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GAO/T-AIMD-00-106

FINANCIAL

MANAGEMENT

Education Faces

Challenges in Achieving

Financial Management

Reform

Statement of Gloria L. Jarmon

Director, Health, Education, and Human Services

Accounting and Financial Management Issues

Accounting and Information Management Division

Testimony

Before the Subcommittee on Oversight and Investigations,

Committee on Education and the Workforce, House of

Representatives

United States General Accounting Office

GAO
Page 1 GAO/T-AIMD-00-106

Mr. Chairman and Members of the Subcommittee:

I am pleased to be here today to discuss (1) the Department of Education’s

fiscal year 1999 financial audit results1 in the context of related work we

have performed, (2) the relationship between the audit findings and the

potential for waste, fraud, and abuse, and (3) the status of our ongoing

study of the Department’s grantback account.

The Department’s financial statements are important to the federal

government because Education is the primary agency responsible for

overseeing the more than $75 billion annual federal investment in support

of educational programs for U.S. citizens and eligible noncitizens. The

Department is also responsible for collecting about $175 billion owed by

students. In fiscal year 1999, more than 8.1 million students received over

$53 billion in federal student financial aid through programs administered

by Education.

The Department’s stewardship over these assets has been under question

as the agency has experienced persistent financial management

weaknesses. Beginning with its first agencywide audit effort in fiscal year

1995,2 Education’s auditors have each year reported largely the same

serious internal control weaknesses, which have affected the

Department’s ability to provide financial information to decision makers

both inside and outside the agency.

Federal decision makers need reliable and timely financial management

information to ensure adequate accountability, manage for results, and

make timely and well-informed decisions. However, historically, such

financial management information has not been available across the

government. Agency IG reports, independent public accountants reports,

and our own work have identified persistent limitations in the availability

of quality financial data for decision making. Audits have shown that

federal financial management is in serious disrepair, which results in

incorrect financial information being provided to the Congress and the

administration. Without reliable financial information, government leaders

do not have the full facts necessary to make investments of scarce

1Department of Education, Fiscal Year 1999 Consolidated Financial Statements, Ernst & Young LLP,

February 2000.

2For fiscal year 1995, a year before the Government Management Reform Act (GMRA) requirements

became effective, the Department’s Inspector General (IG) hired a contractor to perform its first

agencywide audit.

Background
Page 2 GAO/T-AIMD-00-106

resources or direct programs. Creating a government that runs more

efficiently and effectively has been a public concern for decades.

Over the past 10 years, dramatic changes have occurred in federal

financial management in response to the most comprehensive

management reform legislation of the past 40 years. The combination of

reforms ushered in by (1) the Chief Financial Officers (CFO) Act of 1990,

(2) the Government Management Reform Act of 1994, (3) the Federal

Financial Management Improvement Act (FFMIA) of 1996, (4) the

Government Performance and Results Act (GPRA) of 1993, and (5) the

Clinger-Cohen Act of 1996 will, if successfully implemented, provide the

necessary foundation to run an effective, results-oriented government.

Efforts to continue to build the necessary fundamental foundation through

lasting financial management reform are essential. Only by generating

reliable and useful information can the government ensure adequate

accountability to taxpayers, manage for results, and help decision makers

make timely, well-informed judgments.

Education’s fiscal year 1999 audit was conducted by Ernst & Young LLP,

independent auditors contracted for by the Education Inspector General.

We reviewed the independent auditors’ draft reports and workpapers

during the latter part of February 2000. We shared a draft of this statement

with Education officials, who provided technical comments. We have

incorporated their comments where appropriate. Our work was conducted

in accordance with generally accepted government auditing standards.

The Office of Management and Budget’s (OMB) implementation guidance

for audited financial statements requires the 24 CFO Act agencies to

receive three reports from their auditors annually: (1) an opinion or report

on the agencies’ financial statements, (2) a report on the agencies’ internal

controls, and (3) a report on the agencies’ compliance with laws and

regulations. Last month, OMB reported that it expects 18 of the 24 CFO

Act agencies to receive “clean” or unqualified opinions on their fiscal year

1999 financial statement audits due to OMB today, March 1. The

Department of Education was not expected to receive such an opinion

because of its financial management weaknesses.

As reported to you in December,3 the Department issued its fiscal year

1998 financial statements over 8 months late and was one of six CFO Act

agencies that received disclaimers—meaning that the auditors were

3Financial Management: Financial Management Weaknesses at the Department of Education (GAO/

T-AIMD-00-50, December 6, 1999).

