December 15, 2004

# Control Number

# ED-OIG/A02-E0016

## Jack Martin, Chief Financial Officer

## Office of the Chief Financial Officer

## U.S. Department of Education

400 Maryland Avenue, SW

Washington, DC 20202

Dear Mr. Martin:

This is our Final Audit Report entitled *Puerto Rico Department of
Education's (PRDE) Repeated Single Audit Findings*. The objective of our
audit was to identify to the U.S. Department of Education (ED), repeated
single audit findings not incorporated in the special conditions placed
on PRDE's grants for fiscal year 2003-2004.

We determined that the following single audit repeated findings were not
incorporated in the special conditions that ED placed on PRDE's grants
for fiscal year 2003-2004. These findings should be considered when
placing special conditions on PRDE's future grants:

-   Property and Equipment

-   Accounting Records

-   Accounting Records of the Community Schools Administration

-   Cash Management Test at the Public Schools Level

A draft of this report was provided to ED's Office of the Chief
Financial Officer (OCFO) for comment. In its response, dated December 2,
2004, the OCFO agreed with our finding and recommendations. The OCFO
stated that it included the repeated single audit findings mentioned in
the report in the special conditions placed on PRDE for fiscal year
2004. We have summarized OCFO's comments after the finding and have
included OCFO's entire response as an Attachment.

### BACKGROUND

On May 2002, ED designated PRDE a "high-risk grantee" under 34 C.F.R. §
80.12, making the agency subject to special conditions in all Federal
education programs it administers. In August 2002, ED placed special
conditions on PRDE's grants because of problems with PRDE's fiscal and
program accountability. In September 2003, ED again placed special
conditions on PRDE's grants to help ensure that awards were expended in
accordance with applicable legal requirements and with appropriate
fiscal accountability measures, management practices, and controls. The
special conditions included the strengthening of PRDE's Internal Audit
Office, reporting on liquidations and purpose of expenditures,
implementing an appropriate procurement system, and assuring that only
Title I employees would be paid with Title I funds.

PRDE must comply with the audit requirements of the Single Audit Act.
PRDE's single audit auditors must:

-   Determine whether the financial statements are presented fairly in
    all material respects in conformity with generally accepted
    accounting principles;

-   Determine whether the schedule of expenditures of Federal awards is
    presented fairly in all material respects in relation to the
    financial statements taken as a whole;

-   Evaluate internal controls pertaining to the compliance requirements
    for each major program; and

-   Determine whether the entity has complied with the provisions of
    laws, regulations, and contracts or grants pertaining to Federal
    awards that have a direct and material effect on each major program.

**AUDIT RESULTS**

Our review of PRDE's single audit repeated findings, disclosed that the
findings related to Property and Equipment, Accounting Records,
Accounting Records of the Community Schools Administration, and Cash
Management were not incorporated in the special conditions ED placed on
PRDE's grants for fiscal year 2003-2004. These repeated findings were
the result of inadequate completion of corrective action plans in
response to PRDE's single audit reports. Additionally, ED had not
closely monitored PRDE's implementation of the corrective action plans.
As a result, ED could not ensure that PRDE adequately managed Federal
funds.

**[Property and Equipment]{.underline}**

Since 1998, PRDE's controls over property and equipment acquired with ED
funds have been questioned in single audit reports. Recent OIG work has
also revealed that PRDE did not maintain required documentation related
to property and equipment acquired with ED funds, and did not perform a
physical inventory of the property.[^1]

The 2003 single audit report stated that PRDE's Property and Equipment
Division (the Property Division) lacked internal controls over property
and equipment acquired with Federal funds. Specifically, the Property
Division did not maintain an effective property and equipment system
that would support the preparation of a current and complete subsidiary
ledger. Each item of acquired property and equipment was recorded on a
handwritten index card. The filing system used to file these cards was
inadequate because property and equipment items could not be easily
located. In addition, the Property Division had not established adequate
procedures to ensure that all property and equipment acquired under
different Federal programs were recorded. Also, there were no
established procedures to update the property records when an item of
property or equipment was transferred from one location to another or
was discarded. Furthermore, the Property Division's records did not
identify the percentage of Federal participation in the cost of property
partially acquired with Federal funds, and a physical inventory was not
performed at least annually.

Total equipment purchased with ED funds during PRDE's fiscal year
2002-2003, as recorded on PRDE's accounting records, totaled
\$17,668,823. This amount excludes equipment purchased through the
Community Schools Administration and the community schools. The actual
amount of funds transferred to the community schools for the acquisition
of property and equipment was not readily determinable because all
transfers were recorded as miscellaneous transfers. During fiscal year
2002-2003, Federal funds amounting to \$71,024,932 were transferred to
the community schools to acquire, among other things, property and
equipment. The same deficiencies were also reported in the 2001 and 2002
single audit reports.

