PROTECTING THE PUBLIC:

Increased Benefits Possible From

ATF's Alcohol And Tobacco

Laboratories

OIG-01-090 September 14, 2001

Office of Inspector General

*******

The Department of the Treasury
Contents

Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 1

Audit Report................................................................................................................................ 2

Results in Brief............................................................................................................................ 2

Background ................................................................................................................................. 3

Findings and Recommendations ............................................................................................. 6

Beverage Alcohol Test Results Not Always Used........................................................... 6

Recommendation................................................................................................................ 16

Formula Approval Process For Non-Beverage Alcohol And Specially Denatured

Alcohol Results In Few Rejections .................................................................................. 17

Recommendation................................................................................................................ 23

Appendices

Appendix 1: Objectives, Scope, and Methodology....................................................... 25

Appendix 2: Management Comments............................................................................ 27

Appendix 3: Major Contributors To This Report ........................................................... 31

Appendix 4: Report Distribution....................................................................................... 32

Abbreviations

ATF Bureau of Alcohol, Tobacco and Firearms

CFR Code of Federal Regulations

COLA Certificate of Label Approval

FDA Food and Drug Administration

FEMA Flavor and Extract Manufacturers Association

FY Fiscal Year

NBA Non-Beverage Alcohol

NLC National Laboratory Center

NRC National Revenue Center

OIG Office of Inspector General

SDA Specially Denatured Alcohol
OIG Audit

Report

The Department of the Treasury

Office of Inspector General

Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 2

September 14, 2001

Bradley A. Buckles

Director

Bureau of Alcohol, Tobacco and Firearms

The Bureau of Alcohol, Tobacco and Firearms’ (ATF) Alcohol and

Tobacco Laboratory tests thousands of products annually for

compliance with labeling requirements, tax classification, and

unauthorized substances or contaminants. In addition, the laboratory

reviews and approves formulas for non-beverage products.

This audit evolved from an audit in our Office of Audit Annual Plan for

Fiscal Year 2000 on ATF laboratories1. Our objective in this audit was

to determine how effectively the laboratory has been contributing to

ATF’s alcohol programs. To conduct our review, we visited the

laboratory, sampled test results for several programs, reviewed files,

and interviewed responsible officials. Our review covered activity

during the period Fiscal Years (FY) 1998 through 1999.

Results in Brief

ATF’s Alcohol and Tobacco Laboratory generally provided timely and

responsive service for the period of activity we reviewed. Nonetheless,

the laboratory appeared to provide a significant number of test results

to ATF program managers that were often not used. For example, we

found that no follow-up occurred for 278 violations identified by the

laboratory in testing of 1,097 samples selected in FYs 1998-1999

under the Beverage Sampling Program. We found similar lack of

follow-up for violations identified from product samples through

 

1 Our ATF laboratories audit was divided into two, one on ATF’s Forensic Science Laboratory (the subject of a

separate, earlier report titled CRIMINAL ENFORCEMENT: ATF Forensic Science Laboratories Need To

Improve Workload Management, OIG-01-068, 4/30/01) and the second on the Alcohol and Tobacco

Laboratory.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 3

compliance inspections and the Certificate of Label Approval (COLA)

program's pre-import sampling.

We also found that the laboratory's review of all non-beverage

alcohol (NBA) and specially denatured alcohol (SDA) formulas did not

appear necessary to achieve the same benefits. While ATF is

currently required by its own regulations to review formulas, we found

that the laboratory reviewed 7,377 formulas during FY 1999, yet

rejected only 211. Further, a significant portion of these formulas

result in the production of small quantities of alcohol products with

relatively small excise tax impact. For example, 473 companies

submitted 2,594 returns to ATF for excise tax refund in FY 1999

totaling $292 million, an average of about $113,000 per claim.

However, we reviewed a summary listing of these tax returns for

FY 1999 and found that 63 entities, or 13 percent, involved annual

returns of less than $5,000.

We recommended that ATF conduct a cost-benefit assessment of its

laboratory testing of beverage alcohol products, particularly when the

test results are often not used by program officials. We also

recommended that ATF continue to examine the formula approval

process to determine whether the process can be less burdensome on

both the manufacturer and ATF, while not reducing the risk of using

non-beverage alcohol for beverage purposes.

ATF management concurred with our findings and recommendations

except for our recommendation for an overall assessment of laboratory

testing. Instead, ATF proposed alternative actions designed to make

more effective use of the laboratory tests. Such actions include

finalizing guidelines for beverage sampling, monitoring test results on

compliance inspections, and modifying procedures on pre-import

sampling. These actions when fully implemented should generally

satisfy our recommendations. ATF’s response to our draft report is

provided as Appendix 2.

Background

The Alcohol and Tobacco Laboratory conducts testing of alcohol and

tobacco products. In FY 1998, the laboratory analyzed 7,432 alcohol

and tobacco samples. Beverage and non-beverage alcohol products

were analyzed to ensure that marketed products were in compliance
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 4

with Federal regulations. Beverage alcohol products included distilled

spirits, wine and malt beverages. NBA products include food,

flavorings, medicinals, toiletries, industrial solvents and fuels.

