March 30, 2004

Mr. Doug Hulce, Superintendent

Magdalena Municipal Schools

P.O. Box 24

Magdalena, NM 87825

Dear Mr. Hulce:

This **Final Audit Report** (ED-OIG/A06-D0027) presents the results of
our audit of Magdalena Municipal Schools' (Magdalena) administration of
the Gaining Early Awareness and Readiness for Undergraduate Programs
(GEAR UP) grant for the period September 15, 2000, through September 30,
2003. Our objective was to determine whether Magdalena properly
accounted for and used the GEAR UP grant funds in accordance with 1) the
Higher Education Act of 1965, as amended (HEA), 2) Education Department
General Administrative Regulations (EDGAR), 3) GEAR UP grant terms, and
4) the cost principles in Office of Management and Budget (OMB) Circular
A-87.

We provided a draft of this report to Magdalena. In its response to our
draft report, Magdalena officials provided additional support and we
reduced the amount of unallowable costs to \$929.75 and the amount of
unsupported costs to \$4,333.05. We have summarized Magdalena's comments
in the body of the report and have included the response as Attachment
B.

GEAR UP is a discretionary grant program designed to increase the number
of low-income students who are prepared to enter and succeed in
postsecondary education. Signed into law as Title IV, Part A, Sections
403 and 404 of the HEA, GEAR UP provides five-year, competitive grants
to States and partnerships for services at high-poverty middle and high
schools.

GEAR UP grantees serve an entire cohort of students beginning no later
than the seventh grade and follow the cohort through high school. Funds
are also used to provide college scholarships to low-income students who
are part of the same cohort.

In fiscal year 1999, 164 five-year GEAR UP partnership grants were
awarded with first year funding ranging from \$70,000 to \$3,843,000 and
averaging \$460,000. The maximum annual Federal contribution is \$800
per student served. The total fiscal year GEAR UP funding for 1999,
2000, 2001, 2002, and 2003, respectively, was \$120 million, \$200
million, \$295 million, \$285 million, and \$293 million.

The U.S. Department of Education (Department) awarded Magdalena a
five-year GEAR UP partnership grant totaling \$1,108,255. The award
amounts were---

Year One September 15, 2000 -- September 14, 2001 \$ 173,597

Year Two September 15, 2001 -- September 14, 2002 \$ 197,597

Year Three September 15, 2002 -- September 14, 2003 \$ 221,597

Year Four September 15, 2003 -- September 14, 2004 \$ 245,867

Year Five September 15, 2004 -- September 15, 2005 [\$
269,597]{.underline}

Total \$1,108,255

Magdalena administers the GEAR UP partnership grant by providing
services to students through academic enrichment classes, remediation
courses, after school activities, and summer enrichment programs.

Magdalena did not properly account for and use GEAR UP partnership grant
funds in accordance with all applicable regulations, grant terms, and
cost principles. Specifically, Magdalena awarded GEAR UP scholarships to
ineligible students (\$16,500), charged the grant for fund-raising costs
(\$929.75), used grant funds for expenditures that were not adequately
supported (\$4,333.05), and did not establish a separate trust fund to
safeguard GEAR UP scholarship funds (\$112,500). Details of the
unallowable and unsupported expenditures are discussed in Attachment A.

### Unallowable Expenditures

Magdalena should not have awarded a total of \$16,500 in GEAR UP grant
funds for Year 2003 scholarships to 18 graduating seniors. As noted in
its grant proposal application, Magdalena currently serves a cohort of
students in kindergarten through 10^th^ grade. The 12^th^ grade students
were ineligible to receive the scholarships because GEAR UP scholarships
should be awarded only to students within the eligible cohort.

According to 34 C.F.R. § 694.2 (2001), "A Partnership, or a State that
chooses to use a cohort approach in its GEAR UP early intervention
component, must . . . (a) Provide services to at least one entire grade
level (cohort) of students . . . beginning not later than the 7^th^
grade; (b) Ensure that supplemental appropriate services are targeted to
the students with the greatest needs; and (c) Ensure that services are
provided through the 12^th^ grade to those students."