PRDE's single audit auditors stated that there was a high incidence of
equipment theft at PRDE. The auditors explained that three laptop
computers had been stolen from their office at PRDE. When they filed a
police report, they noticed that there were numerous cases of PRDE
property theft waiting to be resolved. In addition, the auditors stated
that the majority of this equipment was unaccounted for in PRDE's
inventory records. The auditors considered the property and equipment
issues to be a serious problem.

According to 34 C.F.R. § 80.32(b),[^2] a State will use, manage, and
dispose of the equipment acquired under a grant in accordance with State
laws and procedures.

Section XII of Puerto Rico Treasury Department's (Hacienda)[^3] Ruling
#11: "Basic Guidelines for the Control and Accounting of Fixed Assets"
establishes that State agencies shall perform a physical inventory on an
annual basis of all the property under their jurisdiction. An officer
not in charge of the controls and accounting of the property should
compare the results with the property records. Differences should be
reconciled and property records adjusted, as applicable. In addition, it
states that the inventory must specify the property number, the serial
number, the location of the property, description of the property, and
the cost.

Also, 34 C.F.R. § 80.20(b)(3) establishes that effective control and
accountability must be maintained for all grant and subgrant cash, real
and personal property, and other assets. Grantees and subgrantees must
adequately safeguard all such property and must assure that it is used
solely for authorized purposes.

Since 2000, PRDE has stated in its corrective action plans that it has
been developing regulations to improve its management of property.
However, because the finding continues to appear in subsequent single
audit reports, adequate progress has not been made. The Property
Division must establish adequate procedures to ensure that all property
and equipment acquired under different Federal programs are recorded and
properly accounted for.

**[Accounting Records]{.underline}**

The "Accounting Records" finding has been reported in PRDE's single
audit reports since 1991. For the year ended June 30, 2003, the auditors
noted that PRDE had inappropriate and/or incomplete cut-off procedures,
as well as incomplete month-end and year-end closing procedures. Many
transactions were posted months after the applicable closing, with a
retroactive effect. Also, the filing procedures followed by PRDE's
personnel and the lack of communication and appropriate coordination did
not permit the prompt retrieval of payments and other requested
documents. Additionally, various payment documents and other important
data were maintained and filed without any logical sequence.
Furthermore, PRDE lacked an automated mechanized payroll system to
account for compensated absences.

The same deficiencies noted above were reported in the 2001 and 2002
single audit reports. The 2002 single audit also reported that the
accounting procedures followed by PRDE did not provide for the recording
of expense adjustments related to amounts paid to suppliers and
employees. These adjustments were later determined to be inappropriate,
overpaid, and/or unallowable. Even though this deficiency was not
reported in 2003, recent OIG audits have found that accounting
procedures used by PRDE to record payroll and other adjustments are
inappropriate and are the principal cause for lapsed funds.[^4]

According to PRDE's single audit auditors, Puerto Rico law does not
require PRDE to maintain reporting policies in accordance with generally
accepted accounting principles, but it is highly recommended. The
auditors recommended that Hacienda establish a position regarding this
issue. Concerning the deficiencies associated with accounting
procedures, the auditors stated that the problems related to adjusting
entries persisted and worsened every year. In addition, the auditors
contended that the continuation of posting expenditures late in the
Puerto Rico Integrated Financial Accounting System (PRIFAS),[^5]
presented a problem because these expenditures were misrepresented in
PRDE's accounting records.

Pursuant to 34 C.F.R. § 76.702, a State and a subgrantee shall use
fiscal control and fund accounting procedures that insure proper
disbursement and accounting for Federal funds.

34 C.F.R. § 80.20(a) and (b)(1)-(2) establish that:

a.  A State must expend and account for grant funds in accordance with
    State laws and procedures for expending and accounting for its own
    funds. Fiscal control and accounting procedures of the State, as
    well as those of its subgrantees and cost-type contractors, must be
    sufficient to:

    -   Permit preparation of reports required by this part and the
        statutes authorizing the grant, and

    -   Permit the tracing of funds to a level of expenditures adequate
        to establish that such funds have not been used in violation of
        the restrictions and prohibitions of applicable statutes.

b\. The financial management systems of other grantees and subgrantees
must meet the following standards:

-   Financial reporting *-* Accurate, current, and complete disclosure
    of the financial results of financially assisted activities must be
    made in accordance with the financial reporting requirements of the
    grant or subgrant.

-   Accounting records *-* Grantees and subgrantees must maintain
    records that adequately identify the source and application of funds
    provided for financially- assisted activities. These records must
    contain information pertaining to grant or subgrant awards and
    authorizations, obligations, unobligated balances, assets,
    liabilities, outlays or expenditures, and income.