Beverage Alcohol Testing

ATF inspectors collect samples of beverage alcohol products at both

the producer and retail levels. Samples are obtained from domestic

manufacturers during compliance inspections and obtained at the retail

level through the Beverage Sampling Program. ATF inspectors

forward the samples to the ATF Alcohol and Tobacco Laboratory for

testing. The laboratory has two branches, one located in

Rockville, MD, and the other in Walnut Creek, CA. The results of

beverage sample tests are sent to the Market Compliance Branch,

which initiates follow-up actions when violations are found. The results

of a compliance inspection test are returned to the field inspector who

sent the samples to the laboratory.

When violations are found, follow-up actions can range from a letter to

the importer or manufacturer explaining the results of the tests and

need for corrective action, to having ATF field personnel obtain

additional samples to determine how prevalent the problem may be in

the product tested. If similar violations are found from testing of

follow-up samples, ATF may conduct an investigation to determine the

cause of the problem resulting in the product's non-compliance or

contamination.

ATF conducts routine tests on all samples and, in addition, performs

certain product-specific tests. All submitted samples are examined for

fill and proof; undergo a routine battery of tests for contaminants ------

----------------------- ----------------------------------- -------------------------------

----- --------; and are evaluated by visual examination for suspended

particulate matter and/or any other contaminant. In addition, specific

types of products are examined for other contaminants, -----------

------- ---------------------------------------------------------------------------

--------- -------------------------------------------- ---------

Non-Beverage Alcohol Testing

The Alcohol and Tobacco Laboratory has a non-beverage section

which is responsible for approving formulas for non-beverage and

specially denatured products. Federal regulations (27 CFR, Parts 17
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 5

and 20) require manufacturers to file formulas with the

ATF’s laboratory. Every year, the laboratory receives thousands of

formulas for review. In FY 1999, the laboratory received

7,377 formulas. Laboratory personnel review the formulas to ensure

the products could not be consumed as beverages, and meet both

Federal and non-Federal standards for product safety and

effectiveness.

When manufacturers purchase the alcohol for their non-beverage

products, they pay excise tax to the alcohol producer. Companies who

used taxpaid alcohol to make medicines, foods and flavorings are

eligible for a refund. In FY 1999, ATF authorized the refund of

$290 million in Federal excise taxes to manufacturers. To qualify for a

refund (also known as drawback of the tax), these products must be

unfit for beverage use. The laboratory personnel examine formulas

and analyze product samples to ensure the product contains the stated

amount of alcohol and can not be used as a beverage. Unfit for

beverage use is determined by a laboratory panel which conducts

organoleptic (taste) tests.

No excise tax is assessed on an SDA formula when it is used in

processes or articles from which potable alcohol cannot be recovered.

Companies must obtain approval for their particular use of SDA prior to

manufacturing.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 6

Figure 1. ATF Technician Conducting Laboratory Tests

Source: ATF National Laboratory

Findings and Recommendations

Finding 1 Beverage Alcohol Test Results Not Always Used

We reviewed laboratory test results for beverage alcohol samples

selected for testing under several ATF programs during

FYs 1998-1999. These samples were tested for alcohol proof level,

product fill level, prohibited ingredients, contaminants, and the like.

This testing often resulted in the laboratory identifying product

violations. Despite these results, which were often provided timely,

program managers appeared to make very limited use of the results.

Specifically, we found that:

• No follow-up was conducted on 278 violations found through

laboratory testing of 1,097 products for the Beverage Sampling

Program.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 7

• Violations from samples submitted by inspectors following

compliance, product integrity, and drawback inspections were not

always communicated to the companies by the inspectors. In

addition, corrective actions were not always recommended and

follow-up not performed.

• Violations found by the laboratory in samples taken from pre-import

sampling under the COLA program generally resulted in ATF only

issuing warning letters to the manufacturers and producers. After

issuing these letters, ATF did not take any follow-up action to

ensure the violations were corrected.

We attribute the conditions above to two factors. First, ATF lacks clear

guidelines about how the results should be used. ATF program

managers appear to have a large amount of discretion regarding the

use of these test results. Second, the program managers may not

have considered the violations significant enough to warrant follow-up.

If that was the case, it may indicate that certain laboratory tests have

provided limited benefit to the alcohol programs. Accordingly, we

believe ATF should assess the costs and benefits of performing these

tests, and consider being more selective in requesting laboratory

services under these programs.

Laboratory Test Results Are Often Provided Timely

We assessed the timeliness of the laboratory in providing tests results

to four of ATF's alcohol integrity programs or activities. These

programs or activities included the Beverage Sampling Program,

compliance inspections, pre-import sampling under COLA, and

consumer complaints. Our assessment focused only on timeliness in

providing test results to the program staff, as we were not able to

evaluate the quality of laboratory services.