According to 34 C.F.R. § 694.10(a) and (b), the scholarships are awarded
under the eligibility requirements of Section 404E the Higher Education
Act of 1965, as amended (HEA). Section 404E(d)(4) of the HEA describes
eligible scholarship recipients as students who participated in the
early intervention component required under Section 404D of the HEA.

Magdalena also used \$929.75 of grant funds for unallowable fund-raising
costs. OMB Circular A-87, *Attachment B, Paragraph 21.a* (1997) states,
"Costs of organized fund raising . . . are unallowable . . . regardless
of the purpose for which the funds will be used."

### Unsupported Expenditures

Magdalena did not provide adequate documentation for expenditures
totaling \$4,333.05 for tuition charges, student incentives, hotels, and
airline tickets. OMB Circular A-87, *Cost Principles for State, Local,
and Indian Tribal Governments, Attachment A, Paragraph C.1.b. & j.*
(1997) states, " . . . To be allowable under Federal awards, costs must
. . . Be allocable to Federal awards . . . \[and\] . . . Be adequately
documented."

### GEAR UP Scholarship Funds Need to be in a Trust Fund

Magdalena had not set up a trust fund for \$112,500 in scholarships
awarded to eligible students during the first three years of the GEAR UP
grant program. The scholarships were to be delivered to students after
they completed high school and began their postsecondary education.
According to Magdalena\'s Performance Reports, the funds for
scholarships had already been placed in a trust fund. However, we found
that Magdalena had not established an irrevocable trust fund to
safeguard the GEAR UP grant scholarship funds.

The Department requires a grantee to establish a separate trust fund
that meets the requirements of state law for trust funds. Because a
grantee cannot enter into a binding written agreement with itself, the
agreement must be written with a separate trust entity in order to
satisfy the obligation requirement. State law will vary on the details,
but essentially, there must be a group of people who serve as trustees
for the trust funds who manage those funds (expend the funds and receive
income to the trust) as required by the trust agreement.

We concluded that the above conditions occurred because Magdalena did
not establish a formal system of management controls to safeguard GEAR
UP scholarship funds in an irrevocable trust and to ensure that GEAR UP
grant funds were adequately documented and used only to provide services
to the cohort of eligible students.

We recommend that the Chief Financial Officer, in collaboration with the
Assistant Secretary for Postsecondary Education, instruct Magdalena
to---

1.  Refund to the Department \$16,500 for scholarships awarded to
    ineligible students.

2.  Refund to the Department unallowable costs of \$929.75 for
    fund-raising costs.

3.  Provide sufficient documentation to support costs of \$4,333.05 or
    refund that amount to the Department.

4.  Deposit GEAR UP grant scholarship funds of \$112,500 into a separate
    trust fund.

5.  Establish a formal system of management controls to ensure GEAR UP
    grant funds are adequately documented and used only to provide
    services to the cohort of eligible students.

Magdalena provided additional documentation to support some of the
unallowable and unsupported costs identified in the draft report. The
documentation included receipts and identification of the students in
the cohort of eligible students for the following unallowable or
unsupported costs: football equipment of \$1,719.00, room charges,
hotels, meals, and recreation charges for teachers and students of
\$6,474.81.

Magdalena agreed that charges for the hotel of \$1,776.00 and airline
tickets of \$1,293.00 were inappropriate. They stated that the hotels
charges were refunded and the airline tickets were cancelled.

Magdalena also agreed to refund \$16,500 for scholarships awarded to
non-cohort students. Magdalena has established a GEAR UP Scholarship
Trust Fund in the amount of \$112,500 and established a formal system of
management controls to ensure GEAR UP funds are only used to provide
services to the cohort of eligible students.

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After reviewing Magdalena's response, we reduced the amount of
unsupported costs by \$6,474.81 and unallowable costs by \$1,719.00. We
accepted the following documentation as adequate support: hotel
receipts, meal receipts, travel reimbursement requests, and receipts for
student recreation activities for unsupported costs of \$6,474.81.

