Financial Management
Some DOD Contractors Abuse the Federal Tax System with Little Consequence Gao ID: GAO-04-95 February 12, 2004GAO was asked to determine (1) the magnitude of unpaid federal taxes owed by Department of Defense (DOD) contractors, (2) whether indications exist of abuse or criminal activity by DOD contractors related to the federal tax system, (3) whether DOD and the Internal Revenue Service (IRS) have effective processes and controls in place to use the Treasury Offset Program (TOP) in collecting unpaid federal taxes from DOD contractors, and (4) whether DOD contractors with unpaid federal taxes are prohibited by law from receiving contracts from the federal government.
DOD and IRS records showed that over 27,000 contractors owed about $3 billion in unpaid taxes as of September 30, 2002. DOD has not fully implemented provisions of the Debt Collection Improvement Act of 1996 that would assist IRS in levying up to 15 percent of each contract payment to offset a DOD contractor's federal tax debt. We estimate that DOD could have collected at least $100 million in fiscal year 2002 had it and IRS fully utilized the levy process authorized by the Taxpayer Relief Act of 1997. As of September 2003, DOD had collected only about $687,000 in part because DOD provides contractor payment information from only 1 of its 16 payment systems to TOP. DOD had no formal plans at the completion of our work to provide payment information from its other 15 payment systems to TOP. Furthermore, we found abusive or potentially criminal activity related to the federal tax system through our audit and investigation of 47 DOD contractors. The 47 contractors provided a variety of goods and services, including parts or support for weapons and other sensitive military programs. The businesses in these case studies owed primarily payroll taxes with some dating back to the early 1990s. These payroll taxes included amounts withheld from employee wages for Social Security, Medicare, and individual income taxes. However, rather than fulfill their role as "trustees" and forward these amounts to IRS, these DOD contractors diverted the money for personal gain or to fund the business. For example, owners of two businesses each borrowed nearly $1 million from their companies and, at about the same time, did not remit millions of dollars in payroll taxes. One owner bought a boat, several cars, and a home outside the United States. The other paid over $1 million for a furnished home. Both contractors received DOD payments during fiscal year 2002, but one went out of business in 2003. The business, however, transferred its employees to a relative's company (also with unpaid taxes) and recently received DOD payments on a previous contract. IRS's continuing challenges in collecting unpaid federal taxes also contributed to the problem. In several case studies, IRS was not pursuing DOD contractors due to resource and workload management constraints. For other cases, control breakdowns resulted in IRS freezing collection activity for reasons that were no longer applicable. Federal law does not prohibit contractors with unpaid federal taxes from receiving federal contracts. OMB is responsible for providing overall direction to governmentwide procurement policies, regulations, and procedures, and is in the best position to develop policy options for prohibiting federal government contract awards to businesses and individuals that abuse the tax system.
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-04-95, Financial Management: Some DOD Contractors Abuse the Federal Tax System with Little Consequence
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Report to Congressional Requesters:
February 2004:
FINANCIAL MANAGEMENT:
Some DOD Contractors Abuse the Federal Tax System with Little
Consequence:
GAO-04-95:
GAO Highlights:
Highlights of GAO-04-95, a report to congressional requesters
Why GAO Did This Study:
GAO was asked to determine
(1) the magnitude of unpaid federal taxes owed by Department of
Defense (DOD) contractors,
(2) whether indications exist of abuse or criminal activity by DOD
contractors related to the federal tax system,
(3) whether DOD and the Internal Revenue Service (IRS) have effective
processes and controls in place to use the Treasury Offset Program
(TOP) in collecting unpaid federal taxes from DOD contractors, and
(4) whether DOD contractors with unpaid federal taxes are prohibited
by law from receiving contracts from the federal government.
What GAO Found:
DOD and IRS records showed that over 27,000 contractors owed about $3
billion in unpaid taxes as of September 30, 2002. DOD has not fully
implemented provisions of the Debt Collection Improvement Act of 1996
that would assist IRS in levying up to 15 percent of each contract
payment to offset a DOD contractor‘s federal tax debt. We estimate
that DOD could have collected at least $100 million in fiscal year
2002 had it and IRS fully utilized the levy process authorized by the
Taxpayer Relief Act of 1997. As of September 2003, DOD had collected
only about $687,000 in part because DOD provides contractor payment
information from only 1 of its 16 payment systems to TOP. DOD had no
formal plans at the completion of our work to provide payment
information from its other 15 payment systems to TOP.
Furthermore, we found abusive or potentially criminal activity related
to the federal tax system through our audit and investigation of 47
DOD contractors. The 47 contractors provided a variety of goods and
services, including parts or support for weapons and other sensitive
military programs. The businesses in these case studies owed primarily
payroll taxes with some dating back to the early 1990s. These payroll
taxes included amounts withheld from employee wages for Social
Security, Medicare, and individual income taxes. However, rather than
fulfill their role as ’trustees“ and forward these amounts to IRS,
these DOD contractors diverted the money for personal gain or to fund
the business.
For example, owners of two businesses each borrowed nearly $1 million
from their companies and, at about the same time, did not remit
millions of dollars in payroll taxes. One owner bought a boat, several
cars, and a home outside the United States. The other paid over $1
million for a furnished home. Both contractors received DOD payments
during fiscal year 2002, but one went out of business in 2003. The
business, however, transferred its employees to a relative‘s company
(also with unpaid taxes) and recently received DOD payments on a
previous contract.
IRS‘s continuing challenges in collecting unpaid federal taxes also
contributed to the problem. In several case studies, IRS was not
pursuing DOD contractors due to resource and workload management
constraints. For other cases, control breakdowns resulted in IRS
freezing collection activity for reasons that were no longer
applicable. Federal law does not prohibit contractors with unpaid
federal taxes from receiving federal contracts. OMB is responsible for
providing overall direction to governmentwide procurement policies,
regulations, and procedures, and is in the best position to develop
policy options for prohibiting federal government contract awards to
businesses and individuals that abuse the tax system.
What GAO Recommends:
GAO makes recommendations to DOD for complying with statutory guidance
and supporting IRS efforts in collecting unpaid taxes, to IRS for
improving the effectiveness of collection activities, and to the
Office of Management and Budget (OMB) to develop options for
prohibiting federal contract awards to businesses and individuals that
abuse the federal tax system. DOD and IRS partially agreed; OMB did
not agree. DOD and OMB also did not agree with GAO‘s matters for
congressional consideration that DOD report on its collections through
TOP and OMB report on policy options developed and actions taken
against contractors that abuse the federal tax system. GAO reiterated
support for its recommendations as well as for its suggestions to
Congress.
www.gao.gov/cgi-bin/getrpt?GAO-04-95
To view the full product, including the scope and methodology, click
on the link above. For more information, contact Gregory D. Kutz at
(202) 512-9095 or kutzg@gao.gov, or Steven J. Sebastian at (202)
512-3406.
[End of section]
Contents:
Letter:
Results in Brief:
Background:
DOD Contractors Owe Billions in Unpaid Federal Taxes:
DOD and IRS Are Not Collecting Millions in Unpaid Federal Taxes from
Contractors:
DOD Contractors Involved in Abusive or Potentially Criminal Activity
Related to the Federal Tax System:
Contractors with Unpaid Taxes Are Not Prohibited by Law from Receiving
Contracts from the Federal Government:
Conclusions:
Matters for Congressional Consideration:
Recommendations for Executive Action:
Agency Comments and Our Evaluation:
Appendixes:
Appendix I: Scope and Methodology:
Appendix II: DOD Contractors with Unpaid Federal Taxes:
Appendix III: Comments from the Department of Defense:
Appendix IV: Comments from the Internal Revenue Service:
Appendix V: GAO Contacts and Staff Acknowledgments:
GAO Contacts:
Acknowledgments:
Tables:
Table 1: Types of Goods and Services Provided by DOD Contractors in Case
Studies:
Table 2: DOD Contractors with Unpaid Federal Taxes--Business:
Table 3: DOD Contractors with Unpaid Federal Taxes--Individual:
Table 4: DOD Contractors with Unpaid Federal Taxes--Business:
Table 5: DOD Contractors with Unpaid Federal Taxes--Individual:
Figures:
Figure 1: Fiscal Year 2002 Federal Contract Award Amounts by Agency:
Figure 2: DOD Contractor Unpaid Taxes by Tax Type:
Figure 3: DOD Contractor Unpaid Taxes by Fiscal Year:
Abbreviations:
ACS: Automated Collection System:
CAPS: Computerized Accounts Payable System:
CCR: Central Contractor Registration:
DCIA: Debt Collection Improvement Act of 1996:
DCMA: Defense Contract Management Agency:
DFAS: Defense Finance and Accounting Service:
DLIS: Defense Logistics Information Service:
DOD: Department of Defense:
DOE: Department of Energy:
EIN: employer identification number:
FAR: Federal Acquisition Regulation:
FICA: Federal Insurance Contribution Act:
FMS: Financial Management Service:
FPLP: Federal Payment Levy Program:
GSA: General Services Administration:
IAPS: Integrated Accounts Payable System:
IRS: Internal Revenue Service:
MOCAS: Mechanization of Contract Administration Services:
NASA: National Aeronautics and Space Administration:
OMB: Office of Management and Budget:
OSI: Office of Special Investigations:
SSA: Social Security Administration:
SSN: Social Security number:
TFRP: trust fund recovery penalty:
TIN: tax identification number:
TOP: Treasury Offset Program:
Letter February 12, 2004:
The Honorable Norm Coleman:
Chairman:
The Honorable Carl Levin:
Ranking Minority Member:
Permanent Subcommittee on Investigations:
Committee on Governmental Affairs:
United States Senate:
The Honorable Janice D. Schakowsky:
House of Representatives:
In fiscal year 2002, the Department of Defense (DOD) awarded contracts
totaling nearly $165 billion. This is nearly two-thirds of the federal
government's contracting activity. Since 1990, we have periodically
reported on federal programs and operations that are high risk due to
their greater vulnerabilities to fraud, waste, and abuse. Lasting
solutions to high-risk problems offer the potential to save billions of
dollars, dramatically improve service to the American public,
strengthen public confidence and trust in the performance and
accountability of our national government, and ensure the ability of
the government to deliver on its promises.
DOD and the Internal Revenue Service (IRS) face a variety of high-risk
challenges. Of the 26 areas on our governmentwide "high risk" list, 6
are DOD program areas, and the department shares responsibility for 3
other high-risk areas that are governmentwide in scope. Financial
management, 1 of the 6 DOD high-risk program areas, has weaknesses,
including the lack of effective and efficient asset management and
accountability, unreliable estimates of environmental and disposal
liabilities, lack of accurate budget and cost information,
nonintegrated and proliferating financial management systems, and
fundamental flaws in the overall control environment. As we have
documented in numerous reports, DOD's financial management problems
leave it highly vulnerable to fraud, waste, and abuse. IRS high-risk
areas include financial management weaknesses and difficulties in
collecting unpaid taxes. Both areas continue to expose the federal
government to significant losses of tax revenue and disproportionately
increase the burden on compliant taxpayers to fund government
activities. This report addresses issues related to three high-risk
areas: DOD and IRS financial management and IRS collection of unpaid
taxes.
For the last several years, Congress and others have expressed concern
that declines in IRS compliance and collections programs are eroding
taxpayer confidence in the fairness of our federal tax system. As of
September 30, 2002, IRS had confirmed unpaid taxes, including interest
and penalties, totaling $249 billion nationwide,[Footnote 1] of which
nearly $49 billion represented unpaid payroll taxes.
As you requested, this report addresses (1) the magnitude of unpaid
federal taxes owed by DOD contractors, (2) whether DOD and IRS have
effective processes and controls in place to use the Treasury Offset
Program (TOP)[Footnote 2] and Federal Payment Levy Program
(FPLP)[Footnote 3] in collecting unpaid federal taxes from DOD
contractors, (3) whether indications exist of abuse or criminal
activity by DOD contractors related to the federal tax system, and (4)
whether DOD contractors with unpaid federal taxes are prohibited by law
from receiving federal contracts.
Our work was performed from March 2003 through September 2003 in
accordance with generally accepted government auditing standards. The
investigative portion of our work was completed in accordance with
investigative standards established by the President's Council on
Integrity and Efficiency. Details on our scope and methodology are
included in appendix I. The results of 17 of the 47 case studies we
audited and investigated are shown in tables 2 and 3. The results of
the other 30 case studies are included in appendix II.
Results in Brief:
Some DOD contractors abuse the federal tax system with little
consequence.[Footnote 4] DOD and IRS records showed that about 27,100
contractors registered in DOD's Central Contractor Registration (CCR)
system had nearly $3 billion in unpaid federal taxes as of September
30, 2002, of which 78 percent was over a year old. Of these
contractors, over 25,600 were businesses[Footnote 5] that primarily
owed unpaid payroll taxes. These taxes include amounts that a business
withholds from an employee's wages for federal income taxes, Social
Security, Medicare, and the related matching contributions of the
employer for Social Security and Medicare. The other approximately
1,500 contractors were primarily individuals who owed but had not paid
income taxes on their business profits or individual income.
We estimate that DOD, which functions as its own disbursing agent,
could have offset payments and collected at least $100 million in
unpaid taxes in fiscal year 2002 if it had fully assisted IRS in
effectively levying contractor payments. In the 6 years since passage
of the Taxpayer Relief Act of 1997, DOD has collected only about
$687,000. DOD collections to date relate to its recently implemented
TOP payment reporting process for its contract payment system, which,
according to DOD records, disbursed over $86 billion to contractors in
fiscal year 2002. DOD did not, however, have formal plans or a schedule
at the completion of our work for reporting payment information to TOP
for its 15 vendor payment systems, which disbursed another $97 billion
to contractors in fiscal year 2002. DOD officials contend it would be
difficult to implement a TOP reporting process for vendor payments
because the systems are decentralized in 22 different payment
locations. In addition, DOD did not have an organizational structure in
place to implement a TOP reporting process. Unless DOD establishes
processes to assist IRS in identifying payments from DOD systems that
IRS could levy for unpaid federal taxes, the federal government will
miss opportunities to collect hundreds of millions of dollars in unpaid
taxes owed by DOD contractors.
IRS faces a number of high-risk challenges. Due to resource and
workload management constraints, IRS established policies that either
exclude or delay putting a significant number of cases into the levy
program. In addition to policy constraints, inaccurate or outdated
information in IRS systems prevent cases from entering the levy
program. Our review of IRS collection efforts against DOD contractors
selected for audit and investigation indicated that IRS attempts to
work with the businesses and individuals to achieve voluntary
compliance, pursuing enforcement actions such as levies of federal
contract payments later rather than earlier in the collection process.
For many of our case study contractors, this resulted in businesses and
individuals continuing to receive federal contract payments without
making any payments on their unpaid federal taxes.
We also found numerous instances of abusive or potentially
criminal[Footnote 6] activity related to the federal tax system during
our audit and investigation of 47 DOD contractor case studies. The 34
case studies involving businesses with employees had primarily unpaid
payroll taxes, some dating to the early 1990s and some for as many as
62 tax periods.[Footnote 7] However, rather than fulfill their role as
"trustees" and forward these amounts to IRS, these DOD contractors
diverted the money for personal gain or to fund their businesses. The
other 13 case studies involved individuals who had unpaid income taxes
dating as far back as the 1980s. These 47 DOD contractors provided a
wide variety of goods and services, including building maintenance,
construction, consulting, catering, dentistry, and funeral services.
Several of these contractors provided parts or services supporting
weapons and other sensitive military programs.
Federal law does not prohibit a contractor with unpaid federal taxes
from receiving contracts from the federal government. At this juncture,
the criteria calling for federal agencies to do business only with
responsible contractors do not require contracting officers to consider
a contractor's tax noncompliance, unless the contractor has been
suspended or debarred for tax evasion. Further, the federal government
has no coordinated process for identifying and determining the
businesses and individuals that abuse the federal tax system and for
conveying that information to contracting officers for use before
awarding contracts. The Office of Federal Procurement Policy in the
Office of Management and Budget (OMB) is responsible for providing
overall direction to governmentwide procurement policies, regulations,
and procedures and may be in the best position to facilitate
discussions between DOD, IRS, and other affected agencies. Options
could include designating such tax abuse as a cause for governmentwide
debarment and suspension or, if allowed by statute, authorizing IRS to
declare such businesses and individuals ineligible for government
contracts.
We are making recommendations to DOD to immediately provide its
contractor payment information to TOP and to IRS to use the levy
program as one of the first steps in the collection process. We are
making a recommendation to OMB to develop and pursue policy options for
prohibiting contract awards to contractors that abuse the federal tax
system, including any necessary legislation. We also suggest that
Congress consider requiring DOD to periodically report to Congress on
its progress in implementing the Debt Collection Improvement Act of
1996 (DCIA) and providing its payment information for each of its
contract and vendor payment systems to TOP, including details of actual
collections by system and in total for all contract and vendor payment
systems during the reporting period. In addition, Congress may wish to
require that OMB report to Congress on progress in developing and
pursuing options for prohibiting federal contract awards to businesses
and individuals that abuse the federal tax system, including periodic
reporting of actions taken against contractors.