The laboratory's goal is to provide test results within 30 days to

requesting officials for the Beverage Sampling Program. We believe

the 30 days represents a reasonable time period for providing test

results. We found that 53 of 85 samples reviewed by the laboratory, or

62 percent, were analyzed and results returned within 20 days. The

remaining test results were provided between 21 and 40 days following

the request for services. The table below shows the results of our

analysis.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 8

Table 1. Number Of Days For Laboratory To Provide

Results Of Beverage Alcohol Testing

PROGRAM No. of Samples

Reviewed

Results in 20

Days or less

Results in 21 to 40

Days

Results in 41 to 60

Days

Beverage

Sampling

20 0 20 0

Compliance

Inspections

16 16 0 0

Pre-Import 39 29 10 0

Consumer

Complaints

10 8 2 0

TOTAL 85 53 32 0

No Follow-Up Testing Done For The Beverage Sampling Program

Under the Beverage Sampling Program, ATF inspectors collect

samples of alcoholic beverage products from retailers in various cities

and forward the samples to the ATF laboratory in both Rockville, MD,

and Walnut Creek, CA, for testing. The products are tested for

alcoholic content, fill, and the presence of possible contaminants

and/or prohibited ingredients.

We reviewed laboratory data developed from the testing of these

products and found that, during 1998 and 1999, ATF laboratories

tested 428 and 669 products, respectively, or 1,097 total products.

The laboratories reported 278 violations from this testing. However, no

follow-up actions were taken based on these findings. According to

program officials at the time of our review, they were in the process of

issuing requests to the field inspectors to follow-up on the violations.

But the letters had not yet been issued at that time, some 10 months

after the FY 1998 violations were reported to ATF’s Product

Compliance Branch2, which oversees the program.

In 19993, 88 percent of the violations identified were for incorrect proof

or product fill discrepancies. As we had reported in a separate audit

 

2

 The Product Compliance Branch no longer exists. The responsibilities have been taken over by the Market

Compliance Branch.

3

This data was for calendar year 1999.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 9

report in FY 2000,4 follow-up procedures were not clear and, in terms

of follow-up sampling, needed to be more legally sound to impose

sanctions.

Follow-up actions could range from a letter to the importer or

manufacturer explaining the results of the tests and need for corrective

action, to having ATF field personnel obtain additional samples to

determine how prevalent the problem may be in the product tested. If

similar violations were found from testing of the follow-up samples,

ATF could conduct an investigation to determine the cause of the

problem resulting in the product’s non-compliance or contamination.

We selected 12 samples from FY 1998 to assess the follow-up actions

performed. The 12 samples contained 8 proof violations, 1 fill violation

and 3 labeling violations. According to the Chief, Market Compliance

Branch, who is responsible for the program, no follow-up letters were

issued requesting field inspectors to obtain additional samples. She

indicated that the letters were written but had not been mailed.

An ATF Specialist indicated that the program was not properly

administered during the last 2 years. The Chief, Market Compliance

Branch stated that new procedures had been developed for the

program and ATF intended to improve the program's follow-up

process.

ATF Did Not Always Ensure Violations Found In Inspection

Samples Were Corrected

When violations were found from samples obtained during inspections,

ATF did not always ensure that companies were notified or that

effective corrective action was conducted or even proposed.

We obtained laboratory test result data for the months of May 1998

and March 1999 from the Walnut Creek Laboratory. We selected for

review a group of samples submitted from 10 inspections. The

laboratory had identified violations from these tested samples. The

10 violations included 8 for proof, 1 for fill, and 1 for mislabeling due to

excessive sugar. The inspections were conducted for compliance,

 

4

Increased Benefits Possible From The Bureau Of Alcohol, Tobacco And Firearms Beverage Sampling

Program, OIG-00-110, 7/17/00.

.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 10

product integrity, and drawback. We contacted the ATF inspectors

who submitted the samples and inquired whether the inspectors had:

(1) contacted the companies about the violations; (2) proposed

corrective actions; and/or (3) performed any follow-up to see if the

corrective actions were completed.

Companies Not Always Notified

We found no evidence that ATF notified the companies for 4 of the

10 cases. For these four cases, we found the following:

• In two cases, ATF personnel did not notify the company because

they did not know the test results were in the file until they received

a call from the auditors. One ATF inspector stated that he was not

aware the test results were issued to him. He said that he must

have been on another assignment when the results were returned.

The results were issued approximately 12 months earlier. The

other inspector was in a new job and could not remember. She

suggested that we contact her old office. We contacted the Acting

Supervisor who stated that the results must have “...fallen through

the cracks.”

• In another two cases, the ATF inspectors were uncertain whether

the company was ever notified of the violations; however, there was

nothing in the files to indicate notification had occurred.

Corrective Actions Often Not Proposed Or Taken

For the 10 violations, we found that ATF had proposed corrective

actions for only 5. ATF did not propose corrective actions for

5 violations, including one that ATF considered a state issue.

No follow-up occurred for any of the 10 cases we reviewed. As

explanation for why corrective action or follow-up did not always occur,

we obtained the following information regarding several of the above

violations:

• One ATF supervisor, at the time of our audit, indicated that often

the inspection reports were completed before the samples were

returned from the laboratory. She was not aware that the report

had to be held up until the results were issued. For example, in

one instance the report was reviewed and signed off on
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 11

May 19, 1998, and the laboratory results were issued on

May 27, 1998. When we called in February 2000 to further inquire

about laboratory results and follow-up, the inspector said he could

find nothing in the file about the laboratory tests.