OMB Circular A-87, Attachment A (C)4a, states that applicable credits
for receipts or reduction of expenditure-type transactions that offset
or reduce expense items allocable to Federal awards as direct or
indirect costs, shall be credited to the Federal award either as a cost
reduction or cash refund, as appropriate. Examples of such transactions
are: purchase discounts, recoveries or indemnities on losses, insurance
refunds or rebates, and adjustments of overpayments or erroneous
charges.

PRDE stated in its response to the 2003 single audit report that it has
been working with ED's Cooperative Audit Resolution and Oversight
Initiative (CAROI)[^6] to revise the internal policies and procedures to
improve the controls and accountability over PRDE's assets and funds.
However, the situation still persists because the finding continues to
appear in single audit reports.

**[Accounting Records of the Community Schools
Administration]{.underline}**

The "Accounting Records of the Community Schools Administration (CSA)"
finding has been reported in PRDE's single audit reports since 2000. The
public educational system of PRDE is based on community schools with
academic, fiscal, and administrative autonomy. The CSA is a division at
PRDE that acts as a pass-through entity that transfers State and Federal
funds to the community schools. Regarding the banking procedures of the
CSA, after Federal funds are deposited in a bank account with the Puerto
Rico Government Development Bank (GDB), these funds are then transferred
to the CSA account at Santander Bank (Santander). Electronic transfers
are then made to the bank account of each community school. Each
community school makes the final disbursement of Federal funds. For the
fiscal year ended June 30, 2003, PRDE transferred \$71,024,932 in
Federal funds from the GDB account to the CSA account.

During the evaluation of the procedures followed by the CSA, it was
noted that PRDE's accounting records did not provide for the accounting
distribution of the funds actually disbursed by the community schools.
The amounts transferred to the CSA were recorded as transfers of funds
to the Special Disbursement Agent of the CSA, and did not identify the
purpose of the Federal funds. This condition prevented the auditors from
determining compliance with allowable cost principles, equipment and
real property management, earmarking, and period of availability.

The auditors also noted that the accounts at the GDB and Santander
maintained balances at the end of each month and earned interest. The
interest earned at the GDB represents interest earned on Federal
programs. The Santander account is used to transfer State and Federal
funds to each community school's account. Therefore, part of the
interest earned at the Santander account also represents interest earned
on Federal programs. These same deficiencies were also noted in the 2001
and 2002 single audit reports.

The Puerto Rico Office of the Comptroller performed several audits of
the CSA and reported major exceptions and deficiencies related to
internal controls and management of funds. These audits included
findings related to lack of segregation of duties, lack of accounting
records, lack of compliance with policies and procedures related to
purchases with Federal funds, and supporting documentation not available
for examination.

The criteria relevant to this finding is the same criteria discussed in
the previous "Accounting Records" finding.

Since 2000, PRDE has stated in its corrective action plans that it is in
the process of designing an appropriate monitoring program. However,
because the finding continues to appear in single audit reports, more
improvement is needed.

**[Cash Management Test at the Public Schools Level]{.underline}**

The "Cash Management Test at the Public Schools Level" finding has been
reported in PRDE's single audit since 2002. However, cash management
issues have been reported in PRDE's single audit reports since 1991,
depending on the program. The finding stated that PRDE did not have a
formally structured cash management system at the schools level to
effectively manage the timing between receipt of Federal funds and the
ultimate disbursement of these funds. For the fiscal year ended June 30,
2003, PRDE transferred \$71,024,932 in Federal funds to the community
schools. The auditors visited 20 schools and tested 191 disbursements.
They noted 179 instances of noncompliance with cash management
requirements. The time elapsed from the transfer date through the
disbursement date ranged from 4 to 292 days. The transfer of these funds
was recorded as an expenditure in PRDE's accounting records, but the
funds accumulated interest in the schools' bank accounts until the funds
were actually disbursed to suppliers. The same deficiencies were also
reported in the 2002 single audit report.

The regulations at 31 C.F.R. § 205.15(a), establish that a State will
incur an interest liability to the Federal Government if Federal funds
are in a State account prior to the day the State pays out funds for
program purposes. A State interest liability will accrue from the day
Federal funds are credited to the State account to the day the State
pays out the Federal funds for program purposes.

According to 34 C.F.R. § 80.20(b)(7), procedures for minimizing the time
elapsing between the transfer of funds from the U.S. Treasury and
disbursement by grantees and subgrantees must be followed whenever
advance payment procedures are used. In addition, the PRDE was not in
compliance with the \"Users Guide for the Grant Administration and
Payment System\" issued by ED, which requires that Federal funds must be
expended within three business days after they are available. Funds held
for more than three days are considered excess cash and must be returned
to the Federal Government.

Since 2000, PRDE has been stating in its corrective action plans that it
is trying to implement some corrective actions to minimize these
deficiencies. However, because the finding continues to appear in single
audit reports, inadequate progress has been made.