DOD and IRS partially agreed with our recommendations while OMB did not
agree. In addition, DOD and OMB disagreed with our matters for
congressional consideration. DOD did not agree that a requirement is
necessary for DOD to report to Congress on its progress in implementing
the DCIA. We believe that such reporting to Congress is necessary to
facilitate oversight since DOD, until recently, had taken little action
to implement the offset provisions of DCIA since its passage more than
7 years ago. We continue to believe that Congress may wish to consider
such oversight as the federal government is missing opportunities to
collect hundreds of millions of dollars in unpaid taxes owed by DOD
contractors. In oral comments, OMB questioned the need for developing
or pursuing additional mechanisms to prohibit federal contract awards
to "tax abusers." OMB's comments provide us no basis to change our
recommendation. We believe that OMB should assume a leadership role in
ensuring that contractors that abuse the tax system are prohibited from
receiving federal contracts. See the "Agency Comments and Our
Evaluation" section of this report for a more detailed discussion of
agency comments. We have reprinted the DOD and IRS written comments in
appendixes III and IV.
Background:
As the largest purchaser of goods and services in the federal
government, DOD awarded contracts valued at nearly $165 billion in
fiscal year 2002. Within the federal government, DOD represented about
two-thirds of the federal contract spending reported in fiscal year
2002, as shown in figure 1. Spending at the next three largest federal
agencies, the Department of Energy (DOE), the General Services
Administration (GSA), and the National Aeronautics and Space
Administration (NASA), represented only about half of the remaining 34
percent of federal contract awards during the same period.
Figure 1: Fiscal Year 2002 Federal Contract Award Amounts by Agency:
[See PDF for image]
[End of figure]
In 1998, DOD established the CCR database as the primary repository for
contractor information shared with other agencies. With minor
exceptions, contractors are required to register in the CCR database
prior to award of a DOD contract. In addition to a one-time
registration process, contractors are required to keep all registered
information current, and must confirm the registered information is
accurate and complete annually. The CCR database contains a wide
variety of contractor information including contractor name, address,
points of contact, electronic payment information, and tax
identification number (TIN). As of June 2003, the CCR database
contained almost 224,000 active contractor registrations. DOD; NASA;
the Departments of the Treasury, Transportation, and the Interior; as
well as the Office of Personnel Management currently use CCR to
register contractors. According to CCR officials, while some
contractors engage in business with more than one agency (e.g., DOD and
NASA), prospective and current DOD contractors represented the majority
of CCR registrations. On October 1, 2003, a final rule change to the
Federal Acquisition Regulation (FAR) was announced[Footnote 8] that
generally requires all federal contractors to register in the CCR
database.
Unlike most federal agencies that rely on the Department of the
Treasury's Financial Management Service (FMS) for issuing payments, DOD
has its own disbursing authority. The Defense Finance and Accounting
Service (DFAS) has overall payment responsibility for goods and
services purchased by DOD. As part of a reorganization in April 2001,
DFAS separated its commercial payment services into two areas--contract
pay and vendor pay. Contract pay handles invoices for formal, long-term
contracts that are typically administered by the Defense Contract
Management Agency (DCMA). These contracts tend to cover complex,
multiyear purchases with high-dollar values, such as major weapon
systems. The single DOD automated system[Footnote 9] used in contract
pay disbursed over $86 billion to contractors in fiscal year 2002.
While somewhat of a misnomer, vendor pay[Footnote 10] is handled by 15
DOD payment and disbursing systems operating in 22 DFAS offices, and
cumulatively disbursed another $97 billion to contractors during fiscal
year 2002.
Overhauling DOD's financial management represents a major challenge
that goes far beyond financial accounting to the very fiber of the
department's range of business operations and management culture. Of
the 26 areas on our governmentwide "high-risk" list, 6 are DOD program
areas, and the department shares responsibility for 3 other high-risk
areas that are governmentwide in scope. Financial management, one of
the 6 DOD program areas, has weaknesses, including the lack of
effective and efficient asset management and accountability, unreliable
estimates of environmental and disposal liabilities, lack of accurate
budget and cost information, nonintegrated and proliferating financial
management systems, and fundamental flaws in the overall control
environment. As we have documented in numerous reports, DOD's financial
management problems leave it highly vulnerable to fraud, waste, and
abuse.
In our high-risk list, IRS also shares responsibility for three areas
that are governmentwide in scope, as well as two IRS program areas
pertinent to this report: IRS financial management and collection of
unpaid taxes. In both of these areas, weaknesses continue to expose the
federal government to significant losses of tax revenue, and compliant
taxpayers bear the increased burden of financing the government's
activities. IRS attempts to identify businesses and individuals that do
not pay the taxes they owe through its various enforcement programs.
However, inadequate financial and operational information has rendered
IRS unable to develop reliable cost-based performance information for
its tax collection and enforcement programs, and to judge whether the
agency is appropriately allocating available resources among competing
management priorities. As of September 2002, IRS had an inventory of
known unpaid taxes,[Footnote 11] including interest and penalties,
totaling $249 billion, of which $112 billion has some collection
potential and thus is at risk.[Footnote 12]
Our recent testimonies and reports have highlighted large and pervasive
declines in IRS compliance and collection programs. These programs
generally experienced larger workloads, smaller staffing, and fewer
numbers of cases closed per employee from 1996 through 2001. By the end
of fiscal year 2001, IRS was deferring collection action for about one
of three tax delinquencies assigned to the collection programs. In a
September 2002 report to the IRS Oversight Board, former IRS
Commissioner Rossotti said that IRS has been facing a growing
compliance workload at the same time that resources were declining. He
said the result is a "huge gap" between the number of taxpayers that
are not filing, not reporting, or not paying what they owe and IRS's
capacity to deal with them.
In addition, we reported in 1999 that nearly 2 million businesses owed
about $49 billion in payroll taxes, which was about 22 percent of the
total outstanding balance of IRS unpaid tax assessments.[Footnote 13]
As of September 30, 2002, the amount of unpaid payroll taxes remained
about the same (nearly $49 billion). In our 1999 report, we noted that
according to IRS records, IRS had assessed $15 billion in penalties
against approximately 185,000 individuals found to be willful and
responsible for the nonpayment of payroll taxes withheld from
employees. We reported that much of this amount was not being
collected, and that businesses and individuals owing payroll taxes
received significant federal benefits and other federal payments.
The Taxpayer Relief Act of 1997[Footnote 14] enhanced IRS's ability to
collect unpaid federal taxes by authorizing IRS to continuously levy up
to 15 percent of certain federal payments made to businesses and
individuals. The continuous levy program, now referred to as FPLP, was
implemented in July 2000. This program provides an automated process
for serving tax levies and collecting unpaid taxes through Treasury's
FMS and its TOP process.
Treasury established the TOP as part of implementing the DCIA.[Footnote
15] Congress passed DCIA to maximize the collection of delinquent
nontax debts owed to federal agencies. TOP centralizes the process by
which certain federal payments are withheld or reduced to collect
delinquent debts, and as part of that program, FMS has a centralized
database of debts that DCIA requires federal agencies to refer to
FMS.[Footnote 16] Under the regulations implementing DCIA, disbursing
agencies, including DOD and others that independently disburse rather
than having it done on their behalf by FMS, are required to compare
their payment records with the TOP database.[Footnote 17] If a match
occurs, the disbursing agency must offset the payment, thereby reducing
or eliminating the nontax debt.
FMS assists IRS in implementing FPLP through a feature of the TOP
process, thus enabling IRS to electronically serve a tax levy. For
payments disbursed by FMS on behalf of most federal agencies, the
amount to be levied and credited to IRS is deducted before FMS
disburses the payment. For payments disbursed directly by other federal
agencies, such as DOD, FMS identifies the amount to be levied from the
disbursing agency's payment information and notifies the disbursing
agency to deduct the levy amount before payment is made.[Footnote 18]
As a practical matter, FMS cannot honor a tax levy through TOP unless
the disbursing agency has fulfilled its DCIA responsibilities to
compare payment records with the TOP database.[Footnote 19] When a
disbursing agency provides FMS with payment information for comparison
with the TOP database, FMS has an opportunity to notify the disbursing
agency of an IRS levy. To the extent disbursing agencies are not
providing payment information to TOP, the implementation of FPLP is
hindered.
DCIA also requires agencies to refer certain debt to Treasury for
centralized collection.[Footnote 20] FMS reported that the debt
referrals to TOP totaled more than $186 billion as of September 2002.
Of this amount, $81 billion were federal tax debt, $71 billion were
child support debt, $3 billion were state tax debt, and $31 billion
were federal nontax debt (e.g., student loans).
Under the levy process, IRS supplies FMS with an electronic file
containing unpaid tax information for inclusion in the TOP database.
FMS compares the TIN and name on federal payment records with the TIN
and name on unpaid tax records provided by IRS. When FMS identifies a
business or individual with unpaid taxes that is scheduled to receive a
federal payment, it informs IRS, which issues a notice of intent to
levy to the delinquent taxpayer (unless the notice was previously
sent).[Footnote 21] Once a notice of impending levy is received, the
delinquent taxpayer has several options for action and a minimum of 30
days to respond.[Footnote 22] The options are as follows:
* The taxpayer may disagree with IRS's assessment and collection of tax
liability, and appeal the action by requesting a hearing with the IRS
Office of Appeals. Generally, IRS must suspend any levy actions while
the hearing and related appeals are pending.
* The taxpayer may elect to pay the debt in full.
* The taxpayer may negotiate with IRS to establish an alternative
payment arrangement, such as an installment agreement or an offer in
compromise.[Footnote 23] IRS is precluded from continuing with a levy
action while it considers a taxpayer's proposed installment agreement
or offer in compromise.
* The taxpayer may apply to IRS for a hardship determination, for which
a business or individual demonstrates to IRS that making any payment
would result in a significant financial hardship. In such cases, IRS
may agree to delay collection action until the taxpayer's financial
condition improves.
If the delinquent taxpayer does not respond to the levy notice, IRS
will instruct FMS to proceed with the continuous levy and reduce all
scheduled payments by up to 15 percent, or the exact amount of tax owed
if it is less than 15 percent of the payment, until the tax debt is
satisfied. Since the inception of the levy program in July 2000, IRS
has used it to collect $76 million in tax debt, including over $60
million in tax debt during fiscal year 2002, by directly levying
federal payments. In earlier reviews,[Footnote 24] we estimated that
IRS could use the levy program to potentially recover hundreds of
millions of dollars in tax debt.
DOD Contractors Owe Billions in Unpaid Federal Taxes:
The federal government pays billions of dollars to DOD contractors that
abuse the federal tax system. Further, as of September 2002, businesses
and individuals registered in DOD's CCR database owed nearly $3 billion
in unpaid federal taxes. Data reliability issues with respect to DOD
and IRS records prevented us from identifying an exact amount.
Consequently, the total amount of unpaid federal taxes owed by DOD
contractors is not known.
Magnitude of Unpaid Federal Taxes Owed by DOD Contractors:
DOD and IRS records showed that the nearly $3 billion in unpaid federal
taxes is owed by about 27,100 contractors registered in CCR. This
represents almost 14 percent of the contractors registered as of
February 2003. Of this number, over 25,600 were businesses that
primarily had unpaid payroll taxes.[Footnote 25] Many also had unpaid
federal unemployment taxes. The other approximately 1,500 contractors
were primarily individuals who did not pay income taxes on their
business profits or individual income.
The amount of unpaid taxes for DOD contractors registered in CCR ranged
from a small amount owed by an individual for a single tax period to
millions of dollars owed by a business over more than 60 tax periods.
The type of unpaid taxes owed by these contractors varied and consisted
of payroll, corporate income, excise, unemployment, individual income,
and other types of taxes. In the case of unpaid payroll taxes, an
employer withheld federal taxes from an employee's wages, but did not
send the withheld payroll taxes or the employer's required matching
amount to IRS. As shown in figure 2, about 42 percent of the total tax
amount owed by DOD contractors was for unpaid payroll taxes.
Figure 2: DOD Contractor Unpaid Taxes by Tax Type:
[See PDF for image]
[End of figure]
Employers are subject to civil and criminal penalties if they do not
remit payroll taxes to the federal government. When an employer
withholds taxes from an employee's wages, the employer is deemed to
have a responsibility to hold these amounts "in trust" for the federal
government until the employer makes a federal tax deposit in that
amount.[Footnote 26] To the extent these withheld amounts are not
forwarded to the federal government, the employer is liable for these
amounts, as well as the employer's matching Federal Insurance
Contribution Act (FICA) contributions. Individuals within the business
(e.g., corporate officers) may be held personally liable for the
withheld amounts not forwarded and assessed a civil monetary penalty
known as a trust fund recovery penalty (TFRP).[Footnote 27] Failure to
remit payroll taxes can also be a criminal felony offense[Footnote 28]
punishable by imprisonment of more than a year, while the failure to
properly segregate payroll taxes can be a criminal misdemeanor
offense[Footnote 29] punishable by imprisonment of up to a year. The
law imposes no penalties upon an employee for the employer's failure to
remit payroll taxes since the employer is responsible for submitting
the amounts withheld. The Social Security and Medicare trust funds are
subsidized or made whole for unpaid payroll taxes by the general fund,
as we discussed in a previous report.[Footnote 30] Over time, the
amount of this subsidy is significant. As of September 1998, the last
date on which information was readily available, the estimated
cumulative amount of unpaid taxes and associated interest for which the
Social Security and Medicare trust funds were subsidized by the general
fund was approximately $38 billion.[Footnote 31]
Based on our case study analysis, we found that contractors with unpaid
federal taxes provide a wide range of goods and services to DOD,
including building maintenance, catering, construction, consulting,
custodial, dentistry, music, and funeral services. Several of these
contractors provided parts or services related to aircraft components
for several DOD and civilian programs.
A substantial amount of the unpaid federal taxes shown in IRS records
as owed by DOD contractors had been outstanding for several years. As
reflected in figure 3, 78 percent of the nearly $3 billion in unpaid
taxes was over a year old as of September 30, 2002, and 52 percent of
the unpaid taxes was for tax periods prior to September 30, 1999.
Figure 3: DOD Contractor Unpaid Taxes by Fiscal Year:
[See PDF for image]
[End of figure]
Our previous work[Footnote 32] has shown that as unpaid taxes age, the
likelihood of collecting all or a portion of the amount owed decreases.
This is due, in part, to the continued accrual of interest and
penalties on the outstanding tax debt, which, over time, can dwarf the
original tax obligation.
DOD Contractor Unpaid Taxes Are Likely Understated:
Although the nearly $3 billion in unpaid federal taxes owed by DOD
contractors as of September 30, 2002, is a significant amount, it may
not reflect the true amount of unpaid taxes owed by these businesses
and individuals. Data integrity issues with DOD's contractor database
and the nature of IRS's taxpayer account database prevented us from
identifying the true extent of DOD contractor unpaid taxes.
For example, we found that some contractors providing goods and
services to DOD could not be identified. We analyzed the TINs reported
by contractors in the CCR database. A TIN field[Footnote 33] is
completed during a CCR registration, and contractors are responsible
for the TIN's accuracy. During our review, we found that the CCR
database included nearly 4,900 employer identification numbers (EIN)
that did not match the IRS Master Files.[Footnote 34] Our examination
also identified some invalid TINs[Footnote 35] that were either all the
same digit (e.g., 999999999) or an unusual series of digits (e.g.,
123456789). Invalid TINs in the CCR database prevented us from
determining if the contractor had unpaid taxes.[Footnote 36] We
recently recommended to IRS and OMB that options to routinely validate
all TINs in the CCR be considered, and use of contractor and TIN
information from CCR be required for tax reporting by all federal
agencies.[Footnote 37]
As previously mentioned, some contractors that received DOD payments
were not registered in CCR. Our analysis of fiscal year 2002
disbursements totaling almost $20 billion through one DFAS vendor
payment system[Footnote 38] identified payments totaling about $1
billion with a TIN that did not match a contractor TIN in the CCR
database. We also identified contractor payments totaling over $4
billion that lacked TINs in the same DFAS system. Missing TINs in the
DOD payment record prevented us from determining if the payees were
contractors with unpaid taxes. DOD financial management regulations
require that after reasonable efforts to obtain the TIN have been
unsuccessful, federal income tax at 31 percent should be withheld and
the balance of the payment forwarded to the payee.
Another factor that contributes to understating the amount of unpaid
federal taxes owed by DOD contractors is that the IRS taxpayer account
database reflects only the amount of unpaid taxes either reported by
the taxpayer on a tax return or assessed by IRS through its various
enforcement programs. The IRS database does not reflect amounts owed by
businesses and individuals that have not filed tax returns and for
which IRS has not assessed tax amounts due. During our review, we
identified instances in which a DOD contractor failed to file tax
returns for a particular tax period and, therefore, was listed in IRS
records as having no unpaid taxes. Consequently, the true extent of
unpaid taxes for these businesses and individuals is not known.
It is important to note that timing issues could result in some DOD
contractors that we identified with unpaid taxes having already paid
the amounts due. For example, some very recent amounts that appear as
unpaid taxes through a matching of DOD and IRS records may involve
matters that are routinely resolved between the taxpayer and IRS, with
the taxes paid, abated, or both[Footnote 39] within a short period.