• Another inspector said that the violation was not a California

violation and could not be enforced through Federal regulations.

The product was an over-filled malt beverage. According to

Federal regulations, 27 Code of Federal Regulations (CFR), Part 7,

Subpart C, section 7.20 (a), labeling requirements for malt

beverages contained in this subpart only apply to the extent that

state law imposes similar requirements with respect to the labeling

of malt beverages. Since California does not have a law similar to

the Federal law regarding mislabeling due to improper fill levels,

she stated that ATF could not enforce the provision that applies to

misstatements.

• In another instance, the ATF inspector obtained a sample during a

drawback inspection, and the test result indicated the sample was

under-proof. When a drawback is processed for a product that is

under-proof, the claimant receives more of a refund than deserved.

The ATF inspector informed the claimant by telephone that the

claimant needed to adjust the next refund claim. However, no

follow-up was conducted to ensure the adjustment was made.

• A sample obtained from a product integrity inspection conducted at

a winery indicated that the product had a problem with alcohol

content. The additional alcohol placed the product in a higher tax

classification. The inspector recommended the company adjust its

next tax return. However, we reviewed the next tax return

submitted to the National Revenue Center and found that the

company continued to use the lower tax rate.

The following table summarizes the actions and follow-up for the

10 samples.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 12

Table 2. Proposed Corrective Action And Follow-Up For

Sampled Violations

Inspection

Type

Violation

Type

Company

Informed of

Violation

Proposed

Corrective

Action

Follow-up

Performed

Uncertain Over proof5 Uncertain No record in file None

Compliance Over fill

Yes-closing

conference

None Neededno state lawNone

Needed

Product Integrity Over proof Yes-phone Adjust next

claim

None

Drawback Over proof

Yes-however,

sample

inadequate-no

more product left

Take sample at

next inspection

None

Uncertain Over proof Uncertain None None

Drawback Under proof Yes-phone Adjust next

claim

None

Product Integrity

Total acid

and residual

sugar

Yes-Closing

Conference

Winery perform

additional

testing

None

Mini-Product

integrity

Under proof Yes-phone

Vineyard

decided to

destroy product

None

Mini-product

integrity

Under proof No None None

Product Integrity Over proof No None None

Pre-Import Violations Often Resulted In Little Action

ATF often tests imported alcoholic products before they are allowed entry

into the U.S. marketplace. Testing of products submitted for pre-import

analysis is usually conducted under the COLA program.

During FYs 1997 and 1998, this pre-import testing resulted in identification

of 649 violations. The violations largely involved proof and fill levels. Of

the violations identified during that 2-year period, 242 violations

(37.3 percent) were for over-proof and 241 violations (37.1 percent) were

for under-proof. About 15 percent of the violations involved fill level. The

remainder generally involved prohibited ingredients, limited ingredients, or

label errors.

 

5

 When alcohol content violations were found, we used terms such as “over proof” and “under proof” to further

clarify the type of alcohol violation.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 13

Following the testing of these products, ATF issued warning letters to

importers, directing the importers to provide these cautions to the

manufacturers. Little additional follow-up occurred.

Pre-Imports Tested Under Label Program

ATF requires certain imported alcoholic beverages—rum, vodka, gin,

brandy, non-grape wine, and specialty products—to undergo a laboratory

analysis by ATF’s National Laboratory Center (NLC) in Rockville, MD,

prior to the submission of an application for a COLA. All labels on

alcoholic beverages need ATF approval. Samples must be accompanied

by a method of manufacture and a list of every ingredient used in the

manufacture of the alcoholic beverage. The products are tested for proof,

fill, labeling, limited and prohibited ingredients, contaminants, and other

requirements. The purpose of the tests is to ensure the products are

properly classified for tax purposes and safe for human consumption.

Upon completion of the analysis, a pre-import letter, which provides the

proper class and type designation for the product is issued to the importer

or to the importer’s designated representative. A copy of the pre-import

letter is also submitted to ATF with the COLA application.6

The section chief for the Beverage Section in the Rockville laboratory

estimated that about half of the laboratory staff’s time was devoted to

pre-import approval. In 19997, the Rockville laboratory tested

911 samples of alcoholic products, of which 533, or 59 percent, were for

pre-import approval. The laboratory conducted a battery of tests on each

of the imports. The tests varied depending on whether the product was

wine, distilled spirits, or a malt beverage. Although the tests were

different, we noted the laboratory performed from 15 to 18 tests on each

product. The section chief was unable to provide data on the cost of the

various tests; however, he estimated that the labor involved in analyzing

each sample was at least 3 hours.

We reviewed violations found during testing of imports prior to ATF’s label

approval, and noted that most of the violations were for proof or fill, and

generally only resulted in letters to the importers suggesting that they warn

the producers of the violations.

 

6 See OIG report Improvements Needed In the Bureau Of Alcohol, Tobacco And Firearms' Administration Of

The Certificate Of Label Approval Program, OIG-01-066, 4/25/01.