**Recommendations**

We recommend that the Chief Financial Officer:

1.  Consider the deficient areas discussed above when placing special
    conditions on PRDE's grants; and

2.  Closely monitor PRDE's implementation of the corrective action plans
    presented to ED on prior single audit reports.

##### OCFO's response

In its response, the OCFO agreed with our finding and recommendations.
The OCFO stated that it had included the repeated single audit findings
mentioned in the report in the special conditions placed on PRDE for
fiscal year 2004. Specifically, the special conditions included a
requirement that PRDE prepare corrective action plans in the four areas
referenced in this audit report and submit these plans to ED by February
15, 2005. Also, the OCFO stated that ED would closely monitor PRDE's
implementation of corrective action plans presented to ED in response to
prior single audit reports.

##### OIG's reply

We reviewed OCFO's response and determined that it fully addressed our
finding and recommendations.

### 

### OBJECTIVE, SCOPE, AND METHODOLOGY

The objective of our audit was to identify to ED repeated single audit
findings not incorporated in the special conditions placed on PRDE's
grants for fiscal year 2003-2004.

To achieve the audit objective, we interviewed PRDE's single audit
auditors. We also reviewed the workpapers and audit reports issued by
PRDE's single audit auditors for the years 2001 through 2003. To select
the repeated findings for analysis, we reviewed the 2003 single audit
schedule of prior year audit findings and reviewed all 11 repeated
findings that had not been corrected by PRDE or considered by ED for the
special conditions placed on PRDE\'s current grants.

The scope of the audit included repeated findings in the single audit
report for the year ended June 30, 2003, not included in the special
conditions ED placed on PRDE's current grants.

We performed our fieldwork at the single audit auditor's worksite,
located within PRDE in Hato Rey, Puerto Rico from May 5, 2004, through
July 28, 2004, the date of our exit conference.

We did not rely on any computer-processed data for any conclusions
reached during this audit.

Our audit was performed in accordance with generally accepted government
auditing standards appropriate to the scope of the review described
above.

**STATEMENT ON INTERNAL CONTROL**

As part of this audit, we did not assess the adequacy of internal
control applicable to PRDE

or ED's Office of the Chief Financial Officer because our work was
limited to an informational

review of PRDE's repeated single audit findings.

**ADMINISTRATIVE MATTERS**

Corrective actions proposed (resolution phase) and implemented (closure
phase) by your office will be monitored and tracked through the
Department's Audit Accountability and Resolution Tracking System
(AARTS). ED policy requires that you develop a final corrective action
plan (CAP) for our review in the automated system within 30 days of the
issuance of this report. The CAP should set forth the specific action
items, and targeted completion dates, necessary to implement final
corrective actions on the finding and recommendations contained in this
final audit report.

In accordance with the Inspector General Act of 1978, as amended, the
Office of Inspector General is required to report to Congress twice a
year on the audits that remain unresolved after six months from the date
of issuance.

In accordance with the Freedom of Information Act (5 U.S.C. § 552),
reports issued by the Office of Inspector General are available to
members of the press and the general public to the extent information
contained therein is not subject to exemptions in the Act.

We appreciate the cooperation given us during this review. If you have
any questions, please call Daniel P. Schultz, Regional Inspector General
for Audit, at (212) 637-6271.

Sincerely,

/s/

Helen Lew

Assistant Inspector General for Audit

**Attachment**

![](media/image1.wmf)

**Attachment**

![](media/image2.wmf)

**Attachment**

![](media/image3.wmf)

**Attachment**

![](media/image4.wmf)

**Attachment**

![](media/image5.wmf)

**Attachment**

![](media/image6.wmf)

[^1]: *Puerto Rico Department of Education Did Not Administer Properly a
    \$9,700,000 Contract With National School Services of Puerto Rico*
    (ED/OIG A01-A0004) identified that PRDE did not inventory materials,
    equipment, and property purchased with ED funds under the subject
    contract.

[^2]: Unless otherwise specified, all regulatory citations are to the
    July 1, 2002 volume.

[^3]: Hacienda is the State agency responsible for the administration
    and disbursement of Federal funds.

[^4]: *Puerto Rico Department of Education's Special Education
    Expenditures for the period, July 1, 2002 to December 31, 2002*
    (ED/OIG A02-D0020) and *Puerto Rico Department of Education's Title
    I Expenditures for the period, July 1, 2002 to December 31, 2002*
    (ED/OIG A02-D0014) identified that PRDE's recording of untimely
    adjusting entries caused Title I and Special Education funds to
    lapse.

    ^5^ PRIFAS is Hacienda's central accounting electronic system,
    implemented on July 1, 1998.

[^5]:

[^6]: CAROI is a collaborative method that provides alternative and
    creative approaches to resolve audit findings as well as their
    underlying causes.