Also, it should be noted that some assessments developed by IRS through
third party information may be overstated due to a lack of taxpayer
information (e.g., deductions). Similarly, as we have previously
reported,[Footnote 40] IRS records contain errors that affect the
accuracy of taxpayer account information, and lead to both lost
opportunities to collect outstanding taxes and a burden on taxpayers
because IRS continues to pursue amounts from taxpayers that are no
longer owed. Consequently, some of the nearly $3 billion may not
reflect true unpaid taxes, although we cannot quantify this amount.
Nonetheless, we believe the nearly $3 billion represents a reasonable
yet conservative estimate of unpaid federal taxes owed by DOD
contractors.
DOD and IRS Are Not Collecting Millions in Unpaid Federal Taxes from
Contractors:
We estimate that DOD, which functions as its own disbursing agent,
could have levied payments and collected at least $100 million in
unpaid taxes in fiscal year 2002 if it and IRS had worked together to
effectively levy contractor payments. However, in the 6 years since the
passage of the Taxpayer Relief Act of 1997, DOD has collected only
about $687,000. DOD collections to date relate to DFAS payment
reporting associated with implementation of the TOP process in December
2002 for its Mechanization of Contract Administration Services (MOCAS)
contract payment system, which disbursed over $86 billion to DOD
contractors in fiscal year 2002. DFAS had no plans or schedule at the
completion of our review to report payment information to TOP for any
of its 15 vendor payment systems, which disbursed another $97 billion
to DOD contractors in fiscal year 2002.
IRS's continuing challenges in pursuing and collecting unpaid taxes
also hinder the government's ability to take full advantage of the levy
program. For example, due to resource constraints, IRS has established
policies that either exclude or delay referral of a significant number
of cases to the program. The IRS review process for taxpayer requests,
such as installment agreements or certain offers in compromise, which
IRS is legally required to consider, often takes many months, during
which time IRS excludes these cases from the levy program. In addition,
inaccurate or outdated information in IRS systems prevents cases from
entering the levy program. Our audit and investigation of 47 DOD
contractor case studies, discussed in detail later in this report, also
show IRS continuing to work with businesses and individuals to achieve
voluntary compliance and taking enforcement actions, such as levies of
federal contractor payments, later in the collection process.
From a governmentwide perspective, making payments to federal
contractors without requiring the businesses or individuals to meet
their tax obligations through methods such as levying payments to
collect unpaid taxes is not a sound business practice. Until DOD begins
to fulfill its responsibilities under DCIA by fully assisting IRS in
its attempts to levy contractor payments and IRS fully utilizes its
authority under the Taxpayer Relief Act of 1997, the federal government
will continue to miss opportunities to collect on hundreds of millions
of dollars in unpaid federal taxes owed by DOD contractors.
DOD Is Not Fully Assisting in the Collection of Unpaid Taxes Owed by
Its Contractors:
Although it has been more than 7 years since the passage of DCIA, DOD
has not fully assisted IRS in using its continuous levy authority for
the collection of unpaid taxes by providing FMS with all DFAS payment
information. IRS's continuous levy authority authorizes the agency to
collect federal tax debts of businesses and individuals that receive
federal payments by levying up to 15 percent of each payment until the
debt is paid. Under TOP, FMS matches a database of debtors (including
those with federal tax debt) to certain federal payments (including
payments to DOD contractors). When a match occurs, the payment is
intercepted, the levied amount is sent to IRS, and the balance of the
payment is sent to the debtor. The TOP database includes federal tax
and nontax debt, state tax debt, and child support debt. All disbursing
agencies are to compare their payment records with the TOP
database.[Footnote 41] Since DOD has its own disbursing authority, once
DFAS is notified by FMS of the amount to be levied, it should deduct
this amount from the contractor payment before it is made to the payee
and forward the levied amount to the Department of the Treasury. By
fully participating in the TOP process, DOD will also aid in the
collection of other debts, such as child support and federal nontax
debt (e.g., student loans).
At the completion of our work, DOD had no formal plans or schedule to
begin providing payment information from any of its 15 vendor payment
systems to FMS for comparison with the TOP database. These 15 payment
systems disbursed almost $97 billion to DOD contractors in fiscal year
2002. DFAS officials contend that it would be difficult to provide this
payment information to TOP because the systems are decentralized and
nonintegrated in 22 different payment locations. As we have previously
reported, DOD's business systems environment is stovepiped and not well
integrated. DOD recently reported that its current business operations
were supported by approximately 2,300 systems in operation or under
development, and requested approximately $18 billion in fiscal year
2003 for the operation, maintenance, and modernization of its business
systems.[Footnote 42] In addition, DFAS did not have an organizational
structure in place to implement the TOP payment reporting process. DOD
recently communicated a timetable for implementing TOP reporting for
its vendor payment systems with completion targeted for March 2005.
Until DOD establishes processes to provide information from all payment
systems to TOP, the federal government will continue missing
opportunities to collect hundreds of millions of dollars in unpaid
taxes owed by DOD contractors.
Although DFAS recently began providing payment information to TOP from
its largest payment system, total collections to date have been
minimal. In December 2002, DFAS began providing FMS with payment
information for its MOCAS contract payment system, which disbursed over
$86 billion to contractors in fiscal year 2002. According to IRS, from
December 2002 through September 2003, DOD collected about $687,000 in
unpaid taxes from contractor payments.[Footnote 43] However, our
analysis of IRS records for DOD contractors receiving fiscal year 2002
payments from MOCAS showed that these contractors owed about $750
million in unpaid federal taxes as of September 30, 2002.
As mentioned previously, IRS records showed that over 27,100
contractors in DOD's CCR database owed nearly $3 billion in unpaid
federal taxes as of September 30, 2002. We reviewed payment
transactions in five of the largest DOD disbursement systems covering
about 72 percent of the fiscal year 2002 disbursements, or almost $131
billion, from DFAS contract and vendor payment systems. Contractors
paid through these five DOD automated systems represented at least $1.7
billion of the nearly $3 billion in unpaid federal taxes shown on IRS
records. We estimate that DOD could have offset contractor payments to
collect at least $100 million of this:
amount in fiscal year 2002 if DOD had been fulfilling its
responsibilities under DCIA to compare its payment records with the TOP
database.[Footnote 44]
IRS Policies Exclude Cases from the Levy Program:
Although the levy program could provide a highly effective and
efficient method of collecting unpaid taxes from contractors that
receive federal payments, IRS policies restrict the number of cases
that enter the program and the point in the collection process they
enter the program. For each of the collection phases listed below, IRS
policy either excludes or severely delays putting cases into the levy
program.[Footnote 45]
* Phase 1: Notify taxpayer of unpaid taxes, including a demand for
payment letter.
* Phase 2: Place the case into the Automated Collection System (ACS)
process. The ACS process consists primarily of telephone calls to the
taxpayer to arrange for payment.
* Phase 3: Move the case into a queue of cases awaiting assignment to a
field collection revenue officer.
* Phase 4: Assign the case to field collections where a revenue officer
attempts face-to-face contact and collection.
As of September 30, 2002, IRS listed $81 billion of cases in these four
phases: 17 percent were in notice status, 17 percent were in ACS, 26
percent were in field collection, and 40 percent were in the queue
awaiting assignment to the field. At the same time these four phases
take place, sometimes over the course of years, DOD contractors with
unpaid taxes continue to receive billions of dollars in contract
payments. IRS excludes cases in the notification phase from the levy
program to ensure proper notification rules are followed. However, as
we previously reported, once proper notification has been completed,
IRS continues to delay or exclude from the levy program those accounts
placed in the other three phases.[Footnote 46] IRS policy is to exclude
accounts in the ACS phase primarily because officials believed they
lack the resources to issue levy notices and respond to the potential
increase in telephone calls from taxpayers responding to the notices.
Additionally, IRS excludes the majority of cases in the queue phase
(awaiting assignment to field collection) from the levy program for 1
year. Only after cases await assignment for over a year does IRS allow
them to enter the levy program.[Footnote 47] Finally, IRS excludes most
accounts from the levy program once they are assigned to field
collection because revenue officers said that the levy action could
interfere with their successfully contacting taxpayers and resolving
the unpaid taxes.
These policy decisions, which may be justified in some cases, result in
IRS excluding millions of cases from potential levy. IRS officials who
work on ACS and field collection inventories can manually unblock
individual cases they are working in order to put them in the levy
program. However, by excluding cases in the ACS and field collection
phases, IRS records indicate it excluded as much as $34 billion of
cases from the levy program as of September 30, 2002. In January 2003,
IRS unblocked and made available for levy those accounts identified as
receiving federal salary or annuity payments. However, other accounts
remain blocked from the levy program. IRS stated that it intended to
unblock a portion of the remaining accounts sometime in 2005.
Additionally, $32 billion of cases are in the queue, and thus under
existing policy, would be excluded from the levy:
program for the first year each case is in that phase. IRS policies
along with its inability to more actively pursue collections, both of
which IRS has in the past attributed to resource constraints, combine
to prevent many cases from entering the levy program. Since IRS has a
statutory limitation on the length of time it can pursue unpaid taxes,
generally 10 years from the date of the assessment, these long delays
greatly decrease the potential for IRS to collect the unpaid
taxes.[Footnote 48]
We identified specific examples of IRS not actively pursuing collection
in our audit and investigation of 47 selected cases involving DOD
contractors. For example, IRS used a special code within its automated
systems to block collection action for almost 10 months for one DOD
contractor that owed nearly $260,000 in unpaid taxes. Specifically, IRS
closed collection actions against this case (using an administrative
transaction code it refers to as 530-39) citing resource and workload
management considerations. IRS is not currently seeking collection of
about $14.9 billion of unpaid taxes because of this administrative
code--about 5 percent of its overall inventory of unpaid assessments as
of September 30, 2002. Once IRS reversed the special code, it placed
the contractor into its queue of cases awaiting assignment for
collection action. The contractor remained in the queue, awaiting
assignment, from October 2001 through the time of our review in May
2003--19 months. DOD paid this contractor over $110,000 in fiscal year
2002, missing opportunities to collect as much as $17,000 through the
15 percent levy.
For another DOD contractor, IRS coded the individual within its
automated systems in 1999 as having financial hardship and therefore
unable to pay. This code put collection activities on hold until the
individual's adjusted gross income (per subsequent tax return filings)
exceeded a certain threshold. At the same time, IRS entered a code to
prevent further collection actions because of its own resource
constraints. IRS automated systems are designed to automatically
reverse the financial hardship code when the adjusted gross income
exceeds a certain threshold. That reversal would put the contractor
back into the IRS collection system. However, before that occurred, the
contractor stopped filing tax returns in 1997 and the IRS resource
constraint code had the unintended effect of IRS not attempting to
obtain the unfiled tax returns. This combination of codes effectively
stopped collection action from taking place for this contractor and
created a catch-22 situation since one code prevents IRS from pursuing
the individual until a filed tax return reports higher income and the
other code prevents IRS from pursuing the individual to obtain non-
filed tax forms. DOD paid this individual nearly $220,000 in 2002 and
almost $700,000 since 1999. If an effective 15 percent levy had been in
place, the government could have collected over $30,000 of the unpaid
taxes in 2002. Because of the individual's failure to file, the true
amount of unpaid taxes is not known, but could be significantly greater
than the over $160,000 currently reflected in IRS records.
Some cases repeatedly enter the queue awaiting assignment to a field
collection revenue officer and remain there for long periods. For
example, one DOD contractor had gone between ACS and the queue awaiting
assignment since 1998. This individual's case entered the queue three
times but was never assigned. As of May 2003, this case spent almost 3
and a half years in the queue. Moving a case in and out of the queue
affects its eligibility for the levy program. For another contractor
involving over $100,000 in unpaid taxes, IRS put the case into ACS in
July 2000. As noted previously, IRS routinely blocks ACS cases from
entering the levy program. Nine months later, in April 2001, IRS moved
this case from ACS into the queue to await assignment to a revenue
officer. Again, in accordance with IRS policy, IRS excludes cases in
the queue from entering the levy program for 1 year. After 1 year, the
case was referred to the levy program, so this case took about 21
months from the time it initially went to ACS until it was moved into
the levy program. The contractor received over $350,000 in federal
payments from 1999 to 2002, and current payments would not be subject
to the 15 percent levy because DOD is not reporting information from
the vendor payment system to TOP.
IRS Delays in Processing and Inaccurate Records Exclude Cases from the
Levy Program:
In addition to excluding cases for various operational and policy
reasons as described above, IRS excludes cases from the levy program
for particular taxpayer events, such as bankruptcy, litigation, or
financial hardship, as well as when taxpayers apply for an installment
agreement or an offer in compromise. When one of these events takes
place, IRS enters a code in its automated system that excludes the case
from entering the levy program. Although these actions are appropriate,
IRS may lose opportunities to collect through the levy program if the
processing of agreements is not timely or prompt action is not taken to
cancel the exclusion when the event, such as a dismissed bankruptcy
petition, is concluded.
Delays in processing taxpayer documents and errors in taxpayer records
are long-standing problems at IRS and can harm both government
interests and the taxpayer. In 2002, the IRS Taxpayer Advocate
Service[Footnote 49] reported that over 65 percent of all offers in
compromise take longer than 6 months to process. Similarly, in our
audits of IRS financial statements, we reported on delays in processing
offers in compromise. In those audits, we identified delays in
processing that were outside IRS's control (such as taxpayer failure to
provide appropriate documentation to support the offer), as well as
delays caused by IRS inactivity.[Footnote 50] These findings are
consistent with an earlier IRS internal audit report that found, in a
majority of cases sampled, that IRS had periods of inactivity that
lasted 60 days or more.[Footnote 51] Similarly, past audits have
identified instances in which inaccurate records allowed tax refunds to
be released to citizens who owe taxes and other cases in which IRS
erroneously assessed millions of dollars due to inaccurate
records.[Footnote 52] Our audit of cases involving DOD contractors with
unpaid federal taxes indicates that problems persist in the timeliness
of processing taxpayer applications and in the accuracy of IRS records.
In our review of DOD contractors with unpaid federal taxes, we
identified a number of cases in which the processing of DOD contractor
applications for an offer in compromise or an installment agreement was
delayed for long periods, thus blocking the cases from the levy program
and potentially reducing government collections. For example, in one
case, a DOD contractor with nearly $400,000 in unpaid federal taxes
applied for an offer in compromise in mid-1999, but IRS did not reject
the offer until July 2000--over a year later. In this same case, the
individual filed for an installment agreement in March 1999, but it
took IRS over 2 years--until mid-2001--to reject the proposed
agreement. During this period, the individual's account was blocked
from potential levying. From 1999 to 2001, DOD paid this individual
over $200,000 in contract payments. Had DOD been reporting its payments
to TOP during this period and had IRS not blocked the account for a
potential levy, a 15 percent levy of these payments could have
generated over $30,000 in collections for the government.
In another example, there was both a long delay by IRS in deciding
whether to accept a DOD contractor's proposed installment agreement as
well as a failure to properly reverse the codes once a decision was
made. The case had a levy block due to a proposed installment agreement
submitted by the business in mid-2000. As mentioned above, under IRS
regulations, once a code is entered into the system indicating that a
taxpayer has applied for or is currently under an offer in compromise
or installment agreement, the case is automatically blocked from the
levy program. IRS rejected the installment agreement offer after a
year. However, IRS had not properly reversed the code in its systems
that indicated an installment agreement application was pending, as of
our review in May 2003. Consequently, this account with over $60,000 in
unpaid taxes was inappropriately excluded from the levy program for 2
years. Meanwhile, this business received nearly $30,000 in payments
from DOD while the statutory period in which IRS had to collect the
unpaid taxes continued to run.
We found that inaccurate coding at times prevented both IRS collection
action and cases from entering the levy program. Because the coding
within a taxpayer's account determines whether the account will enter
the levy program, effective management of these codes is critical. If
these blocking codes remain in the system for long periods, either
because IRS delays processing taxpayer agreements or because IRS fails
to input or reverse codes after processing is complete, cases may be
needlessly excluded from the levy program.
For example, as of May 2003, one DOD contractor had been assigned to
field collection since the spring of 1996. However, the case entered
bankruptcy, thus blocking it from the levy program and preventing all
collection action on the case. Although the bankruptcy was settled in
1998, the case was never released for collection action. IRS had
incorrectly entered a reversal code, causing the case to remain in
bankruptcy status and therefore blocking it from the levy program. On
the basis of our review, IRS was attempting to reverse the bankruptcy
code and begin collection action against the case. Similarly, in
another case, a DOD contractor entered into an installment agreement
with IRS in the spring of 1999, at which time IRS posted the
appropriate code to block other collection activities. The individual
defaulted on the agreement, after making three payments, in 1999.
However, IRS did not post the code required to cancel the installment
agreement, leaving the individual's account blocked from collection
activities, such as the levy program. If the correct code had been
posted, IRS systems would have automatically put the individual in the
levy program in late 2000 when IRS implemented the program.
IRS Subordinates Use of the Levy Program to Other Collection Efforts:
Although the nation's tax system is built upon voluntary compliance,
when businesses and individuals fail to pay voluntarily, the government
has a number of enforcement tools to compel compliance or elicit
payment. Our review of DOD contractors with unpaid federal taxes
indicates that although the levy program could be an effective,
reliable collection tool, IRS is not using the program as a primary
tool for collecting unpaid taxes from federal contractors. For the
cases we audited, IRS subordinated the use of the levy program in favor
of negotiating voluntary tax compliance with the business or
individual.