7

This data was for calendar year 1999.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 14

Types of Pre-Import Violations

The table below summarizes the violations from pre-import testing

identified during the period FYs 1997-1998.

Table 3. Pre-Import Sample Violations (FYs 1997-1998)

PRE-IMPORT VIOLATIONS

Reason For

Rejection

FY

1997

FY

1998 Totals Percentage

Overproof 138 104 242 37

Underproof 122 119 241 37

Overfill 5 1 6 1

Underfill 19 18 37 6

Labeling 9 7 16 2

Limited

Ingredients 8 5 13 2

Prohibited

Ingredients 24 7 31 5

Contaminants 1 0 1 0

Non-standard

Fill 30 27 57 9

Headspace 4 1 5 1

Totals 360 289 649 100

Source: Chief, Alcohol and Tobacco Laboratory

Warning Letter Often Resulted From Pre-Import Testing

To determine what ATF program personnel were doing with the violation

data, we selected 40 pre-import approval samples for which the laboratory

had found a violation. Of the 40 violations, we noted that 28 were for

proof; 6 were for improper classification8, and, 2 were for health issues.

We found that, following the testing, ATF issued letters to the importers

with a warning. The warning told the importers to caution the producers

that the alcoholic/net content of the product must be exactly as stated on

the label. ATF officials stated that, had the violations involved health

issues, program personnel would not have approved the products for

importation.

 

8

For example, if the vodka was diluted, then the label must state the classification as diluted vodka.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 15

Prior to FY 1998, ATF also included follow-up of these products in the

following year’s testing. In FY 1997, ATF directed field inspectors to

include products found to have violations during pre-import testing in their

FY 1998’s sample selection for the Beverage Sampling Program.

However, ATF did not continue this practice in FYs 1998 or 1999.

We believe that without information to indicate problems may exist, it may

not be necessary for ATF to randomly conduct a wide range of tests to

determine a product’s correct classification and safety for human

consumption. In fact, health issues, such as prohibited or limited

ingredients, were generally not found in testing we reviewed but from

reviewing the method of manufacturing.

For example, one violation we observed involved the use of prohibited

ingredients in a product. The product included two dyes,

E122 (carmoisine, red) and E151 (brown), that are not permitted in the

U.S. However, these dyes were not identified through laboratory testing;

in fact, no laboratory analyses were even performed. The

correspondence suggested that the product contained these dyes. On a

second health issue violation, the product contained an ingredient not

suitable for use in alcohol beverages; but again, no laboratory testing was

needed to determine that this was a health issue.

Lack Of Clear Guidance

ATF programs lack clear guidelines about how laboratory test results

should be used. Generally, the programs require samples to be

submitted to the laboratory for proof, fill, contaminant, and other

testing, but do not offer guidance on what to do with the results. For

example, we could not find procedures for what type of actions should

be initiated when over-proof violations occur. When follow-up samples

are requested, it is not clear how many samples should be obtained

from a particular product batch.

However, ATF program managers also have discretion about the

action they take following the laboratory violation reports. Should they

determine that the results are not significant enough for follow-up

action, they are at liberty of limiting the follow-up. For example,

because 88 percent of the violations in 1999 found in testing products

under the Beverage Sampling Program were for only proof or fill

discrepancies, rather than product contamination, managers may have

considered follow-up unnecessary. If that is the reason why action is
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 16

not taken for a large proportion of program test results, ATF may need

to assess whether all of these laboratory tests make sense considering

the lack of more serious violations in recent years.

Recommendation

1. The Director of ATF should conduct an overall assessment of its

laboratory testing of alcoholic beverages. The assessment should

include a determination of the costs and benefits of the various

tests. Based on this assessment, the Director should determine

whether to continue or modify the nature and level of testing.

Management Comment. ATF does not believe an overall

assessment of its laboratory testing is necessary. Instead, ATF has

developed actions for the three areas discussed in our report. For

the Beverage Sampling program, ATF has set a target of

January 1, 2001, for consolidating and finalizing all guidelines.

Additionally, the Market Compliance Branch will have all sample

results in process acted on by October 1, 2001. All future

laboratory results will be acted on within 15 calendar days.

Concerning samples submitted during inspections, ATF is

developing a process for independent monitoring of test results by

the Market Compliance Branch. The process identifies timely as

notification to Field Operations by the Market Compliance Branch

within 15 days of receiving a laboratory report. Field Operations

will have 60 days to secure additional samples and 90 days to

initiate an investigation as requested by Market Compliance

Branch.

For pre-import testing, ATF will modify its procedures as follows:

(1) products found out of tolerance on fill or alcohol will be identified

in notices sent to the field division where the importer is located,

with a request for an inspection/sampling to be conducted 3 to

6 months after COLA approval; and (2) products that were

resubmitted after being found to contain prohibited ingredients will

be referred for inspection/sampling that will be conducted 3 to

6 months after COLA approval.

OIG Comment. Although ATF did not agree to conduct an overall

assessment of its laboratory testing of alcoholic beverages, the

actions initiated and proposed should ensure better use of the
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 17

laboratory results. This action meets the intent of our

recommendation. We consider this recommendation to have a

managerial decision with a projected final action of

January 1, 2002.

