAS) to review and
correct DFAS-Indianapolis procedures for information processing of
federal payroll taxes. The Director, DFAS was also directed to perform
reconciliations of active Army military pay system reports with the
quarterly federal payroll tax returns and year-end annual federal tax
reports and to review individual servicemembers' tax withholding and
correct any errors.
Recommendation 2: The GAO recommends that the Under Secretary of
Defense (Comptroller)/Chief Financial Officer require the Director,
Defense Finance and Accounting Service (DFAS), in conjunction with the
Director, DFAS-Indianapolis (DFAS-IN), to review and correct DFAS-IN's
procedures for accurate and timely documentation of federal payroll tax
transactions.
DOD Response: Concur. The Deputy Chief Financial Officer directed the
Director, Defense Finance and Accounting Service (DFAS), to review and
correct DFAS-Indianapolis procedures for accurate and timely
documentation of federal payroll tax transactions.
Recommendation 3: The GAO recommends that the Under Secretary of
Defense (Comptroller)/Chief Financial Officer require the Director,
Defense Finance and Accounting Service (DFAS), in conjunction with the
Director, DFAS-Indianapolis, to establish procedures and plans to
periodically monitor the processing of federal payroll taxes.
DOD Response: Concur. The Deputy Chief Financial Officer directed the
Director, Defense Finance and Accounting Service, to establish
procedures and plans to periodically monitor the processing of federal
payroll taxes.
[End of section]
Footnotes:
[1] The Director, DFAS, delegated the responsibility for the accounting
functions of the Department of the Army, including the active duty Army
military personnel pay, to the Director, DFAS-IN.
[2] Employers are required to withhold from their employees' salaries
amounts for individual federal income taxes and for Federal Insurance
Contribution Act taxes (26 U.S.C. ch. 21), which include Old-Age,
Survivors, and Disability Insurance (Social Security) and Hospital
Insurance (Medicare Part A) taxes. Taxes for Social Security and the
Hospital Insurance are placed into two separate trust funds. For the
purposes of our report, we refer to the Hospital Insurance (Medicare
Part A) taxes as Medicare taxes.
[3] GAO, Standards for Internal Control in the Federal Government,
[hyperlink, http://www.gao.gov/products/GAO/AIMD-00-21.3.1]
(Washington, D.C.: November 1999).
[4] Office of Management and Budget, Management's Responsibility for
Internal Control, Circular No. A-123 (Washington, D.C., Dec. 21, 2004).
[5] IRS Publication 15 (Circular E), Employer's Tax Guide, updated
annually, explains the employer's tax responsibilities for withholding,
depositing, reporting, paying, and correcting federal payroll taxes.
The IRS Instructions for Form 941, Employer's QUARTERLY Federal Tax
Return, identifies the employers who must file Form 941 and instructs
when and how to deposit federal payroll taxes withheld. Also, IRS Forms
W-2 and W-3 and the related instructions contain guidance for reporting
individual employees' federal payroll taxes.
[6] DOD FMR prescribes financial reporting roles and responsibilities
(vol. 6A, ch. 2) and military pay reconciliations (vol. 7C, ch. 2).
[7] IRS Form W-2 is the Wage and Tax statement that each employer must
file for wages paid to each employee from whom income, Social Security,
or Medicare taxes were withheld.
[8] In April 2008, we suspended this audit to perform work for higher
priority reviews. In August 2008, we resumed our work for this
performance audit.
[9] GAO, High-Risk Series: An Update, [hyperlink,
http://www.gao.gov/products/GAO-09-271] (Washington, D.C.: January
2009).
[10] Beginning January 1, 2009, IRS Form 941-X replaced IRS Form 941c,
Supporting Statement To Correct Information. Previously, when employers
discovered errors on already filed IRS Forms 941, employers were
required to file an amended Form 941 in conjunction with a Form 941c
explaining the corrections. After December 31, 2008, employers are only
required to file a Form 941-X to make amendments.
[11] DOD FMR, vol. 1, ch. 1, paras. 0103 and 0107, and vol. 6A, ch. 2,
paras. 0201, 020102, 020201A.
[12] DOD FMR, vol. 6A, ch. 4, paras. 0401, 0402, 040206, 0405, 040506,
and 040507.
[13] The reason we distinguish our discussion of the 2004-2007 and 2005-
2007 time spans is as follows. Although DFAS failed to properly resolve
unreconciled differences between its worksheets and year-end federal
tax reports in both time spans, DFAS-IN reported its tax liability
using different source data for the two time spans. In 2004, DFAS-IN
reported tax liability amounts based on incorrect amounts in its
monthly worksheets. In 2005-2007, DFAS-IN reported tax liability
amounts based on unsupported year-end federal tax reports.
[14] DOD FMR, vol. 6A, ch. 2, paras. 020202 and 020204; vol. 7C, ch. 2,
paras. 0204 and 0205.
[15] The amounts of Social Security and Medicare taxes that DFAS-IN
should have withheld for each employee are percentages of taxable
wages, from 6.2 percent up to the yearly limits for wages subject to
Social Security taxes and 1.45 percent for Medicare taxes. IRS
Publication 15 (Circular E), Employer's Tax Guide for 2004, 2005, 2006,
and 2007, and DOD FMR vol. 7A, ch. 45.
[16] [hyperlink, http://www.gao.gov/products/GAO/AIMD-00-21.3.1].
[17] A suspense account is defined as combined receipt and expenditure
accounts established to temporarily hold funds that are later refunded
or paid into another government fund when an administrative or final
determination as to the proper disposition is made. GAO, A Glossary of
Terms Used in the Federal Budget Process, [hyperlink,
http://www.gao.gov/products/GAO-05-734SP] (Washington, D.C.: September
2005).
[18] Defense Finance and Accounting Service, The Army Military Pay
Separation Processing, DE03PAP019DFAS (Arlington, Va: Aug. 6, 2003).
[End of section]
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