We recently recommended that IRS study the feasibility of submitting
all eligible unpaid federal tax accounts to FMS on an ongoing basis for
matching against federal payment records under the levy program, and
use information from any matches to assist IRS in determining the most
efficient method of collecting unpaid taxes, including whether to use
the levy program. Although IRS raised concerns that increasing the use
of the levy program would increase workload for its staff and would
entail excessively high computer programming costs, it agreed to study
the feasibility of such an arrangement.[Footnote 53] The study was not
completed at the time of our review.
For the DOD contractors we audited and investigated, IRS attempts to
gain voluntary compliance often resulted in minimal or no actual
collections. For example, one case involved a sole proprietorship that
had gross revenue of over $40 million in 2001, about 10 percent of
which came from DOD contract payments. Although this business worked
primarily for federal agencies, it failed to remit payroll and
unemployment taxes and had accumulated unpaid federal taxes of nearly
$10 million. Even with the mounting tax debt, revenue officers
continued working to get the business to make payments, including
executing an installment agreement, on which the business defaulted.
After defaulting, IRS did not put the case into the levy program. In
November 2002, the revenue officer put a 1-year collection hold on the
business to see if it could restructure, cut costs, and become
profitable so that it could enter into another installment agreement to
voluntarily pay the tax debt. Throughout this period, the business
rarely paid its taxes on time or in full (essentially additional
payroll taxes), yet the business continued to operate and increase the
amount of unpaid federal taxes owed. In this case, IRS did not levy the
business's assets because it thought a levy would cause the business to
fail. However, the state in which the business operated seized funds
from the business's bank account in early 2003 to partially settle the
business's state tax debt. This caused the business to cease operations
in early 2003, leaving IRS with a potentially uncollectible debt of
nearly $10 million.
As another example, shortly after one business in our selection of DOD
contractors defaulted on an installment agreement, it requested and
received another installment agreement. The business promised to make
current tax payments. However, after only a few months the business was
not paying its current tax liabilities (essentially additional payroll
taxes) and had fallen behind on the installment agreement. Even without
the business accumulating more debt, the installment agreement required
the business to make monthly payments for 13 years. Given the
business's history of default, failure to pay its current tax debt, and
default on the current agreement, indications were the business would
not fulfill this obligation. However, instead of canceling this long-
term payment plan and preventing the business from accumulating
additional debt due to its failure to remit current quarterly payroll
taxes, IRS reinstated the installment agreement and declined to put a
lien on the business's properties. The business again defaulted on the
installment agreement less than 2 months after initiation, and at the
time of our review, IRS was negotiating with the business for yet
another installment agreement.
Challenges for IRS Collections:
The nation's tax system is rooted in the doctrine of its citizens
voluntarily complying with the tax laws. IRS has a difficult task in
maintaining a balance between this key doctrine and effectively
fulfilling its role as the nation's tax collector. The philosophical
thrust of this doctrine can, however, negatively affect IRS's ability
to collect what is legitimately owed to the government. If IRS fails or
is limited in its ability to act quickly and aggressively against
businesses and individuals that repeatedly fail to pay the taxes they
owe, it runs the risk of not fulfilling its mission. IRS also risks
further weakening voluntary compliance as declines in enforcement
programs may erode taxpayer confidence in the fairness of our federal
tax system and may create the perception that there is little risk in
noncompliance. The potential revenue losses and the threat to voluntary
compliance make the collection of unpaid taxes a high-risk area.
Congress and others have been concerned that declines in IRS
enforcement programs are eroding taxpayer confidence in the fairness of
our tax system.
Prompt collection is important because, as discussed earlier, IRS
generally has a finite period under which to seek collection for unpaid
taxes. Generally, there is a 10-year statutory collection period beyond
which IRS is prohibited from attempting to collect. Unless the
collection period is extended, IRS removes unpaid taxes that exceed
this statutory period from its records. Even if a case is not actively
worked for extended periods, the collection period continues to move
toward expiration, reducing IRS's opportunity to collect the amount
due.
The levy program could help IRS take prompt enforcement action and
operate more efficiently. In addition, from a governmentwide
perspective, paying billions of dollars to DOD contractors that at the
same time have substantial unpaid taxes is not a sound business
practice. Withholding up to 15 percent of these payments is an
effective collection method and is authorized by law. Additionally, the
levy program can assist other collection activities. For example, in
one case the levy helped IRS collect against a DOD contractor it was
unable to locate. The IRS revenue officers tried without success for 5
years to contact this business owner. However, after placing a lien on
the owner's assets and putting the case into FPLP, which began to levy
payments from the business's contract with another federal agency, the
contractor was ready to cooperate with IRS.
As the above case indicates, the levy program can have a far greater
impact on the tax program than just the dollars levied. We reported in
the past that businesses and individuals are more likely to pay
voluntarily when faced with a notice of intent to levy.[Footnote 54]
Our audit of DOD contractors also found this to be true. For example,
IRS issued a levy notice to one DOD contractor in the spring of 2003.
After complaining that the levy would force it into bankruptcy, the
contractor agreed to begin making voluntary installment payments. IRS
accepted this offer and therefore did not levy. At the time of our
review in May 2003, IRS had received two payments from the contractor
to begin paying the liability from its earliest tax period. In
addition, the business paid two tax deposits for current (2003) periods
of over $160,000. This sequence of events indicates that, as we
reported previously, the threat of IRS levy action often brings about
tax payments and greater taxpayer compliance and fairness to those that
do pay their taxes.
In a previous report, we estimated that after receiving a notice of
intent to levy, about 29 percent of taxpayers take action that enables
IRS to remove them from the active inventory of unpaid taxes or move
them to an inactive status. Specifically, we estimated that subsequent
to receiving a levy notice, about 19 percent of the taxpayers resolved
their liability and were removed from the active inventory, while about
10 percent obtained determinations of financial hardship.[Footnote 55]
By reclassifying some active accounts to an inactive status and
removing others, the levy program helps IRS prioritize its inventory of
unpaid taxes more efficiently and enables IRS to focus more of its
resources on unpaid accounts that have more collection potential.
As described above, the advantages of the levy program to IRS in
assisting its collection efforts are clear given its claims of resource
constraints. However, IRS's current implementation strategy appears to
make the levy program one of the last collection tools IRS uses.
Changing the program to (1) remove the policies that work to
unnecessarily exclude cases from entering the levy program and (2)
promote the use of the levy program to make it one of the first
collection tools could allow IRS--and the government--to reap the
advantages of the program earlier in the collection process.
DOD Contractors Involved in Abusive or Potentially Criminal Activity
Related to the Federal Tax System:
To determine whether there are instances of abusive or potentially
criminal activity by DOD contractors related to the federal tax system,
we selected 47 case study businesses and individuals that had unpaid
taxes and were receiving DOD contractor payments in fiscal year 2002.
We excluded cases that IRS categorized as "compliance
assessment,"[Footnote 56] business cases with total unpaid taxes under
$10,000, and individual cases with total unpaid taxes under $5,000. Our
selection was based upon a business or individual having a large number
of unpaid tax periods, owing large tax debt, and receiving DOD
contractor payments. For more information on our criteria for the
selection of the 47 case studies, see appendix I.
For all 47 cases that we audited and investigated, we found abusive or
potentially criminal activity related to the federal tax system.
Thirty-four of these case studies involved businesses with employees
who had unpaid payroll taxes dating as far back as the early 1990s,
some for as many as 62 tax periods. However, rather than fulfill their
role as "trustees" of this money and forward it to IRS, these DOD
contractors diverted the money for other purposes. To reiterate, the
diversion of payroll taxes for personal or business use is potentially
criminal activity. The other 13 case studies involved individuals that
had unpaid income taxes dating as far back as the 1980s. We are
referring the 47 cases detailed in this report to IRS for evaluation
and additional collection action or criminal investigation.
Nature of Business for Case Study Contractors:
DOD is a large and complex organization with a budget of about $400
billion and operations across the world. Because DOD contracts for a
large variety of goods and services, it is not surprising that we found
DOD contractors that have unpaid taxes from a large number of
industries. Table 1 shows a breakdown for our 47 contractor case
studies by the type of goods and services provided to DOD.
Table 1: Types of Goods and Services Provided by DOD Contractors in
Case Studies:
Type of business: Maintenance/construction services; Number: 8.
Type of business: Custodial services; Number: 4.
Type of business: Aircraft-related goods supplier; Number: 4.
Type of business: Research services; Number: 3.
Type of business: Consulting services; Number: 3.
Type of business: Music services; Number: 2.
Type of business: Dentist; Number: 2.
Type of business: Training services; Number: 2.
Type of business: Information technology personnel services; Number: 2.
Type of business: Other[A]; Number: 17.
Total; Number: 47.
Source: GAO analysis of DOD and public records.
[A] Includes goods and services such as uniform manufacturing, courier
services, medical personnel services, funeral services, weapon parts,
and computer equipment.
[End of table]
Examples of Abusive or Potentially Criminal Activity Related to the
Federal Tax System by Businesses:
As discussed previously, businesses with employees are required by law
to collect, account for, and transfer income and employment taxes to
IRS, which the employer withholds from an employee's wages. IRS refers
to these withheld payroll taxes as trust fund taxes because the
employer holds the employee's money "in trust" until the employer makes
a federal tax deposit in that amount. Businesses that fail to remit
payroll taxes to the federal government are liable for the amounts
withheld from employees, and IRS can assess a TFRP[Footnote 57] equal
to the total amount of taxes not collected or not accounted for and
paid over against individuals who are determined by IRS to be "willful
and responsible" for the nonpayment of withheld payroll taxes.
Typically, these individuals are the officers of a corporation, such as
a president or treasurer. As we have found in previous reviews,
collections of TFRP assessments from officers are generally minimal.
In addition to civil penalties, criminal penalties exist for an
employer's failure to turn over withheld employee payroll taxes to IRS.
The act of willfully failing to collect or pay over any tax is a
felony.[Footnote 58] Additionally, the failure to comply with certain
requirements for the separate accounting and deposit of withheld income
and employment taxes is a misdemeanor.[Footnote 59]
Our audit and investigation of the 34 case study business contractors
showed substantial abuse or potential criminal activity as all had
unpaid payroll taxes and all diverted funds for personal or business
use. In table 2, and on the following pages, we highlight 13 of these
businesses and estimate the amounts that could have been collected
through the levy program based on fiscal year 2002 DOD payments. For
these 13 cases, the businesses owed unpaid taxes for a range of 6 to 30
quarters (tax periods). Eleven of these cases involved businesses that
had unpaid taxes in excess of 10 tax periods, and 5 of these were in
excess of 20 tax periods. The amount of unpaid taxes associated with
these 13 cases ranged from about $150,000 to nearly $10 million; 7
businesses owed in excess of $1 million. In these 13 cases, we saw some
cases where IRS filed tax liens on property and bank accounts of the
businesses, and a few cases where IRS collected minor amounts through
the levying of non-DOD federal payments. We also saw 1 case in which
the business applied for an offer in compromise, which IRS rejected on
the grounds that the business had the financial resources to pay the
outstanding taxes in their entirety, and 2 cases in which the business
is entered into, and subsequently defaulted on, installment agreements
to pay the outstanding taxes. In 5 of the 13 cases, IRS assessed the
owners or business officers with TFRPs, yet no collections were
received from these penalty assessments.
Table 2: DOD Contractors with Unpaid Federal Taxes--Business:
Case study: 1;
Goods or service and nature of DOD work: Base support and custodial
services: provides dining, trash removal, security, cleaning, and
recycling programs on military bases;
Unpaid federal tax amount[A]: Nearly $10 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$527,000;
Fiscal year 2002 DOD payments[C]: $3.5 million;
Comments: State tax authorities levied the business bank account. The
owner borrowed nearly $1 million from the business. The owner bought a
boat, several cars, and a home outside the United States. The business
was dissolved in 2003 and transferred its employees to a relative's
business, where it submitted invoices and received payments from DOD
on a previous contract through August 2003.
Case study: 2;
Goods or service and nature of DOD work: Engineering research
services: conducts studies for DOD;
Unpaid federal tax amount[A]: Over $1 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$58,000;
Fiscal year 2002 DOD payments[C]: $390,000;
Comments: The owner paid $1 million to purchase a house and
furnishings in the mid-1990s. At around the same time, the owner
borrowed nearly $1 million from the business, and the business stopped
paying its taxes in full. DOD awarded the business contracts totaling
over $600,000.
Case study: 3;
Goods or service and nature of DOD work: Aircraft- related goods:
manufactures structural parts for DOD aircraft;
Unpaid federal tax amount[A]: Nearly $2 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$50,000;
Fiscal year 2002 DOD payments[C]: $336,000;
Comments: The business received over 30 DOD contracts from 1997
through 2002 totaling nearly $2 million.
Case study: 4;
Goods or service and nature of DOD work: Research services: provides
research for DOD;
Unpaid federal tax amount[A]: Over $700,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$13,000;
Fiscal year 2002 DOD payments[C]: $86,000;
Comments: DOD awarded the business a contract in 2002 for nearly
$800,000. Owner has over $1 million in loans related to cars, real
estate, and recreational activities, and owner also has a high-
performance airplane.
Case study: 5;
Goods or service and nature of DOD work: Janitorial services;
provides custodial services at a DOD facility;
Unpaid federal tax amount[A]: Over $3 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$108,000;
Fiscal year 2002 DOD payments[C]: $719,000;
Comments: The business did not make tax payments after early 2001, and
it made only partial payments prior to that dating back to the mid-
1990s. The business also did not file corporate tax returns for 8
years.
Case study: 6;
Goods or service and nature of DOD work: Private security services:
provides security guards at military bases;
Unpaid federal tax amount[A]: Nearly $6 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$3,000;
Fiscal year 2002 DOD payments[C]: $21,000;
Comments: One of the business's officers, who owns a large boat, paid
off a recreation-related loan in 1999. The business paid taxes while
in bankruptcy, but largely stopped paying after emerging from
bankruptcy.
Case study: 7;
Goods or service and nature of DOD work: Furniture sales and
construction services;
sells and installs office furniture at military installations;
Unpaid federal tax amount[A]: Over $150,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$6,000;
Fiscal year 2002 DOD payments[C]: $38,000;
Comments: The owners used the business to pay personal expenses, such
as house mortgage and credit cards. One owner is a retired military
officer.
Case study: 8;
Goods or service and nature of DOD work: Custodial services;
provides janitorial and housekeeping services at military
installations;
Unpaid federal tax amount[A]: Over $800,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$219,000;
Fiscal year 2002 DOD payments[C]: $1.5 million;
Comments: The business received numerous DOD contracts from 1998
through 2001 totaling nearly $12 million. The business is linked to
potential check fraud.
Case study: 9;
Goods or service and nature of DOD work: Construction services;
provides housing management services including maintenance, repairs,
and renovations, on military bases;
Unpaid federal tax amount[A]: Over $1 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$357,000;
Fiscal year 2002 DOD payments[C]: $2.4 million;
Comments: The business owes DOD tens of thousands of dollars for an
overpayment in early 2000.
Case study: 10;
Goods or service and nature of DOD work: Base support services;
provides landscaping and snow removal at a military base;
Unpaid federal tax amount[A]: Nearly;
$1 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$33,000;
Fiscal year 2002 DOD payments[C]: $217,000;
Comments: The business was awarded contracts from 1999 through 2000
worth over $1 million. The business owes taxes dating back to the
early 1990s.
Case study: 11;
Goods or service and nature of DOD work: Construction services:
provides repairs to aircraft hangars at a military base;
Unpaid federal tax amount[A]: Over $700,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$422,000;
Fiscal year 2002 DOD payments[C]: $2.8 million;
Comments: [Empty].
Case study: 12;
Goods or service and nature of DOD work: Medical personnel services:
provides;
nursing, pharmacy, physical therapy, and other skilled medical
personnel in DOD facilities;
Unpaid federal tax amount[A]: Nearly $6 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$698,000;
Fiscal year 2002 DOD payments[C]: $4.7 million;
Comments: Several federal and state tax liens have been placed against
the owner.
Case study: 13;
Goods or service and nature of DOD work: Aircraft- related goods:
manufactures aircraft components for several DOD and civilian
programs;
Unpaid federal tax amount[A]: Over $400,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$29,000;
Fiscal year 2002 DOD payments[C]: $194,000;
Comments: The business was awarded numerous DOD contracts in a recent
4-year period totaling over $300,000.
Source: GAO analysis of DOD, IRS, FMS, public, and other records.
Notes: Dollar amounts are rounded. The nature of unpaid taxes for
businesses was primarily due to unpaid payroll taxes. A contractor
registers in the CCR database with either an EIN or an SSN. In our
report, any contractor registering with an EIN is referred to as a
business, and any contractor registering with an SSN is referred to as
an individual. An individual in CCR could be a business owner (i.e.,
sole proprietorship).
[A] Unpaid tax amount as of September 30, 2002.
[B] The estimated collections under an effective tax levy use the
assumptions that all unpaid federal taxes are referred to TOP at
Treasury FMS and all fiscal year 2002 DOD payment information is
provided to TOP. The collection amount is calculated on 15 percent of
the payment amount up to the amount of unpaid taxes.
[C] DOD payments from MOCAS, One Bill Pay, Integrated Accounts Payable
System (IAPS), Computerized Accounts Payable System (CAPS) Clipper, and
CAPS Windows automated systems identified by GAO.