Finding 2 Formula Approval Process For Non-Beverage Alcohol

And Specially Denatured Alcohol Results In Few

Rejections

To protect excise tax revenue and consumers, ATF's Alcohol and

Tobacco Laboratory reviews formulas used by manufacturers for

non-beverage products9. The laboratory's review and testing is

intended to ensure that the products are indeed unfit for beverage use.

Although filing of formulas is not required by statute, it is required

under Federal regulations (27 CFR, Part 17 and 20) that ATF issued.

For many of these formulas, ATF also receives and tests samples.

Companies submitted more than 7,300 formulas to ATF in each of

FYs 1998 and 1999. We found, however, that during this period:

• the laboratory’s review of NBA and SDA formulas resulted in a very

small number of rejected formulas; and

• formulas were reviewed, tested, and approved regardless of the

amount produced or excise tax impact, which was often very small.

Considering the small number of rejected formulas, and the often small

quantity and taxes associated with a significant percentage of these

products, we believe ATF has an opportunity to explore methods to

reduce the number of formulas submitted for approval.

ATF Reviews Formulas And Samples To Protect Tax Revenue

And Consumers

The non-beverage section of the Alcohol and Tobacco Laboratory is

responsible for the approval of NBA and SDA formulas10. ATF

 

9

The non-beverage products refers to non-beverage alcohol (NBA) products and products made with

specially denatured alcohol (SDA) called “articles."

10 The section is comprised of ----- employees, including -------- who are responsible for reviewing

non-beverage formulas, ---- -- ------ responsible for reviewing specially denatured alcohol formulas, and

---- ------ is assigned to tobacco issues.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 18

conducts its formula review of NBA and SDA products to protect tax

revenue and consumers. Tax revenue is protected by ensuring that

excise tax drawback is not authorized for products that could be used

as beverages. Consumers are protected by ensuring that banned

ingredients are not included in the production process.

Tax Revenue Protection

ATF authorizes a drawback of Federal excise tax to manufacturers

who used tax-paid alcohol to make medicines, foods and flavorings.

To qualify for a drawback (which is similar to a refund), these products

must be unfit for beverage use. ATF laboratory personnel examine

formulas and analyze product samples to ensure the product contains

the stated amount of alcohol and could not be used as a beverage.

Products are determined unfit for beverage use by a panel of

laboratory personnel who conduct organoleptic (taste) tests.

Additionally, ATF protects excise tax revenue by regulating the use of

SDA in chemical processes and articles. No excise tax is assessed on

SDA when it is used by companies in processes or articles from which

potable alcohol cannot be recovered. These companies must obtain

approval for their particular use of SDA prior to manufacturing.

Examples of SDA products include cosmetics, industrial chemicals and

fuels such as “gasahol.”

Consumer Protection

A formula may be disapproved for drawback either because it does not

prescribe appropriate ingredients in sufficient quantities to make the

product unfit for beverage use, or because the product is neither a

medicine, a medicinal preparation, a food product, flavor or a flavoring

extract. Also, according to 27 CFR, Part 17.136, a product will not

meet the above criteria, if the formula would violate a ban or restriction

of the U.S. Food and Drug Administration (FDA) pertaining to such

products.

Accordingly, the ATF Form 5154.1 used by manufacturers for

submitting formulas contains questions that address consumer

protection. For example, the form requires the manufacturer to

indicate if all the ingredients are approved by FDA for use without

limitation or restriction. If the manufacturer indicated that the product
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 19

had restricted ingredients, laboratory personnel would reject the

formula.

Minimal Numbers Of Formulas Have Been Rejected

The laboratory received 7,309 non-beverage formulas in FY 1998 and

7,377 in FY 1999, respectively. ATF received and tested samples for

many of these products. ATF rejected 313 formulas in FY 1998

(4.3 percent of the formulas received) and 211 formulas in FY 1999

(2.9 percent of the formulas received).

The following table illustrates the number of formulas received,

formulas with samples, samples tested and formulas rejected during

FYs 1998 and 1999.

Table 4. FYs 1998-1999 Formulas Received And Rejected

NBA Formulas SDA Formulas 2-Year Totals

FY 1998 FY 1999 FY 1998 FY 1999 FY 1998 FY 1999

Received 4,978 5,452 2,331 1,925 7,309 7,377

Received

with

Samples 3,211 3,579 683 599 3,894 4,178

Samples

Tested 2,184 2,435 275* 239* 2,459* 2,674*

Formulas

Rejected 231 170 82 41 313 211

Formulas

Rejected

as

Percent

Of

Received 4.6 3.1 3.5 2.1 4.3 2.9

* The SDA samples tested are estimated numbers by the Chief of the Non-beverage Section.

According to Federal Regulations (27 CFR 17.124), ATF may request

a sample of a product whenever a manufacturer submits a

NBA formula for review. However, ATF does not require

manufacturers to submit samples for every formula. ATF generally

requires samples when questions exist about quality control in
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 20

manufacturing or when certain products are involved. For example,

the laboratory requires the herbal industry to submit samples. This is

because the quality control procedures are not as defined in this

industry as in the food and pharmaceutical industries. Also,

companies manufacturing certain flavors are also required to submit

samples. When samples are submitted, ATF may conduct two

different tests: an alcohol test to verify the percentage of alcohol and a

taste test11 to ensure the product is unfit for beverage use.