We also accepted the documentation provided to support the charges for
football equipment of \$1,719.00. In the grant application, Magdalena
identified after school incentives including tutoring and extension
activities. In Magdalena's response, they stated that students were
tutored for one hour and then participated in a sports/club activity for
one hour. Therefore, Magdalena demonstrated to us that the purchase of
the football equipment was used as an incentive activity for eligible
GEAR UP students. Additionally, we discussed this expenditure with
Department GEAR UP program officials and they agreed that Magdalena
could use sports activities as an incentive on this grant. We made the
corresponding adjustments to the figures in this report.

Although the hotel receipt for the refund of \$1,776.00 was provided,
this amount was not reimbursed to the GEAR UP fund. Furthermore, the
\$1,293.00 spent on travel was not reimbursed to the GEAR UP fund and no
documentation of airline receipts was provided.

We did not verify that Magdalena has established the scholarship trust
fund as described in their response. That verification should be
provided to the Department officials identified in the Administrative
Matters section.

The objective of our audit was to determine whether Magdalena properly
accounted for and used the GEAR UP grant funds from September 15, 2000,
through September 30, 2003, in accordance with the HEA, as amended;
EDGAR; GEAR UP grant terms; and the cost principles in OMB Circular
A-87.

To accomplish our objective, we---

-   Reviewed Magdalena's Single Audit Report for the year ended June 30,
    2002;

-   Reviewed Magdalena's GEAR UP grant application and budget narrative;

-   Reviewed Magdalena's GEAR UP grant Performance Report;

-   Reviewed Magdalena's School Board Minutes, dated May 20, 2003;

-   Reviewed written policies and procedures for purchasing and
    requisitions;

-   Judgmentally selected and reviewed expenditures of financial budgets
    for Years 2000-01 through 2003-04. Those included payroll
    transactions, purchase orders, invoices, cancelled checks, receipts,
    and other supporting documents. We reviewed all expenditures greater
    than \$1,000 and most of the expenditures greater than \$500. The
    reviewed expenditures accounted for 45 percent of the total expended
    by Magdalena for Year 2000-01, 21 percent of the total for Year
    2001-02, 45 percent of the total for Year 2002-03, and 23 percent
    for the completed portion of Year 2003-04; and

-   Interviewed various Magdalena employees, school board members, and
    Department officials.

To achieve our audit objective, we relied, in part, on
computer-processed data related to Magdalena's financial budget systems.
We verified the completeness of the data by comparing source records to
the computer-generated data, and verified the authenticity by comparing
computer-generated data to source documents. Based on these tests, we
concluded that the data were sufficiently reliable to be used in meeting
the audit's objective.

We conducted our fieldwork at the Magdalena Municipal School District
Offices in Magdalena, New Mexico on October 6 -- 9, 2003. We discussed
the results of our audit with Magdalena officials in an exit conference
held on November 14, 2003. Our audit was performed in accordance with
generally accepted government auditing standards appropriate to the
scope of the audit described above.

We obtained a sufficient understanding of management controls for
planning the audit and determining the nature, timing, and extent of
tests to be performed. As part of our review, we relied on substantive
testing of expenses charged to the GEAR UP grant to test management
controls. Our testing disclosed instances of non-compliance with federal
regulations, grant terms, and cost principles that led us to conclude
that weaknesses existed in controls over GEAR UP grant funds. These
weaknesses and their effects are discussed in the AUDIT RESULTS section
of this report.

Statements that managerial practices need improvements, as well as other
conclusions and recommendations in this report represent the opinions of
the Office of Inspector General. Determinations of corrective action to
be taken will be made by the appropriate Department of Education
officials.

If you have any additional comments or information that you believe may
have a bearing on the resolution of this audit, you should send them
directly to the following Education Department officials, who will
consider them before taking final Departmental action on the audit:

> Jack Martin
>
> Chief Financial Officer
>
> Office of the Chief Financial Officer
>
> 400 Maryland Avenue, SW, Room 4E313
>
> Washington, DC 20202
>
> Sally L. Stroup
>
> Assistant Secretary for Postsecondary Education
>
> U.S. Department of Education
>
> 1990 K Street, N.W.
>
> Washington, DC 20006
>
> []{.mark}

It is the policy of the U.S. Department of Education to expedite the
resolution of audits by initiating timely action on the findings and
recommendations contained therein. Therefore, receipt of your comments
within 30 days would be greatly appreciated.