[End of table]
The following provides illustrative detailed information on several of
these cases.
* Case # 1 - This base support contractor provided services such as
trash removal, building cleaning, and security at U.S. military bases.
The business had revenues of over $40 million in 1 year, with over 25
percent of this coming from federal agencies. This business's
outstanding tax obligations consisted of unpaid payroll taxes. In
addition, the contractor defaulted on an IRS installment agreement. IRS
assessed a TFRP against the owner. The business reported that it paid
the owner a six figure income and that the owner had borrowed nearly $1
million from the business. The business also made a down payment for
the owner's boat and bought several cars and a home outside the
country. The owner allegedly has now relocated his cars and boat
outside the United States. This contractor went out of business in 2003
after state tax authorities seized its bank account. The business
transferred its employees to a relative's business, which also had
unpaid federal taxes, and submitted invoices and received payments from
DOD on a previous contract through August 2003.
* Case # 2 - This engineering research contractor received nearly
$400,000 from DOD during 2002. At the time of our review, the
contractor had not remitted its payroll tax withholdings to the federal
government since the late 1990s. In 1996, the owner bought a home and
furnishings worth approximately $1 million and borrowed nearly $1
million from the business. The owner told our investigators that the
payroll tax funds were used for other business purposes.
* Case # 3 - This aircraft parts manufacturer did not pay payroll
withholding and unemployment taxes for 19 of 20 periods through the
mid-to late 1990s. IRS assessed a TFRP against several corporate
officers, and placed the business in FPLP in 2000. This business claims
that its payroll taxes were not paid because the business had not
received DOD contract payments; however, DOD records show that the
business received over $300,000 from DOD during 2002.
* Case # 5 - This janitorial services contractor reported revenues of
over $3 million and had received over $700,000 from DOD in a recent
year. The tax problems of this business date back to the mid-1990s. At
the time of our review, the business had both unpaid payroll and
unemployment taxes of nearly $3 million. In addition, the business did
not file its corporate tax returns for 8 years. IRS assessed a TFRP
against the principal officer of the business in early 2002. This
contractor employed two officers who had been previously assessed TFRPs
related to another business.
* Case # 7 - This furniture business reported gross revenues of over
$200,000 and was paid nearly $40,000 by DOD in a recent year. The
business had accumulated unpaid federal taxes of over $100,000 at the
time of our review, primarily from unpaid employee payroll taxes. The
business also did not file tax returns for several years even after
repeated notices from IRS. The owners made an offer to pay IRS a
portion of the unpaid taxes through an offer in compromise, but IRS
rejected the offer because it concluded that the business and its
owners had the resources to pay the entire amount. At the time of our
audit, IRS was considering assessing a TFRP against the owners to make
them personally liable for the taxes the business owed. The owners used
the business to pay their personal expenses, such as their home
mortgage, utilities, and credit cards. The owners said they considered
these payments a loan from the business. Under this arrangement, the
owners were not reporting this company benefit as income so they were
not paying income taxes, and the business was reporting inflated
expenses.
* Case # 9 - This family-owned and operated building contractor
provided a variety of products and services to DOD, and DOD provided a
substantial portion of the contractor's revenues. At the time of our
review, the business had unpaid payroll taxes dating back several
years. In addition to failing to remit the payroll taxes it withheld
from employees, the business had a history of filing tax returns late,
sometimes only after repeated IRS contact. Additionally, DOD made an
overpayment to the contractor for tens of thousands of dollars.
Subsequently, DOD paid the contractor over $2 million without
offsetting the earlier overpayment.
* Case # 10 - This base support services contractor has close to $1
million in unpaid payroll and unemployment taxes dating back to the
early 1990s, and the business has paid less than 50 percent of the
taxes it owed. IRS assessed a TFRP against one of the corporate
officers. This contractor received over $200,000 from DOD during 2002.
Examples of Abuse of the Federal Tax System by Individuals:
Individuals are responsible for the payment of income taxes, and our
audit and investigation of 13 individuals showed significant abuse of
the federal tax system similar to what we found with our DOD business
case studies. In table 3, and on the following pages, we highlight four
of the individual case studies. In all four cases, the individuals had
unpaid income taxes. In one of the four cases, the individual operated
a business as a sole proprietorship with employees and had unpaid
payroll taxes. Taxes owed by the individuals ranged from four to nine
tax periods, which equated to years. Each individual owed in excess of
$100,000 in unpaid income taxes, with one owing in excess of $200,000.
In two of the four cases, the individuals had entered into, and
subsequently defaulted on, at least one installment agreement to pay
off the tax debt.
Table 3: DOD Contractors with Unpaid Federal Taxes--Individual:
Case study: 14;
Goods or service and nature of DOD work: Vehicle repair services:
provides repair and painting for military vehicles;
Unpaid federal tax amount[A]: Over $100,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$22,000;
Fiscal year 2002 DOD payments[C]: $147,000;
Comments: The business was investigated for paying employee wages in
cash. Despite a substantial tax liability, the owner recently
purchased a home valued at over $1 million as well as a luxury sports
car. The owner also owes a federal agency for child support.
Case study: 15;
Goods or service and nature of DOD work: Dentist: provides;
dental services at a military facility;
Unpaid federal tax amount[A]: Over $100,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$12,000;
Fiscal year 2002 DOD payments[C]: $78,000;
Comments: DOD recently increased the individual's contract by over
$80,000. The dentist's credit history included several credit card
accounts that were identified for collection action.
Case study: 16;
Goods or service and nature of DOD work: Dentist: provides;
dental services at a military facility;
Unpaid federal tax amount[A]: Over $200,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$11,000;
Fiscal year 2002 DOD payments[C]: $76,000;
Comments: DOD awarded the individual a multiyear contract for over
$400,000. This individual paid income tax for only 1 year since 1993.
The individual previously had a business that owes over $100,000 in
unpaid payroll and unemployment taxes going back to the early 1990s.
Case study: 17;
Goods or service and nature of DOD work: Training services;
conducts management and leadership courses;
Unpaid federal tax amount[A]: Over $100,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$2,000;
Fiscal year 2002 DOD payments[C]: $12,000;
Comments: This individual has not paid income taxes for 5 years.
Source: GAO analysis of DOD, IRS, FMS, public, and other records.
Notes: Dollar amounts are rounded. Nature of unpaid taxes for
individuals was primarily due to unpaid income taxes. A contractor
registers in the CCR database with either an EIN or an SSN. In our
report, any contractor registering with an EIN is referred to as a
business, and any contractor registering with an SSN is referred to as
an individual. An individual in CCR could be a business owner (i.e.,
sole proprietorship). For cases selected as individuals, we reviewed
both the owner and related business information, if it could be
identified.
[A] Unpaid tax amount as of September 30, 2002.
[B] The estimated collections under an effective tax levy use the
assumptions that all unpaid federal taxes are referred to TOP at
Treasury FMS and all fiscal year 2002 DOD payment information is
provided to TOP. The collection amount is calculated on 15 percent of
the payment amount up to the amount of unpaid taxes.
[C] DOD payments from MOCAS, One Bill Pay, IAPS, and CAPS automated
systems identified by GAO.
[End of table]
The following provides illustrative detailed information on these four
cases.
* Case # 14 - This individual's business repaired and painted military
vehicles. The owner failed to pay personal income taxes and did not
send employee payroll tax withholdings to IRS. The owner owed over
$500,000 in unpaid federal business and individual taxes. Additionally,
the TOP database showed the owner had unpaid child support. IRS levied
the owner's bank accounts and placed liens against the owner's real
property and business assets. The business received over $100,000 in
payments from DOD in a recent year, and the contractor's current DOD
contracts are valued at over $60 million. In addition, the business was
investigated for paying employee wages in cash. Despite the large tax
liability, the owner purchased a home valued at over $1 million and a
luxury sports car.
* Case # 15 - This individual, who is an independent contractor and
works as a dentist at a military installation, had a long history of
not paying income taxes. The individual did not file several tax
returns and did not pay taxes in other periods when a return was filed.
The individual entered into an installment agreement with IRS but
defaulted on the agreement. This individual received $78,000 from DOD
during a recent year, and DOD recently increased the individual's
contract by over $80,000.
* Case # 16 - This individual is another independent contractor who
also works as a dentist on a military installation. DOD paid this
individual over $200,000 in recent years, and recently signed a
multiyear contract worth over $400,000. At the time of our review, this
individual had paid income taxes for only 1 year since the early 1990s
and had accumulated unpaid taxes of several hundred thousand dollars.
In addition, the individual's prior business practice owes over
$100,000 in payroll and unemployment taxes for multiple periods going
back to the early 1990s.
* Case # 17 - DOD paid this individual nearly $90,000 for presenting
motivational speeches on management and leadership. This individual has
failed to file tax returns since the late 1990s and had unpaid income
taxes for a 5-year period from the early to mid-1990s. The total amount
of unpaid taxes owed by this individual is not known because of the
individual's failure to file income tax returns for a number of years.
IRS placed this individual in the levy program in late 2000; however,
DOD payments to this individual were not levied because DFAS payment
information was not reported to TOP as required.
See appendix II for details on the other 30 DOD contractor case
studies.
Contractors with Unpaid Taxes Are Not Prohibited by Law from Receiving
Contracts from the Federal Government:
Federal law does not prohibit a contractor with unpaid federal taxes
from receiving contracts from the federal government. Existing
mechanisms for doing business only with responsible contractors do not
prevent businesses and individuals that abuse the federal tax system
from receiving contracts. Further, the government has no coordinated
process for identifying and determining the businesses and individuals
that should be prevented from receiving contracts and for conveying
that information to contracting officers for use before awarding
contracts.
In previous work, we supported the concept of barring delinquent
taxpayers from receiving federal contracts, loans and loan guarantees,
and insurance. In March 1992, we testified on the difficulties involved
in using tax compliance as a prerequisite for awarding federal
contracts.[Footnote 60] In May 2000, we testified in support of H.R.
4181 (106th Congress), which would have amended DCIA to prohibit
delinquent federal debtors, including delinquent taxpayers, from being
eligible to contract with federal agencies.[Footnote 61] Safeguards in
the bill would have enabled the federal government to procure goods or
services it needed from delinquent taxpayers for designated disaster
relief or national security. Our testimony also pointed out
implementation issues, such as the need to first ensure that IRS
systems provide timely and accurate data on the status of taxpayer
accounts. However, this legislative proposal was not adopted and there
is no existing statutory bar on delinquent taxpayers receiving federal
contracts.
Federal agencies are required by law to award contracts to responsible
sources.[Footnote 62] This statutory requirement is implemented in the
FAR, which requires that government purchases be made from, and
government contracts awarded to, responsible contractors
only.[Footnote 63] To effectuate this policy, the government has
established a debarment and suspension process and established certain
criteria for contracting officers to consider in determining a
prospective contractor's responsibility. Contractors debarred,
suspended, or proposed for debarment are excluded from receiving
contracts and agencies are prohibited from soliciting offers from,
awarding contracts to, or consenting to subcontracts with these
contractors, unless compelling reasons exist. Prior to award,
contracting officers are required to check a governmentwide list of
parties that have been debarred, suspended, or declared ineligible for
government contracts,[Footnote 64] as well as to review a prospective
contractor's certification[Footnote 65] on debarment, suspension, and
other responsibility matters. Among the causes for debarment and
suspension is tax evasion.[Footnote 66] In determining:
whether a prospective contractor is responsible, contracting officers
are also required to determine that the contractor meets several
specified standards, including "a satisfactory record of integrity and
business ethics." Except for a brief period during 2000 through 2001,
contracting officers have not been required to consider compliance with
federal tax laws in making responsibility determinations.[Footnote 67]
Neither the current debarment and suspension process nor the
requirements for considering contractor responsibility effectively
prevent the award of government contracts to businesses and individuals
that abuse the tax system. Since most businesses and individuals with
unpaid taxes are not charged with tax evasion, and fewer still
convicted, these contractors would not necessarily be subject to the
debarment and suspension process. None of the contractors described in
this report were charged with tax evasion for the abuses of the tax
system we identified.
A prospective contractor's tax noncompliance, other than tax evasion,
is not considered by the contracting officer before deciding whether to
award a contract. Further, no coordinated and independent mechanism
exists for contracting officers to obtain accurate information on
contractors that abuse the tax system. Such information is not
obtainable from IRS because of a statutory restriction on disclosure of
taxpayer information.[Footnote 68] As we found in November
2002,[Footnote 69] unless reported by prospective contractors
themselves, contracting officers face significant difficulties
obtaining or verifying tax compliance information on prospective
contractors.
Moreover, even if a contracting officer could obtain tax compliance
information on prospective contractors, a determination of a
prospective contractor's responsibility under the FAR when a contractor
abused the tax system is still subject to a contracting officer's
individual judgment. Thus, a business or individual with unpaid taxes
could be determined to be responsible depending on the facts and
circumstances of the case. Since the responsibility determination is
largely committed to the contracting officer's discretion and depends
on the contracting situation involved, there is the risk that different
determinations could be reached on the basis of the same tax compliance
information. On the other hand, if a prospective contractor's tax
noncompliance results in mechanical determinations of
nonresponsibility, de facto debarment could result. Further, a
determination that a prospective contractor is not responsible under
the FAR could be challenged.[Footnote 70]
Because individual responsibility determinations can be affected by a
number of variables, any implementation of a policy designed to
consider tax compliance in the contract award process may be more
suitably addressed on a governmentwide basis. The formulation and
implementation of such a policy may most appropriately be the role of
OMB's Office of Federal Procurement Policy. The Administrator of
Federal Procurement Policy provides overall direction for
governmentwide procurement policies, regulations, and procedures. In
this regard, OMB's Office of Federal Procurement Policy is in the best
position to develop and pursue policy options for prohibiting federal
contract awards to businesses and individuals that abuse the tax
system.
Conclusions:
Thousands of DOD contractors that failed in their responsibility to pay
taxes continue to get federal contracts. Allowing these contractors to
do business with the federal government while not paying their federal
taxes creates an unfair competitive advantage for these businesses and
individuals at the expense of the vast majority of DOD contractors that
do pay their taxes. DOD's failure to fully comply with DCIA and IRS's
continuing challenges in collecting unpaid taxes have contributed to
this unacceptable situation, and have resulted in the federal
government missing the opportunity to collect hundreds of millions of
dollars in unpaid taxes from DOD contractors. Working closely with IRS
and Treasury, DOD needs to take immediate action to comply with DCIA
and thus assist in effectively implementing IRS's legislative authority
to levy contract payments for unpaid federal taxes. Also, IRS needs to
better leverage its ability to levy DOD contractor payments, moving
quickly to use this important collection tool. Beyond DOD, the federal
government needs a coordinated process for dealing with contractors
that abuse the federal tax system, including taking actions to prevent
these businesses and individuals from receiving federal contracts.
Matters for Congressional Consideration:
In view of congressional interest in both tax collection and government
contracting, Congress may wish to consider the following two actions.
Until such time as DOD is able to demonstrate that it is meeting its
responsibilities under DCIA, including providing payment information to
TOP for offsetting unpaid federal taxes, and to facilitate action by
the department, Congress may wish to consider requiring that DOD report
periodically to Congress on its progress in implementing DCIA for each
of its contract and vendor payment systems. This report should include
details of actual collections by system and in total for all contract
and vendor payment systems during the reporting period.
In addition, Congress may wish to consider requiring that OMB report to
Congress on progress in developing and pursuing options for prohibiting
federal government contract awards to businesses and individuals that
abuse the federal tax system, including periodic reporting of actions
taken.
Recommendations for Executive Action:
To improve collection of DOD contractor tax debt, we recommend that DOD
take four corrective actions, IRS take four corrective actions, and OMB
take one corrective action.
To comply with the DCIA and support IRS efforts under the Taxpayer
Relief Act of 1997 to collect unpaid federal taxes, we recommend that
the Secretary of Defense direct the Under Secretary of Defense
(Comptroller) to take four long-and short-term actions. For the long
term, we recommend that the Under Secretary develop a formal plan to
implement DCIA by providing payment information to TOP for all DFAS
payment systems. At a minimum, the plan should designate officials
responsible for implementing DCIA responsibilities for each payment
system, including firm implementation dates for each payment system.
For the short term, we recommend that the Under Secretary:
* collaborate with Treasury's FMS to develop interim procedures for
identifying active DOD contactors in TOP and:
* develop manual procedures so that the levy of contractor payments can
be started immediately for all DOD payment systems.
For both the long and short term, we recommend that the Under Secretary
devote sufficient resources to implementing all aspects of TOP and the
DOD plan.
To help improve the effectiveness of IRS collection activities, we
recommend that the Commissioner of Internal Revenue capitalize on the
potential of the FPLP by taking the following three actions:
* using the levy program as one of the first steps in the IRS
collection process,
* changing or eliminating policies that prevent businesses and
individuals with federal contracts from entering the levy program, and:
* evaluating the cost versus benefits of keeping businesses and
individuals in the levy program once placed in the program until the
taxes are fully paid.
We further recommend that the Commissioner of Internal Revenue evaluate
the 47 referred cases detailed in this report and consider whether
additional collection action or criminal investigation is warranted.