According to the Chief of the Non-Beverage Section, he believes the

reason for rejecting formulas in FYs 1998 and 1999 was because they

were “fit for beverage purposes." Unless a product has a banned

ingredient, ATF has very limited authority to reject the formula beyond

its fitness to be consumed as a beverage.

The Section Chief said that the companies with the rejected formulas

usually resubmit the formulas and, after making minor adjustments to

influence the taste, the formulas are subsequently approved. The

Section Chief also informed us that the data in Table 4 does not show

the formulas returned to the submitters for resubmission to the

laboratory for approval. He indicated that the total number of formulas

returned for resubmission for NBA and SDA formulas was roughly

41 percent and 10.9 percent, respectively. Because this information

was provided subsequent to our field work, we did not verify that this

information was accurate.

Formulas Are Reviewed, Tested And Approved Regardless Of The

Amount Of Product Produced Or Excise Taxes Paid

The laboratory analyzes each formula received, without regard to the

quantity produced or the amount claimed for refund of excise tax.

Each formula is analyzed to ensure the formula meets Federal

government and other organizations’ standards for product safety and

effectiveness. In addition, if a sample is submitted, the sample may be

analyzed for its alcohol level and taste-tested to ensure the product is

unfit for beverage use.

The amount of revenue associated with a particular formula can be

relatively small. For FY 1999, 473 manufacturers submitted 2,594 tax

 

11 Laboratory personnel organize a taste panel consisting of a minimum 3 to a maximum of 20 people. The

panel tastes the samples and decides whether the products are fit for beverage purposes.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 21

returns for $292 million in excise tax drawback, or an average of

$113,000 for each return. However, many of the returns involve much

smaller quantities and excise tax amounts. We reviewed a summary

listing of tax returns submitted to the National Revenue Center (NRC)

in Cincinnati for FY 1999 and found that 63 entities, or 13 percent,

submitted annual tax returns totaling less than $5,000. In addition,

many of these returns represent the total refund for alcohol used in

numerous formulas, meaning the excise tax associated with the

individual formulas can be far less than $5,000.

We found that some companies submitted returns for as many as

200 different formulas involving very small quantities of alcohol. For

example, one pharmaceutical company submitted two tax returns in

FY 1999 totaling $1,442. On one return, the company had 12 different

formulas; however, only 2 of the 12 formulas were subject to

drawback. One of the formulas involved less than 1 proof gallon with a

tax refund of less than $13.

Further, many of the products that were tested were herbal extract

products which are often produced in small quantities and involve

minimal amounts of alcohol. Information submitted by a trade

association indicated that the majority of liquid homeopathic products

manufactured in the U.S. are manufactured in 1-2 ounce sizes utilizing

20 percent alcohol. (There are a few larger sizes of liquid homeopathic

medicines available, primarily in the form of cough syrups.) Therefore,

most homeopathic medicines contain less than 0.5 ounce of alcohol

per bottle. In 1999, an industry trade association indicated that the

total excise tax from homeopathic drugs was less than $300,000.

According to the Chief of the Non-Beverage Section, laboratory

personnel analyze formulas without knowing the annual amount of

used alcohol or the amount of tax paid and refunded. ATF requires

companies to submit forms containing formula information and the

company may also include a sample of the product. Laboratory

personnel review the formulas to ensure the numbers make sense and

also may conduct a proof and/or taste test of the sample.

Minimal Adjustments Are Made To The Tax Returns By The NRC

We reviewed a sample of tax returns from FYs 1998-1999 and found

that the manufacturers generally received the amount that was claimed

on the return. According to NRC officials, they usually check to see if
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 22

the laboratory approved the formula, and whether the percentage of

alcohol agreed with what the laboratory. -----------------------------------

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When the formula was not approved, the NRC would deduct the total

amount of tax related to that particular formula. If the alcohol

percentages were different, the NRC would penalize the manufacturer

a maximum of $1,000 in accordance with ATF regulations. However,

once the formulas were approved or amended, the amounts denied

and penalized were often returned to the manufacturer.

ATF Tried To Reduce the Number of Formulas Submitted

In response to a request from the Flavor and Extract Manufacturers’

Association (FEMA), ATF issued a notice to manufacturers of

non-beverage (flavor) products. The notice contained a list of flavor

ingredients that when added to alcohol would qualify the resulting

products as non-beverage. To qualify, the manufacturers were

required only to complete 5 of 16 items on the ATF Form 5154.1.

FEMA distributed the notice to its association members in April 2000.