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 general public to the extent information
contained therein is not subject to exemptions in the Act.

Sincerely,

**/Signed/**

Sherri L. Demmel

Regional Inspector General

for Audit

Attachments

[]{.mark}

### Unallowable and Unsupported GEAR UP Grant Expenditures

**September 15, 2000 -- September 30, 2003**

[]{.mark}

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+------------+----------------------+---------+--------------+--------+
| **GEAR UP  | **Expenditure**      | # Cost  | **Reason     | **Cr   |
| Budget     |                      |         | Disallowed** | iteria |
| Award      | **Item**             |         |              | ^\*^** |
| Year**     |                      |         |              |        |
+------------+----------------------+---------+--------------+--------+
| **Year     | Fund raising -       | \$      | Fund raising | **2**  |
| One**      | candles              | 929.75  | activity     |        |
|            |                      |         |              |        |
| 2000-2001  |                      |         |              |        |
+------------+----------------------+---------+--------------+--------+
| **Year     | Hotel stay           | \$      | Not          | **1**  |
| Two**      |                      | 1       | reimbursed   |        |
|            |                      | ,776.00 | to GEAR UP   |        |
| 2001-2002  |                      |         | fund         |        |
+------------+----------------------+---------+--------------+--------+
|            | Airline tickets      | \$      | Not          | **1**  |
|            |                      | 1       | adequately   |        |
|            |                      | ,293.00 | documented,  |        |
|            |                      |         | and not      |        |
|            |                      |         | reimbursed   |        |
|            |                      |         | to GEAR UP   |        |
|            |                      |         | fund         |        |
+------------+----------------------+---------+--------------+--------+
| **Year     | T-shirts for         | \$      | Not          | **1 &  |
| Three**    | students             | 265.25  | adequately   | 3**    |
|            |                      |         | documented   |        |
| 2002- 2003 |                      |         | as to which  |        |
|            |                      |         | students     |        |
|            |                      |         | were in the  |        |
|            |                      |         | cohort       |        |
+------------+----------------------+---------+--------------+--------+
|            | Student incentives   | \$      | Not          | **1**  |
|            |                      | 120.00  | adequately   |        |
|            |                      |         | documented   |        |
+------------+----------------------+---------+--------------+--------+
|            | Tuition for computer | \$      | Not all      | **3**  |
|            | aided drafting class | 351.52  | students     |        |
|            | at a university      |         | were in the  |        |
|            |                      |         | cohort       |        |
+------------+----------------------+---------+--------------+--------+
|            | Tuition for basic    | \$      | Not all      | **3**  |
|            | automotive class at  | 527.28  | students     |        |
|            | a university         |         | were in the  |        |
|            |                      |         | cohort       |        |
+------------+----------------------+---------+--------------+--------+
| ## Total   |                      | **\$    |              |        |
|            |                      | 5,2     |              |        |
|            |                      | 62.80** |              |        |
+------------+----------------------+---------+--------------+--------+

**\*Criteria:**

1.  "To be allowable under Federal awards, costs must . . . be
    adequately documented." OMB Circular A-87, *Cost Principles for
    State, Local, and Indian Tribal Governments, Attachment A, Paragraph
    C.1.j* (1997).

2.  "Costs of organized fund raising, including financial campaigns,
    solicitation of gifts and bequests, and similar expenses incurred to
    raise capital or obtain contributions are unallowable, regardless of
    the purpose for which the funds will be used." OMB Circular A-87,
    *Cost Principles for State, Local, and Indian Tribal Governments,
    Attachment B, Paragraph 21.a* (1997).

3.  "A Partnership, or a State that chooses to use a cohort approach in
    its GEAR UP early intervention component, must . . . Provide
    services to at least one entire grade level (cohort) of students . .
    . beginning not later than the 7^th^ grade." 34 C.F.R. § 694.2(a)
    (2001).