To help ensure that the federal government does not award contracts to
businesses and individuals that have flagrantly disregarded their
federal tax obligations (e.g., failed to remit payroll taxes for
several tax periods or broken installment agreements), we recommend
that the Director of OMB develop and pursue policy options for
prohibiting federal contract awards to contractors in cases in which
abuse to the federal tax system has occurred and the tax owed is not
contested. Options could include designating such tax abuse as a cause
for governmentwide debarment and suspension or, if allowed by statute,
authorizing IRS to declare such businesses and individuals ineligible
for government contracts. We further recommend that any option OMB
develops should:
* consider whether additional legislation is needed;
* minimize administrative burdens on contracting officials, for
example, by distributing the names of abusive contractors debarred,
suspended, or declared ineligible on the governmentwide list of
excluded parties that contracting officers are already required to
check before awarding contracts;
* fully comply with the statutory restriction on disclosure of taxpayer
information; and:
* address any necessary exceptions, such as when the goods or services
cannot be obtained from other sources or for national security.
Agency Comments and Our Evaluation:
We received written comments on a draft of this report from the Under
Secretary of Defense (Comptroller) (see app. III) and the Commissioner
of Internal Revenue (see app. IV).
DOD concurred with three of the four recommendations and partially
concurred with the remaining recommendation. However, DOD disagreed
with our matter for congressional consideration related to progress
reporting. For the three recommendations with which it concurred, DOD
stated that actions are under way to address our recommendations and
provided a schedule of estimated implementation dates for all DFAS
vendor payment systems. The schedule estimates completion of 17 vendor
payment systems by March 2005. However, our report discusses 15 vendor
pay systems because, during our review, DOD represented that there were
only 15 vendor payment systems. We encourage DOD to continue to
identify additional payment systems to be included in its
implementation schedule. DOD added that it will devote the necessary
resources to support the offset/levy program and will reevaluate the
level of resources as the program progresses.
Although DOD concurred with our second recommendation regarding
collaboration with Treasury for identifying active DOD contractors in
TOP, the comments point out that for the one payment system that DOD
has included in the levy program, the initial matches of contractors
with the TOP database have been low. We did not review the methodology
or process used by DFAS or by Treasury to make the matches. However, as
stated in this report, we believe that an effective levy program at DOD
would yield hundreds of million of dollars in tax collections. DOD
further noted that it has been and will continue to be proactive in
working with Treasury to generate as many collections as possible. With
the exception of actions taken with the MOCAS system, this statement is
not accurate. DOD's comments in response to this report represent its
initial schedule for reporting payment information to TOP for the 15
reported vendor payment systems through which it disbursed almost $97
billion to contractors in fiscal year 2002.
Regarding the partial concurrence to our third recommendation dealing
with development of manual procedures as a short-term corrective
action, DOD stated that its implementation plan has been accelerated to
6 months for most payments systems, and that DOD's focus should remain
on implementing a system-based process rather than temporary manual
procedures. As previously mentioned, until the drafting of DOD's
comments to this report, there were no formal plans for reporting
payment information to TOP for any of DOD's vendor payment systems.
Therefore, there was no plan for DOD to accelerate. In addition, we
believe that given the magnitude of potential collections, it is
unreasonable to wait for a systems solution, which may not be available
for a long time. Manual procedures should be employed so that the
offset of DOD payments can be started immediately.
Regarding the disagreement with the matters for congressional
consideration, DOD stated that a requirement is not necessary for DOD
to report to Congress on its progress in implementing the DCIA. We
continue to believe that Congress may wish to consider such oversight
since DOD has failed to fully implement the offset requirements of DCIA
since its passage more than 7 years ago, and the federal government
continues to miss opportunities to collect hundreds of millions of
dollars in unpaid taxes owed by DOD contractors.
IRS agreed with the issues raised in the report with respect to DOD
contractors that abuse the federal tax system, and agreed that FPLP can
become a more effective tool for collecting delinquent federal taxes
owed by businesses and individuals that receive federal payments,
including DOD contractors. Although IRS did not explicitly agree or
disagree with the recommendations in our report, it noted a number of
actions that it had taken or was taking to address the issues raised in
this report, including steps to accelerate the collection of delinquent
taxes. Specifically, IRS noted that it had made enhancements to its
Inventory Delivery System to identify certain businesses with payroll
taxes as high-priority work and that such cases would bypass the ACS
phase of the collection process. IRS pointed out that it had made
improvements to the cycle time of a number of its collection processes
and cited recent improvements in expediting processing of offers in
compromise. IRS stated that it had reviewed the systemic blocks on its
FPLP procedures and information systems and, based on this review, will
be making changes to its information systems to modify a number of
blocks on cases in the queue and certain ACS business-related cases.
IRS will also work with DOD to ensure that contractor TINs in the CCR
database are accurate and will work with both DOD and OMB in support of
any changes they make with respect to how the federal government deals
with contactors with unpaid taxes. Finally, IRS indicated that it would
review the 47 case studies included in our report and take additional
action as appropriate.
While IRS agreed with the issues raised in the report, it pointed out
that the statutory requirements under which IRS must operate, coupled
with concerns for taxpayer rights, sometimes require IRS to remove a
taxpayer from FPLP or prevent it from taking any enforcement action.
IRS added that such requirements and considerations require IRS to take
a more balanced approach to FPLP versus a cost-benefit approach. We
recognize the statutory environment in which IRS operates in its
efforts to collect outstanding taxes and that statutory requirements
affect how the FPLP is used. We continue to believe, however, that FPLP
provides an effective, reliable means of ensuring at least some
collections on unpaid taxes and that IRS needs to consider a more
aggressive and likely administratively efficient approach, subject to
legal requirements, for government contractors that fail to pay their
tax debt.
On January 15, 2004, we received oral comments from representatives of
OMB's Office of Federal Procurement Policy, Office of Federal Financial
Management, and Office of the General Counsel. OMB questioned the need
for developing or pursuing additional mechanisms to prohibit federal
contract awards to "tax abusers." OMB said that defining "tax abuse"
would not be a function of OMB and would be more appropriate for the
Treasury Office of Tax Policy or Congress. In addition, officials said
that current FAR guidance on responsibility (48 C.F.R. Subpart 9.1) as
well as causes for suspension and debarment (48 C.F.R. Subpart 9.4) and
the Nonprocurement Common Rule on Suspension and Debarment,[Footnote
71] recently updated November 26, 2003 (68 Fed. Reg. 66533), provide
contracting officers and grant officers with ample discretion to
consider tax-related problems as a criterion for making awards.
Specifically, they noted that FAR 9.104-1(d) requires prospective
contractors to have, among other things, satisfactory records of
integrity and business ethics. Accordingly, they said, failure to pay
taxes or abuse of the tax system would be a factor in making this
determination.
OMB's comments provide us no basis to change our recommendation that
OMB develop and pursue policy options for prohibiting federal contract
awards to contractors that abuse the tax system. While we agree with
OMB that the definition of "tax abuse" should be developed in
consultation with those government officials responsible for
administering the nation's tax laws, as the agency responsible for
governmentwide procurement policy, we believe that OMB should assume a
leadership role in ensuring that contractors that abuse the tax system
are prohibited from receiving federal contracts.
As we discussed in this report, contracting officers have the
discretion to consider tax-related concerns in making determinations as
to a contractor's responsibility, specifically as to its record of
integrity and business ethics. However, contracting officers are not
required to consider a prospective contractor's tax noncompliance,
other than tax evasion, in deciding whether to award a contract and, as
all 47 case studies in our report clearly illustrate, contracting
officers are not doing so. There is no guidance for contracting
officers on considering tax information, even if the information is
legally available to them, nor is there any coordinated mechanism to
help contracting officers obtain accurate information on contractors
that abuse the tax system.
As OMB pointed out, the existing suspension and debarment process
includes an "other" category that provides for consideration of matters
of "so serious or compelling a nature" that they affect a contractor's
present responsibility. However, OMB did not explain how this
effectively prevents awards to contractors that abuse the federal tax
system or provide examples of such debarred or suspended contractors.
Because the debarment and suspension process does not appear to be
preventing federal awards to contractors that abuse the tax system, we
continue to suggest that tax abuse be specifically designated or
authorized as a cause for debarment, suspension, or ineligibility.
As agreed with your offices, unless you announce the contents of this
report earlier, we will not distribute it until 30 days after its date.
At that time, we will send copies to the Secretary of Defense; the
Secretary of the Treasury; the Director, Office of Management and
Budget; the Commissioner of the Financial Management Service; the
Commissioner of Internal Revenue; the Under Secretary of Defense for
Acquisition, Technology, and Logistics; the Under Secretary of Defense
(Comptroller); the Director, Defense Finance and Accounting Service;
the Director, Defense Logistics Agency; and interested congressional
committees and members. We will make copies available to others upon
request. In addition, this report will be available at no charge on the
GAO web site at [Hyperlink, http://www.gao.gov].
Please contact Gregory D. Kutz at (202) 512-9095 or [Hyperlink,
kutzg@gao.gov], John J. Ryan at (202) 512-9587 or
[Hyperlink, ryanj@gao.gov], or Steven J. Sebastian at
(202) 512-3406 or [Hyperlink, sebastians@gao.gov] if you or your staff
have any questions concerning this report.
Signed by:
Gregory D. Kutz:
Director:
Financial Management and Assurance:
Signed by:
Robert J. Cramer:
Managing Director:
Office of Special Investigations:
Signed by:
Steven J. Sebastian:
Director:
Financial Management and Assurance:
[End of section]
Appendixes:
Appendix I: Scope and Methodology:
To identify DOD contractors, we obtained a copy of Department of
Defense's (DOD) Central Contractor Registration (CCR) database as of
February 2003 from the Defense Logistics Information Service (DLIS) in
Battle Creek, Michigan. Because DOD does not have all contractor
information in a single automated system, the CCR database provided the
best available source of DOD contractor information.
To identify DOD contractors with unpaid federal taxes, we matched
contractor records from the CCR database to Internal Revenue Service
(IRS) tax records using the tax identification number (TIN) fields,
which resulted in about 27,100 matching records with nearly $3 billion
in unpaid taxes. We used data mining software to select, match,
summarize, and report on DOD and IRS records. We also identified over
5,000 contractors with potentially invalid TINs by matching the
contractor employer identification number (EIN) and Social Security
number (SSN) fields from CCR to IRS tax records, and by providing an
electronic file of contractor SSNs from CCR to the Social Security
Administration for matching against its records.
To evaluate DOD and IRS processes and controls over the collection of
unpaid federal taxes, we discussed this issue and reviewed current
policies and procedures with the Defense Finance and Accounting Service
(DFAS), IRS, and Financial Management Service (FMS) officials. We did
not audit the effectiveness of the DFAS process for providing
Mechanization of Contract Administration Services (MOCAS) payment
information to Treasury Offset Program (TOP). In December 2003, we
obtained information from IRS on FPLP collections from MOCAS payments
through September 2003. We visited the IRS Processing Center in Kansas
City, Missouri, to help determine the effectiveness of the continuous
levy program. In addition, we reviewed related laws and regulations
governing the levy program and TOP process.
To determine the DOD business activity of the about 27,100 contractors,
we obtained copies of fiscal year 2002 payment files for five of the
largest DOD payment systems: MOCAS for Defense Contract Management
Agency (DCMA) payments, One Bill Pay for Navy payments, Integrated
Accounts Payable System (IAPS) for Air Force payments, and Computerized
Accounts Payable System (CAPS) Clipper and CAPS Windows for Army and
Marine Corps payments. These payment files represented about 72 percent
of the $183 billion disbursed to DOD contractors in fiscal year 2002.
The five payment files are used to detect payment fraud and
overpayments by the DFAS Internal Review group with the DOD Operation
Mongoose program at the Defense Manpower Data Center in Seaside,
California. Using TINs, we matched the about 27,100 contractors to the
five fiscal year 2002 DOD payment files.[Footnote 72] We also estimated
the potential fiscal year 2002 collections under an effective tax levy
program of at least $100 million using the assumptions that all unpaid
federal taxes were referred by IRS to FMS for inclusion in the TOP
database, and fiscal year 2002 payment information from the five DOD
payment files was provided to FMS for matching against the TOP
database. The estimated collection amount under an effective tax levy
program was calculated on 15 percent of the DOD contractor payments up
to the amount of unpaid taxes.
To identify indications of abuse or potential criminal activity, we
selected a group of DOD contractors as case studies for a detailed
audit and investigation. To select the case studies, we used the about
27,100 contractors described above and, using TINs, we matched the
contractors to the five fiscal year 2002 DOD payment files. This
matching yielded about 8,500 active DOD contractors, which we further
reduced based on the amount of unpaid taxes, number of unpaid tax
periods, and DOD contractor payments. We reviewed the IRS tax records
and excluded contractors that had recently paid off their unpaid tax
balances or were categorized by IRS as compliance assessments, and
considered other factors before reducing the number of cases for study
to 47. We selected 34 businesses and 13 individuals for further audit
and investigation, and obtained copies of their automated tax
transcripts from IRS as of May 2003. We reviewed the transcripts for
any steps taken to resolve the unpaid taxes. We also obtained detailed
tax records (e.g., tax returns, revenue officer notes, and collection
and assessment files) and reviewed them at the IRS processing center in
Kansas City, Missouri. We obtained additional information from IRS to
determine what enforcement actions had been taken against these
contractors. For the 47 case studies, we identified DOD contract awards
using the DOD Electronic Document Access system, and had criminal,
financial, and public record searches performed by our Office of
Special Investigations (OSI). We provided the case study list to FMS to
identify the tax and nontax debt in the TOP database. For some case
studies, we contacted the responsible DOD contracting officers to
inquire about the contractors' goods or services, performance, and
current DOD contracts. OSI investigators contacted some contractors and
performed interviews in California, the District of Columbia, Maryland,
Michigan, Pennsylvania, Texas, and Virginia.
To determine whether DOD contractors with unpaid federal taxes are
prohibited by law from receiving contracts from the federal government,
we reviewed prior GAO work and relevant laws.
We performed our work at DOD headquarters in Arlington, Virginia; the
DFAS office in Columbus, Ohio; the DLIS in Battle Creek, Michigan; the
Defense Manpower Data Center in Seaside, California; IRS and FMS
headquarters in Washington, D.C.; and the IRS processing center in
Kansas City, Missouri.
[End of section]
Appendix II: DOD Contractors with Unpaid Federal Taxes:
Tables 2 and 3 provide data on 17 detailed case studies. Tables 4 and 5
show the 30 remaining business and individual case studies that we
audited and investigated. As with the 17 cases discussed in the body of
this report, we also found substantial abuse or potentially criminal
activity related to the federal tax system during our review of these
30 case studies. The case studies involving businesses with employees
primarily involved unpaid payroll taxes, some for as many as 62 tax
periods. The case studies involving individuals primarily involved
unpaid income taxes.
Table 4: DOD Contractors with Unpaid Federal Taxes--Business:
Case study: 18;
Goods or service and nature of DOD work:
Television repair services:
provides repairs at military hospital;
Unpaid federal tax amount[A]: Over $160,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$5,000;
Fiscal year 2002 DOD payments[C]: $32,000;
Comments:
* Contract for over $180,000 in late 1990s;
* Long history of not remitting tax withholdings;
* Several federal tax liens filed against the owner.
Case study: 19;
Goods or service and nature of DOD work:
Clothing manufacturer: provides military uniforms for DOD agency;
Unpaid federal tax amount[A]: Over $1 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$137,000;
Fiscal year 2002 DOD payments[C]: $914,000;
Comments:
* Numerous DOD contract awards totaling over $10 million;
* Offer in compromise, subsequently withdrawn.
Case study: 20;
Goods or service and nature of DOD work:
Courier service;
Unpaid federal tax amount[A]: Over $300,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$5,000;
Fiscal year 2002 DOD payments[C]: $34,000;
Comments:
* DOD contract of over $30,000;
* Bankruptcy filed;
* Several tax liens filed against the business.
Case study: 21;
Goods or service and nature of DOD work:
Construction services: provides fencing installation, maintenance and
renovations on military bases;
Unpaid federal tax amount[A]: Nearly $60,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
Nearly $60,000;
Fiscal year 2002 DOD payments[C]: $1.1 million;
Comments:
* Business cooperated with IRS only after being placed in Federal
Payment Levy Program and being levied on payments from a participating
federal agency;
IRS received almost $25,000 from levied payments;
* Has unpaid child support debt;
* Two tax liens filed against business.
Case study: 22;
Goods or service and nature of DOD work:
Weapon parts manufacturer: supplies weapons parts and tools to various
military organizations;
Unpaid federal tax amount[A]: Over $400,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$54,000;
Fiscal year 2002 DOD payments[C]: $363,000;
Comments:
* Nearly $1.9 million in DOD contracts;
* IRS tax liens filed against business.
Case study: 23;
Goods or service and nature of DOD work:
Cleaning services: provides cleaning and inspections of fire
suppression systems;
Unpaid federal tax amount[A]: Over $250,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$6,000;
Fiscal year 2002 DOD payments[C]: $40,000;
Comments:
* Awarded over $200,000 in DOD contracts;
* Several tax liens filed against business and its owner.
Case study: 24;
Goods or service and nature of DOD work:
Computer equipment supplier: supplies;
computer-related hardware to military services;
Unpaid federal tax amount[A]: Over $500,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$7,000;
Fiscal year 2002 DOD payments[C]: $45,000;
Comments:
* Over $1.3 million in DOD contracts;
* Owes tens of thousands of dollars to a federal agency for a civil
penalty for failing to meet its fiduciary duties under the employee
retirement plan;
* Several federal, state, and county tax liens filed against business.