As of April 2001, only 13 companies used the new procedures to file

26 formulas with the laboratory. The Section Chief said that he initially

estimated that a lot more companies would take advantage of the new

policy. However, he believes that the policy needs to be better

promoted. He mentioned that ATF could heighten the awareness of

the new policy by discussing it in upcoming industry seminars and

publishing it in industry circulars.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 23

Recommendation

1. The Director, ATF, should review formula approval to determine if it

can be made less burdensome on both the manufacturers and

ATF, while not reducing the risk of using non-beverage alcohol for

beverage purposes. For example, ATF could promote the use of

flavor ingredients when added to alcohol would qualify the resulting

products as non-beverage.

Management Comment. ATF does not dispute the finding and will

adopt the recommendation to do a comprehensive review of the

process with an eye toward eliminating specific steps that do not

add value and toward reducing the burden in general.

The ATF laboratory has already internally proposed a new process

of drawback approval. The proposed new process involves

establishing standards of additives for non-beverage product

classification and publishing this for industry use. This would be an

ongoing process since it involves significantly large numbers of

additives and development of analytical methodologies to confirm

the levels of additives in drawback formulas. The proposed new

process is significantly different than the current one; thus it would

have to go through the official rulemaking process if ATF decides to

pursue it.

OIG Comment. We consider the recommendation to have a

management decision. Final action is pending completion of the

comprehensive review.
Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 24

* * * * * *

We would like to extend our appreciation to ATF for the cooperation

and courtesies extended to our staff during the review. If you have any

questions, please contact me at (617) 223-8640 or a member of your

staff may contact Dennis Deely, Audit Manager, at

(856) 968-4907 x248. Major contributors to this report are listed in

Appendix 3.

/s/

Donald P. Benson

Regional Inspector General for Audit
Appendix 1

Objectives, Scope, and Methodology

Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 25

The objective of our audit was to evaluate the effectiveness of the

Alcohol and Tobacco Laboratory beverage and non-beverage alcohol

testing. Specifically, we wanted to assess whether (1) program

personnel were using the laboratory tests on beverage samples; and,

(2) work performed by laboratory personnel assigned to the

non-beverage section was effective.

We performed our audit using ATF data from FYs 1998 and 1999. To

accomplish our objectives, we interviewed officials from the ATF

Alcohol and Tobacco Laboratories in Rockville, MD, and Walnut Creek,

CA.; Market Compliance Branch at ATF Headquarters; Formula

Section in the Alcohol Labeling and Formulation Branch at ATF

Headquarters and inspectors at various field locations. We also

interviewed personnel from the National Revenue Center in Cincinnati,

OH.

To evaluate the use of testing on beverage samples, we selected

samples from four ATF programs: Beverage Sampling, Compliance

Inspections, Pre-Import Sampling under the Certificate of Label

Approval program and consumer complaints. We reviewed laboratory

test results obtained through the Beverage Sampling program for

FYs 1998 and 1999, and evaluated the corrective actions ATF took

when violations were found. Under Beverage Sampling, ATF

inspectors purchase product samples from retail stores and send the

samples to the laboratory for analysis.

We took a sample of test results from compliance inspections

conducted at domestic producers during FYs 1998 and 1999 which

resulted in violations. We requested that the Walnut Creek Laboratory

provide all test results with violations during the months of May 1998

and March 1999. We then called the inspector who submitted the

sample to determined why the inspection was performed, and what

actions were performed as a result of the violation.

We reviewed samples submitted for pre-import testing to determine

what actions were taken as a result of the violations that were found.

Pre-import samples are submitted to the laboratory as part of the label

approval process. These products represent products that have not

yet been marketed in the United States.
Appendix 1

Objectives, Scope, and Methodology

Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 26

Regarding the non-beverage area, we reviewed laboratory logs for

formulas submitted to the laboratory in FY 1999 for non-beverage

alcohol and specially denatured alcohol. Additionally, we obtained

financial records from the National Revenue Center in Cincinnati, OH.

These records summarized the number of tax returns submitted by

companies for a drawback of their excise tax in FY 1999. It also

contained the amount requested and the amount approved. We also

requested information on samples submitted from inspections at

non-beverage facilities.

We did not verify the number and type of laboratory tests. We also did

not ensure that the testing was conducted in accordance with

acceptable laboratory procedures. We did not review testing on

tobacco products, which program personnel indicated only represented

approximately 16 percent of the testing at the laboratory.

We conducted our audit between January 2000 and August 2000 in

accordance with generally accepted government auditing standards.
Appendix 2

Management Comments

Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 27
Appendix 2

Management Comments

Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 28
Appendix 2

Management Comments

Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 29
Appendix 2

Management Comments

Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 30
Appendix 3

Major Contributors To This Report

Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 31

Northeastern Region

Donald P. Benson, Regional Inspector General for Audit

Dennis F. Deely, Audit Manager

Barry M. Bruner, Auditor
Appendix 4

Report Distribution

Increased Benefits Possible From Alcohol Laboratory (OIG-01-090) Page 32

The Department of the Treasury

Under Secretary of the Treasury for Enforcement

Office of Strategic Planning and Evaluations

Office of Accounting and Internal Control

Bureau of Alcohol, Tobacco and Firearms

Assistant Director, Science and Technology/ CIO

Assistant Director, Alcohol and Tobacco

Assistant Director, Field Operations

Assistant Director, Inspection

Office of Management and Budget

OIG Budget Examiner