Case study: 25;
Goods or service and nature of DOD work:
Information technology personnel services: provides support for
various military organizations;
Unpaid federal tax amount[A]: Nearly $1 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$140,000;
Fiscal year 2002 DOD payments[C]: $932,000;
Comments:
* Federal payments received from three other federal agencies;
* Multiple DOD contracts valued up to approximately $13 million;
* Potential money laundering activities;
* Defaulted on installment agreements.
Case study: 26;
Goods or service and nature of DOD work:
Aircraft- related goods: supplies aircraft maintenance equipment;
Unpaid federal tax amount[A]: Over $1.5 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$33,000;
Fiscal year 2002 DOD payments[C]: $221,000;
Comments:
* Nearly $2 million in DOD contracts;
* Several federal and state tax liens filed against this business;
* Several judgments were made against this contractor.
Case study: 27;
Goods or service and nature of DOD work:
Aircraft- related goods: supplies instruments to military services;
Unpaid federal tax amount[A]: Nearly $300,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$7,000;
Fiscal year 2002 DOD payments[C]: $48,000;
Comments:
* Numerous DOD contracts totaling over $350,000.
Case study: 28;
Goods or service and nature of DOD work:
Research services: provides research for military service programs;
Unpaid federal tax amount[A]: Over $400,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$4,000;
Fiscal year 2002 DOD payments[C]: $30,000;
Comments:
* DOD contract for over $100,000;
* Federal tax liens filed against business.
Case study: 29;
Goods or service and nature of DOD work:
Catering services;
Unpaid federal tax amount[A]: Over $60,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$4,000;
Fiscal year 2002 DOD payments[C]: $29,000;
Comments:
* Several IRS tax liens and state tax liens filed against this
business.
Case study: 30;
Goods or service and nature of DOD work:
Ammunition: manufactures ammunition;
Unpaid federal tax amount[A]: Over $2 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$100;
Fiscal year 2002 DOD payments[C]: $1,000;
Comments:
* Over $8 million in DOD contracts;
* Currently involved in a criminal investigation on product quality.
Case study: 31;
Goods or service and nature of DOD work:
Consulting services: provides technical support services for military
installations;
Unpaid federal tax amount[A]: Nearly $2 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$410,000;
Fiscal year 2002 DOD payments[C]: $2.7 million;
Comments:
* Nearly $30 million in DOD contracts;
* Bankruptcy filed;
* Federal and state tax liens filed.
Case study: 32;
Goods or service and nature of DOD work:
Moving services: provides furniture and office equipment for military
installations;
Unpaid federal tax amount[A]: Over $50,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
Over $50,000;
Fiscal year 2002 DOD payments[C]: $399,000;
Comments:
* Over $200,000 in DOD contracts;
* Several federal and state tax liens filed.
Case study: 33;
Goods or service and nature of DOD work:
Power equipment: manufactures power supplies and regulators for
various military organizations;
Unpaid federal tax amount[A]: Over $200,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$86,000;
Fiscal year 2002 DOD payments[C]: $571,000;
Comments:
* Over $3 million in DOD contracts;
* Tax lien filed against this business;
* Several judgments filed against the business and its owner in the
mid-1990s.
Case study: 34;
Goods or service and nature of DOD work:
Custodial services: provides janitorial and housekeeping services at
military installations;
Unpaid federal tax amount[A]: Over $5 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$188,000;
Fiscal year 2002 DOD payments[C]: $1.3 million;
Comments:
* About $4 million in DOD contracts;
* Multiple bankruptcies filed;
* Several federal and state tax liens filed against business.
Case study: 35;
Goods or service and nature of DOD work:
Construction services: provides construction services at military
installations;
Unpaid federal tax amount[A]: Nearly $150,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$23,000;
Fiscal year 2002 DOD payments[C]: $152,000;
Comments:
* Bankruptcy filed in late 1990s;
* IRS received over $70,000 from levied payments from agencies other
than DOD.
Case study: 36;
Goods or service and nature of DOD work:
Funeral home: provides funeral services;
Unpaid federal tax amount[A]: Over $360,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$2,000;
Fiscal year 2002 DOD payments[C]: $14,000;
Comments:
* Continued to incur delinquent taxes after emerging from bankruptcy.
Case study: 37;
Goods or service and nature of DOD work:
Procurement services;
obtains parts and equipment for various military organizations;
Unpaid federal tax amount[A]: Over $100,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$12,000;
Fiscal year 2002 DOD payments[C]: $81,000;
Comments:
* Several federal and state tax liens filed against this business and
its owner.
Case study: 38;
Goods or service and nature of DOD work:
Information technology personnel services: provides information
technology support to military organizations;
Unpaid federal tax amount[A]: Over $1 million;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$289,000;
Fiscal year 2002 DOD payments[C]: $1.9 million;
Comments:
* Corporate officer assessed a trust fund recovery penalty.
Source: GAO analysis of DOD, IRS, FMS, public, and other records.
Notes: Dollar amounts are rounded. Nature of unpaid taxes for
businesses was primarily due to unpaid payroll taxes. A contractor
registers in the CCR database with either an EIN or an SSN. In our
report, any contractor registering with an EIN is referred to as a
business, and any contractor registering with an SSN is referred to as
an individual. An individual in CCR could be a business owner (i.e.,
sole proprietorship).
[A] Unpaid tax amount as of September 30, 2002.
[B] The estimated collections under an effective tax levy use the
assumptions that all unpaid federal taxes are referred to TOP at
Treasury FMS and all fiscal year 2002 DOD payment information is
provided to TOP. The collection amount is calculated on 15 percent of
the payment amount up to the amount of unpaid taxes.
[C] DOD payments from MOCAS, One Bill Pay, IAPS, and CAPS automated
systems identified by GAO.
[End of table]
Table 5: DOD Contractors with Unpaid Federal Taxes--Individual:
Case study: 39;
Goods or service and nature of DOD work:
Music services: provides musicians and music services;
Unpaid federal tax amount[A]: Over $30,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$2,000;
Fiscal year 2002 DOD payments[C]: $16,000;
Comments:
* Over $50,000 in DOD contracts;
* Debt for unpaid child support;
* Individual has personal debt that has been turned over for
collection action.
Case study: 40;
Goods or service and nature of DOD work:
Maintenance services;
repairs shielded doors for secure areas;
Unpaid federal tax amount[A]: Over $50,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$4,000;
Fiscal year 2002 DOD payments[C]: $28,000;
Comments:
* Over $100,000 in DOD contracts;
* Bankruptcies filed in mid-1990s;
* Several court judgments filed against the contractor in the mid-to
late 1990s.
Case study: 41;
Goods or service and nature of DOD work:
Music services: provides musicians for religious services;
Unpaid federal tax amount[A]: Over $160,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$33,000;
Fiscal year 2002 DOD payments[C]: $217,000;
Comments:
* Individual has not filed an income tax return since 1997;
* Defaulted on installment agreement in the late 1990s.
Case study: 42;
Goods or service and nature of DOD work:
Construction services;
provides general carpentry, electrical, painting, and building
repairs;
Unpaid federal tax amount[A]: Nearly $70,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$19,000;
Fiscal year 2002 DOD payments[C]: $130,000;
Comments:
* Over $100,000 in DOD contracts;
* Federal tax lien filed against this individual.
Case study: 43;
Goods or service and nature of DOD work:
Consulting services: provides software development services;
Unpaid federal tax amount[A]: Over $50,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$8,000;
Fiscal year 2002 DOD payments[C]: $56,000;
Comments:
* Individual has personal credit accounts in collection;
* Federal tax lien filed against this individual.
Case study: 44;
Goods or service and nature of DOD work:
Training services;
provides diversity and sexual harassment training;
Unpaid federal tax amount[A]: Over $60,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$13,000;
Fiscal year 2002 DOD payments[C]: $89,000;
Comments:
* Over $90,000 in DOD contracts;
* Student loan debt;
* Individual owes over $10,000 in past due debt;
* Several civil judgments and state tax liens filed against contractor.
Case study: 45;
Goods or service and nature of DOD work:
Equipment maintenance: provides maintenance and repair of boilers,
generators, and compressors;
Unpaid federal tax amount[A]: Nearly $260,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$17,000;
Fiscal year 2002 DOD payments[C]: $113,000;
Comments:
* Individual owes over $10,000 in past due debt;
* Defaulted on installment agreement;
* One judgment against individual.
Case study: 46;
Goods or service and nature of DOD work:
Environmental engineering: prepares environmental reports;
Unpaid federal tax amount[A]: Over $10,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
Over $10,000;
Fiscal year 2002 DOD payments[C]: $286,000;
Comments:
* Owner is federal employee and reserve military officer.
Case study: 47;
Goods or service and nature of DOD work:
Consulting services; provides advice to a military medical command;
Unpaid federal tax amount[A]: Nearly $140,000;
Estimated fiscal year 2002 collections under effective tax levy[B]:
$13,000;
Fiscal year 2002 DOD payments[C]: $89,000;
Comments:
* Nearly $300,000 in DOD contracts;
* Student loan debt with a federal agency;
* Individual has several accounts with collection agency;
* Federal tax lien filed against individual.
Source: GAO analysis of DOD, IRS, FMS, public, and other records.
Notes: Dollar amounts are rounded. Nature of unpaid taxes for
individuals was primarily due to unpaid income taxes. A contractor
registers in the CCR database with either an EIN or an SSN. In our
report, any contractor registering with an EIN is referred to as a
business, and any contractor registering with an SSN is referred to as
an individual. An individual in CCR could be a business owner (i.e.,
sole proprietorship). For cases selected as individuals, we reviewed
both the owner and related business information, if it could be
identified.
[A] Unpaid tax amount as of September 30, 2002.
[B] The estimated collections under an effective tax levy use the
assumptions that all unpaid federal taxes are referred to TOP at
Treasury FMS and all fiscal year 2002 DOD payment information is
provided to TOP. The collection amount is calculated on 15 percent of
the payment amount up to the amount of unpaid taxes.
[C] DOD payments from MOCAS, One Bill Pay, IAPS, and CAPS automated
systems identified by GAO.
[End of table]
[End of section]
Appendix III: Comments from the Department of Defense:
UNDER SECRETARY OF DEFENSE
1100 DEFENSE PENTAGON
WASHINGTON, DC 20301-1100:
COMPTROLLER:
JAN 15 2004:
Mr. Gregory D. Kutz:
Director, Financial Management and Assurance:
U.S. General Accounting Office:
Washington, DC 20548:
Dear Mr. Kutz:
This is the Department of Defense (DoD) response to the General
Accounting Office (GAO) Draft Report (04-95), "FINANCIAL MANAGEMENT:
DoD Pays Billions of Dollars to Contractors That Abuse the Federal Tax
System," dated December 8, 2003, (GAO: Code 192092). The DoD concurs
with the four recommendations in the draft report and is already
taking action to correct the noted deficiencies.
The Department appreciates the opportunity to comment on the subject
report.
Mr. Tom Summers will be available to help resolve the issues outlined
in this report. He may be contacted by e-mail: tom.summers@osd.mil or
by telephone at (703) 697-3193.
Sincerely,
Signed by:
Dov S. Zakheim:
Enclosure: As stated:
GAO DRAFT REPORT - DATED DECEMBER 8, 2003 GAO CODE 192092/GAO-04-95:
"FINANCIAL MANAGEMENT: DOD PAYS BILLIONS OF DOLLARS TO CONTRACTORS THAT
ABUSE THE FEDERAL TAX SYSTEM":
DEPARTMENT OF DEFENSE COMMENTS TO THE RECOMMENDATIONS:
RECOMMENDATION 1: The GAO recommended that the Secretary of Defense
direct the Under Secretary of Defense (Comptroller) to develop a formal
plan to implement the Debt Collection Improvement Act (DCIA) of 1996 by
providing payment information to the U. S. Treasury's Offset Program
(TOP) for all Defense Finance and Accounting Service (DFAS) payment
systems. At a minimum, the plan should designate officials responsible
for implementing DCIA responsibilities for each payment system,
including firm implementation dates for each payment system.
DOD RESPONSE: Concur. The Defense Finance and Accounting Service (DFAS)
Columbus implemented the Treasury Offset Plan (TOP) on December 16,
2002, to offset/levy payments made to DoD contractors in the
Mechanization of Contract Administration Services (MOCAS) system. To
date, DFAS has collected approximately $1,150,292.21 in offsets/levies.
The following chart summarizes the plan status for 100 percent of the
entitlement systems on which DFAS bases its contract and vendor
payments. The implementation dates include the time that DFAS will need
to establish procedures for withholding funds that Treasury identifies
for offset/levy.
The completion date to implement the DoD's offset/levy program for the
DFAS payment systems is August 2004. For the non-DFAS systems, DFAS has
been requested to work with the appropriate system owners and the
Treasury Financial Management Service (FMS) to develop an
implementation plan by February 27, 2004. The target date for
implementation of the offset/levy program for non-DFAS system owners is
March 2005.
Enclosure:
Department of Defense Treasury Offset Program (TOP) Implementation
Plan:
[See PDF for image]
[End of table]
RECOMMENDATION 2: The GAO recommended that the Secretary of Defense
direct the Under Secretary of Defense (Comptroller) to collaborate with
the U.S. Treasury's Financial Management Service to develop interim
procedures for identifying active Defense contractors in the TOP.
DOD RESPONSE: Concur. Once the Department identifies the invoices
available for offset, the process of identifying active Defense
contractors in the TOP currently is reserved to FMS. The Department
will partner with FMS and IRS to assess the possibility of developing
more extensive matching logic with the objective of increasing the
number of matches available.
The Department has been collaborating in other ways. In addition to
providing FMS with the payment availability file on a weekly basis, FMS
was provided with a list of the approximately 336,000 open
Mechanization of Contract Administration Services (MOCAS) contracts
that have Tax Identification Numbers (TINs) in order to predict
possible future offset/levy opportunities. From this list, there were
225 matches, which represents 0.067 percent of the open contracts in
MOCAS. Additionally, FMS was provided a list of payable invoices from
CAPS-W (Columbus), which resulted in one match, that is, 0.032 percent.
The Department is also assessing the feasibility of providing payment
availability files to FMS more frequently. The Department has been, and
will continue to be, proactive in working with Treasury to generate as
many collections as possible.
Estimated Completion Date: Ongoing.
RECOMMENDATION 3: The GAO recommended that the Secretary of Defense
direct the Under Secretary of Defense (Comptroller) to develop manual
procedures so that the offset of payments can be started immediately
for all DoD payment systems.
DOD RESPONSE: Partially Concur. The Department's implementation plan
has been accelerated to 6 months for most payment systems. We believe
that our focus should remain on implementing a system-based process
rather than temporary manual procedures.
Estimated Completion Date: Not applicable.
RECOMMENDATION 4: The GAO recommended that the Secretary of Defense
direct the Under Secretary of Defense (Comptroller) to devote
sufficient resources to implement all aspects of the TOP and the DoD
plan (identified in recommendation 1).
DOD RESPONSE: Concur. The Department will devote the necessary
resources to support the offset/levy program as it is implemented in
each system in the plan identified in Recommendation 1. The level of
resources will be revaluated as the program progresses.
Estimated Completion Date: Ongoing.
Matters for Congressional Consideration: Until such time as DoD is able
to demonstrate it is meeting its responsibilities under the DCIA,
including providing payment information to TOP for purposes of
offsetting delinquent federal debt, and to facilitate action by the
Department, Congress should consider requiring that DoD report
periodically to the Congress on its progress in implementing the Act
for each of its contract and vendor payment systems. This report should
include details of actual collections by system and in total for all
contract and vendor payment systems during the reporting period.
DoD Response: Such a Congressional requirement is not necessary. As the
implementation plan proceeds, the Department will report the progress
of implementing the requirements of the Debt Collection Improvement Act
within each of its contract and vendor payment systems to the GAO.
Appendix IV: Comments from the Internal Revenue Service:
DEPARTMENT OF THE TREASURY
INTERNAL REVENUE SERVICE
WASHINGTON. D.C. 20224:
January 12, 2004:
Mr. Steven J. Sebastian:
Director, Financial Management and Assurance:
United States General Accounting Office:
Washington, D.C. 20548:
Dear Mr. Sebastian:
We have read your report entitled, "DOD Pays Billions of Dollars to
Contractors Thatt Abuse the Federal Tax System" (GAO-04-95) and agree
with the concerns you identified with contractors who abuse the federal
tax system. We also agree that the Federal Payment Levy Program (FPLP)
is one program that can become a more effective tool to collect
delinquent federal taxes owed by businesses and individuals who receive
federal payments, including Department of Defense (DOD) contractors.
The FPLP program provides an automated process for serving tax levies
and collecting unpaid taxes through Treasury's Financial Management
Service (FMS). The FMS uses its Treasury Offset Program to match
certain types of federal payments against federal tax debt records. As
a result the program applies a portion of these federal payments to the
outstanding tax liabilities:
While FPLP is an effective tool to collect delinquent taxes, its use
must be balanced against taxpayer rights. When taxpayers submit an
Installment Agreement or Offer in Compromise, they are entitled, by
statute, to have their request considered by the Internal Revenue
Service. Taxpayers also have an absolute right to an independent appeal
of proposed enforcement actions. In these situations, unless a jeopardy
condition exists, the Service must delay any levy action, including the
levy through FPLP.
To ensure that we take full advantage of FPLP and other enforcement
tools, we have taken a number of sops to speed the collection of
delinquent taxes. We have updated our Inventory Delivery System to
identify many of the in-business trust fund taxpayers as high priority
work for field collection. These cases now bypass the Automated
Collection System (ACS) and are placed directly in the queue for
assignment to a revenue officer.
We have also improved the cycle time of many of our processes including
our Offer in Compromise program. Your report reflects the Fiscal Year
2002 results where 65 percent of offers were resolved in excess of six
months. In Fiscal Year 2003 reduced that number to 44 percent.
Finally, we have reviewed the systemic blocks in our FPLP procedures
and information systems and found that some of these prevent certain
cases from entering the levy program. We will be making changes to our
information systems to modify a number of these blocks including
current blocks on cases that are in the queue and certain Business
Master File cases in ACS. As a result of this effort, more delinquent
accounts will be included in the FPLP earlier in the collection
process. While inclusion in the FPLP may appear cost beneficial,
concerns for taxpayer rights and statutory requirements sometimes
require us to remove a taxpayer from FPLP or prevent us from taking any
enforcement action at at For that reason, we believe a balanced
approach to the FPLP rather than a cost benefit analysis, is more
appropriate. Therefore, we do not plan to evaluate the cost benefit of
keeping these businesses and individuals in the levy program until the
taxes are fully paid.
Your report also mentions problems with data quality in the Central
Contractor Registration (CCR) database; particularly as it relates to
inaccurate or bogus Taxpayer Identification Numbers (TINS) provided by
registered taxpayers. As we stated in our response to your audit "More
Can Be Done to Ensure Federal Agencies File Accurate Information
returns," we will work with the DOD to ensure that the vendor TINS on
the CCR are accurate. We will also work with the Office of Management
and Budget and DOD to support changes they initiate with respect to
Federal contacts and contractors.
We are working with your office to secure additional information on the
47 businesses and individuals identified in your audit, with
indications of abuse or potential criminal activity. We plan to review
each of these case ties and refer them for additional action as
appropriate. As part of our work with DOD we will also consider
alternative uses of the information in the CCR to help identify these
types of egregious cases.
If you have any questions please contact me, or Cheryl Sherwood,
Director, Payment Compliance Policy, at (202) 283-7650.
Sincerely,
Signed for:
Mark W. Everson:
[End of section]
Appendix V: GAO Contacts and Staff Acknowledgments:
GAO Contacts:
Arthur W. Brouk, (214) 777-5633
Lawrence Malenich, (202) 512-9399
John J. Ryan, (202) 512-9587:
Acknowledgments:
In addition to the individuals named above, Tida Barakat, Gary Bianchi,
Ray Bush, William Cordrey, Francine DelVecchio, K. Eric Essig, Kenneth
Hill, Jeff Jacobson, Shirley Jones, Jason Kelly, Rich Larsen, Tram Le,
Malissa Livingston, Christie Mackie, Julie Matta, Dave Shoemaker, Wayne
Turowski, Jim Ungvarsky, and Adam Vodraska made key contributions to
this report.
(192092):
FOOTNOTES
[1] U.S. General Accounting Office, Major Management Challenges and
Program Risks: Department of the Treasury, GAO-03-109 (Washington,
D.C.: January 2003).
[2] Treasury established TOP as part of implementing its
responsibilities under the Debt Collection Improvement Act of 1996.
Treasury created TOP to centralize the process by which certain federal
payments are withheld or reduced to collect delinquent nontax debts
owed to federal agencies.
[3] A provision in the Taxpayer Relief Act of 1997 authorized IRS to
continuously levy up to 15 percent of certain federal payments made to
delinquent taxpayers. IRS established its continuous levy program, now
referred to as FPLP, to collect federal tax debt. In this report, we
refer to FPLP as the levy program. Levy is the legal process by which
IRS orders a third party to turn over property in its possession that
belongs to the delinquent taxpayer named in a notice of levy.
[4] In this report, a DOD contractor abused the federal tax system when
payroll taxes withheld from employee wages were not remitted to IRS for
1 year or more. We considered activity to be abusive when a
contractor's actions or inactions, though not illegal, took advantage
of the existing tax enforcement and administration system to avoid
fulfilling federal tax obligations and were deficient or improper when
compared with behavior that a prudent person would consider reasonable.
[5] A tax identification number (TIN) is a unique nine-digit identifier
assigned to each business and individual that files a tax return. For
businesses, the employer identification number (EIN) assigned by IRS
serves as the TIN. For individuals, the Social Security number (SSN)
assigned by the Social Security Administration (SSA) serves as the TIN.
Contractors register their TINs in the CCR database in either the TIN/
EIN field or the SSN field. In our report, a contractor completing the
TIN/EIN field is referred to as a business, while a contractor
completing the SSN field is referred to as an individual.
[6] We characterized as "potentially criminal" any activity related to
federal tax liability that may be a crime under a specific provision of
the Internal Revenue Code. Depending on the potential penalty provided
by statute, the activity could be a felony (punishable by imprisonment
of more than 1 year) or a misdemeanor (punishable by imprisonment of 1
year or less). Some potential crimes under the Internal Revenue Code
constitute fraud because of the presence of intent to defraud,
intentional misrepresentation or deception, or other required legal
elements.
[7] A "tax period" varies by tax type. For example, the tax period for
payroll and excise taxes is one quarter of a year. The taxpayer is
required to file quarterly returns with IRS for these types of taxes,
although payment of the taxes occurs throughout the quarter. In
contrast, for income, corporate, and unemployment taxes, a tax period
is 1 year.
[8] Federal Acquisition Regulation; Central Contractor Registration, 68
Fed. Reg. 56,669 (2003) (to be codified at 48 C.F.R. pts. 1, 2, 4, 13,
32, and 52).
[9] Mechanization of Contract Administration Services.
[10] The vendor pay systems include payments for contracts not
administered by DCMA, plus miscellaneous noncontractual payments such
as utilities.
[11] As of September 2003, IRS had an inventory of known unpaid taxes
totaling $246 billion of which $120 billion has some collection
potential but only $20 billion of which is considered currently
collectible. This inventory includes unpaid taxes that IRS is
attempting to collect and unpaid taxes that IRS knows are due but for
which it has decided not to pursue collection. Total unpaid taxes also
include an unknown amount of unpaid taxes that IRS has not identified
and are therefore not in the IRS inventory.
[12] GAO-03-109.
[13] U.S. General Accounting Office, Unpaid Payroll Taxes: Billions in
Delinquent Taxes and Penalty Assessments Are Owed, GAO/AIMD/GGD-99-211
(Washington, D.C.: Aug. 2, 1999).
[14] Taxpayer Relief Act of 1997 § 1024, 26 U.S.C. § 6331(h) (2000).
[15] Pub. L. No. 104-134, 110 Stat. 1321 (1996).
[16] 31 U.S.C. § 3716(c)(6) (2000).
[17] 31 C.F.R. § 285.5 (c)(2) (2003).
[18] U.S. General Accounting Office, Tax Administration: Millions of
Dollars Could Be Collected If IRS Levied More Federal Payments, GAO-01-
711 (Washington, D.C.: July 20, 2001).
[19] 31 U.S.C. § 3716(c)(1)(A) (2000) and 31 C.F.R. § 285.5(c)(2)
(2003).
[20] 31 U.S.C. § 3711(g)(1) (2000).
[21] IRS must give the taxpayer written notice 30 days before
initiating a levy or seizure action. 26 U.S.C. § 6330(a) (2000).
[22] Before receiving a notice of intent to levy, a taxpayer typically
receives several balance due notices as part of the IRS standard
notification process.
[23] Installment agreements allow the full payment of the debt in
smaller, more manageable amounts. An offer in compromise approved by
IRS allows a delinquent taxpayer to settle unpaid debt for less than
the full amount due.
[24] U.S. General Accounting Office, Tax Administration: Federal
Payment Levy Program Measure, Performance, and Equity Can Be Improved,
GAO-03-356 (Washington, D.C.: Mar. 6, 2003); Tax Administration: IRS'
Levy of Federal Payments Could Generate Millions of Dollars, GAO/GGD-
00-65 (Washington, D.C.: Apr. 7, 2000); and GAO-01-711.
[25] Payroll taxes consist of income and employment taxes (i.e.,
Federal Insurance Contribution Act (FICA) contributions--Social
Security and Medicare) withheld from an employee's wages, as well as
the employer's matching FICA contributions.
[26] The law further provides that withheld income and employment taxes
are to be held in a separate bank account considered to be a special
fund in trust for the federal government. 26 U.S.C. § 7512(b) (2000).
[27] 26 U.S.C. § 6672 (2000).
[28] 26 U.S.C. § 7202 (2000).
[29] 26 U.S.C. § 7215 (2000).
[30] GAO/AIMD/GGD-99-211.
[31] The estimate includes both FICA and Self-Employment Contribution
Act taxes, but does not include federal income tax withholdings.
Accrued interest is included in this amount because assessments
distributed to the trust funds earn interest at Treasury-based interest
rates, similar to the rates used to develop IRS's interest accruals.
[32] U.S. General Accounting Office, Internal Revenue Service:
Recommendations to Improve Financial and Operational Management, GAO-
01-42 (Washington, D.C.: Nov. 17, 2000); Internal Revenue Service:
Composition and Collectibility of Unpaid Assessments, GAO/AIMD-99-12
(Washington, D.C.: Oct. 29, 1998); and GAO/AIMD/GGD-99-211.
[33] Contractors register their TINs in the CCR database into either
the TIN/EIN field (business) or the SSN field (individual).
[34] IRS Master Files are data files that contain tax return filing
histories for businesses and individuals.
[35] In this report, an invalid TIN refers to a missing TIN, a TIN with
more or less than nine numeric characters, a TIN that includes an alpha
character, or a TIN that does not match or cannot be found in IRS or
SSA records.
[36] We referred this matter to our Office of Special Investigations
because we were concerned that some contractors may be registering in
CCR with invalid TINs to avoid federal taxes or debt collection.
[37] U.S. General Accounting Office, Tax Administration: More Can Be
Done to Ensure Federal Agencies File Accurate Information Returns, GAO-
04-74 (Washington, D.C.: Dec. 5, 2003).
[38] One Bill Pay, formerly known as Standard Accounting and Reporting
System.
[39] Abatements are reductions in the amount of taxes owed and can
occur for a variety of reasons, such as to correct errors made by IRS
or taxpayers or to provide relief from interest and penalties. 26
U.S.C. § 6404 (2000).
[40] U.S. General Accounting Office, Financial Audit: IRS's Fiscal
Years 2002 and 2001 Financial Statements, GAO-03-243 (Washington, D.C.:
Nov. 15, 2002).
[41] 31 C.F.R. § 285.5(c)(2) (2003).
[42] U.S. General Accounting Office, DOD Business Systems
Modernization: Continued Investment in Key Accounting Systems Needs to
Be Justified, GAO-03-465 (Washington, D.C.: Mar. 28, 2003) and DOD
Business Systems Modernization: Important Progress Made to Develop
Business Enterprise Architecture, but Much Work Remains, GAO-03-1018
(Washington, D.C.: Sept. 19, 2003).
[43] Although over $1 million was levied during this period, FMS
refunded $353,500 to the contractors due to a processing error. FMS
levied the DOD payments prior to IRS issuing a levy to FMS and prior to
the statutory pre-levy notification letter to the taxpayer.
Consequently, FMS was required to refund some collections. DFAS
implemented the levy process near the beginning of our review;
therefore, we did not test controls over the process.
[44] We estimated this potential collection amount using the
assumptions that all unpaid federal taxes were referred to Treasury FMS
for inclusion in the TOP database, and all fiscal year 2002 DFAS
payment information was provided to FMS for matching against the TOP
database. The collection amount was calculated on 15 percent of the
payment amount up to the amount of unpaid taxes. Our analysis did not
account for any exclusion allowed by the levy program, such as cases
where the contractor had entered bankruptcy, made alternative
arrangements to pay, or demonstrated to IRS that making payments on the
outstanding tax debt would result in a financial hardship. However,
although federal agencies are required to obtain contractor TINs by 31
U.S.C. § 7701(c)(1), many DOD contractor payment transactions do not
include TINs; therefore, the total amount of unpaid federal taxes owed
by contractors and potential collections through FPLP is not known.
[45] Although cases may move through the phases sequentially, it is not
necessary that they do so. Cases begin in the notice phase, but they
move back and forth between various phases and may, for example, enter
the queue or Automated Collection System phases repeatedly. There are
also other status phases into which a case might enter that are not
presented here.
[46] GAO-03-356.
[47] IRS sends tax debt notifications at least once each year. When IRS
initiated the levy program, it blocked all cases entering the queue for
1 year to ensure that at least one notice would be sent before the case
entered the levy program. IRS officials stated that they intend to
change this policy in early 2004.
[48] The 10-year period can be extended or suspended under a variety of
circumstances, such as agreements by the taxpayer to extend the
collection period, bankruptcy litigation, and court appeals.
Consequently, some tax assessments can and do remain on IRS's records
for decades.
[49] The Taxpayer Advocate Service is an IRS program that provides an
independent system to ensure that tax problems that have not been
resolved through normal channels are promptly and fairly handled.
[50] U.S. General Accounting Office, Internal Revenue Service:
Recommendations to Improve Financial and Operational Management, GAO-
01-42 (Washington, D.C.: Nov. 17, 2000).
[51] Review of the Offers in Compromise Program (Reference No. 091603,
Dec. 7, 1998), performed by what is now the Office of the Treasury
Inspector General for Tax Administration.
[52] GAO-01-42.
[53] GAO-03-356.
[54] GAO-03-356.
[55] GAO-03-356.
[56] For financial reporting, IRS classifies its unpaid tax debts as
either (1) federal taxes receivable (taxes due from taxpayers for which
IRS can support the existence of a receivable through taxpayer
agreement or a favorable court ruling), (2) compliance assessments
(where neither the taxpayer nor the court has affirmed that the amounts
are owed), or (3) write-offs (which are unpaid assessments that IRS
does not expect to collect because of factors such as taxpayer death,
bankruptcy, or insolvency).
[57] 26 U.S.C. § 6672 (2000).
[58] 26 U.S.C. § 7202 (2000).
[59] 26 U.S.C. § 7215 (2000).
[60] U.S. General Accounting Office, Tax Administration: Federal
Contractor Tax Delinquencies and Status of the 1992 Tax Return Filing
Season, GAO/T-GGD-92-23 (Washington, D.C.: Mar. 17, 1992).
[61] U.S. General Accounting Office, Debt Collection: Barring
Delinquent Taxpayers From Receiving Federal Contracts and Loan
Assistance, GAO/T-GGD/AIMD-00-167 (Washington, D.C.: May 9, 2000).
[62] 10 U.S.C. § 2305 (b) and 41 U.S.C. § 253b (2000).
[63] 48 C.F.R. § 9.103 (a).
[64] Contractors included on the list as having been declared
ineligible on the basis of statutory or regulatory procedures are
excluded from receiving contracts under the conditions and for the
period set forth in the statute or regulation. Agencies are prohibited
from soliciting offers from, awarding contracts to, or consenting to
subcontracts with these contractors under these conditions and for that
period.
[65] Such certification is required only for contracts exceeding the
simplified acquisition threshold.
[66] The government may suspend a contractor suspected of tax evasion,
upon adequate evidence, and debar a contractor for a conviction or
civil judgment for commission of tax evasion. Further, prospective
contractors are required to certify in their bids or proposals whether
they or their principals, within the preceding 3 years, were convicted
or had civil judgments rendered against them for commission of tax
evasion, and whether they or their principals are presently indicted or
otherwise criminally or civilly charged with commission of tax evasion.
[67] In December 2000, a controversial revision to the FAR was issued
that required contracting officers to consider a prospective
contractor's compliance with several areas of law, including tax, in
determining a satisfactory record of integrity and business ethics.
This revision was revoked in December 2001 after having been
effectively suspended for many federal agencies earlier in 2001.
[68] 26 U.S.C. § 6103 (2000).
[69] U.S. General Accounting Office, Government Contracting:
Adjudicated Violations of Certain Laws by Federal Contractors, GAO-03-
163 (Washington, D.C.: Nov. 15, 2002).
[70] For example, if the prospective contractor is a small business,
the nonresponsibility determination would be reviewed by the Small
Business Administration, which could issue a Certificate of Competency
stating that the prospective contractor is responsible for the purpose
of receiving and performing a specific government contract. A
determination of nonresponsibility could also be protested through the
bid protest process.
[71] The Nonprocurement Common Rule is the procedure used by federal
executive agencies to suspend, debar, or exclude individuals or
entities from participation in nonprocurement transactions such as
grants, cooperative agreements, scholarships, fellowships, contracts
of assistance, loans, loan guarantees, subsidies, insurance, payments
for specified use, and donation agreements.
[72] Because TINs were missing in some DOD payment records, we
populated the five payment files with TINs by matching payment records
to contractor records in the CCR database using the DOD Commercial and
Government Entity code. This procedure identified additional payments
made to DOD contractors with unpaid federal taxes.
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