Fiscal Year 1999 Audit

Results
Page 3 GAO/T-AIMD-00-106

unable to express an opinion—on their financial statements for that fiscal

year.4 Pervasive weaknesses in the design and operation of Education’s

financial management systems, accounting procedures, documentation,

recordkeeping, and internal controls, including computer security

controls, prevented Education from reliably reporting on the results of its

operations for fiscal year 1998.

While Education’s financial staff and its contractors have worked very

hard over the past few months to prepare Education’s fiscal year 1999

financial statements, and the auditors’ opinion on the financial statements

has improved over that of fiscal year 1998, serious internal control and

financial management systems weaknesses continue to plague the agency.

For fiscal year 1999, Education made significant efforts to work around

these weaknesses and produce financial statements. These efforts enabled

its auditors to issue qualified opinions5 on four of its five required financial

statements and a disclaimer on the fifth statement. Its auditors’ qualified

opinion states that except for the effect of the matters to which the

qualification relates, the financial statements present fairly, in all material

respects, financial position, net costs, changes in net position, and

budgetary resources in conformity with generally accepted accounting

principles. The auditors stated the following reasons or matters for their

qualification:

• The Department had significant systems weaknesses during fiscal year

1999 affecting its financial management systems. The new accounting

system, implemented in fiscal year 1998, had several limitations, including

an inability to perform a year-end closing process or produce automated

consolidated financial statements. Through its efforts and those of its

contractors, Education was able to partially compensate for, but did not

correct, certain aspects of the material weaknesses in its financial

reporting process. In addition, during fiscal year 1999, Education

experienced significant turnover in financial management, which also

contributed to the overall weakness in financial reporting.

4In addition to the 6 agencies that received disclaimers in fiscal year 1998, 4 agencies received

qualified opinions, 2 agencies received mixed opinions, and 12 agencies received unqualified or “clean”

opinions.

5Such an opinion is expressed when (1) there is a lack of sufficient competent evidential matter or

there are restrictions on the scope of the audit that have led the auditor to conclude that he or she

cannot express an unqualified opinion and he or she has concluded not to disclaim an opinion or (2)

the auditor believes, on the basis of his or her audit, that the financial statements contain a departure

from generally accepted accounting principles, the effect of which is material, and he or she has

concluded not to express an adverse opinion.

Report on the Financial

Statements
Page 4 GAO/T-AIMD-00-106

• Education was unable to provide adequate support for about $800 million

reported in the September 30, 1999, net position balance in its financial

statements, and the auditors were unable to perform other audit

procedures to satisfy themselves that this amount was correct.

• Education processed many transactions from prior fiscal years as fiscal

year 1999 transactions and manually adjusted its records in an effort to

reflect the transactions in the proper period; however, the auditors could

not determine if these adjustments for certain costs and obligations were

correct.

• The auditors were unable to determine whether beginning balances for

accounts payable and related accruals were accurate.

In addition, as in the prior year, the auditors did not issue an opinion

(referred to as a disclaimer of an opinion) on the Department’s Statement

of Financing. The Statement of Financing provides a reconciliation or

“translation” from the budget to the financial statements. The statement is

intended to help those who work with the budget to understand the

financial statements and the cost information they provide. The auditors

stated that the reason for this disclaimer was that the Department did not

perform adequate reconciliations and present support for amounts on the

Statement of Financing in a timely manner.

To the extent that Education was able to improve the opinion it received

on its financial statements for fiscal year 1999, it was generally the result

of (1) time-consuming manual procedures, (2) various automated tools to

“work around” the system’s inability to close the books and generate

financial statements, and (3) significant reliance on external consultants to

assist in the preparation of additional reconciliations and the financial

statements. This approach does not produce the timely and reliable

financial and performance information Education needs for decision

making on an ongoing basis, which is the desired result of the CFO Act.

The Department also receives annually from its auditors a report on

internal controls. This report is significant for highlighting the agency’s

internal control weaknesses that increase its risk of mismanagement that

can sometimes result in waste, fraud, and abuse. In this report for fiscal

Report on Internal

Controls
Page 5 GAO/T-AIMD-00-106

year 1999, the Department’s auditors are expected to report four material6

internal control weaknesses—three from fiscal year 1998 and one

additional one for fiscal year 1999—and that long-standing internal control

weaknesses persist.

The specific material internal control weaknesses cited by the

independent auditors for fiscal year 1999 were (1) weaknesses in the

financial reporting process, (2) inadequate reconciliations of financial

accounting records, and (3) inadequate controls over information systems.

The independent auditors also identified a new material internal control

weakness related to accounting for certain loan transactions. Summaries

of the material internal control weaknesses follow:

• As in prior years, Education does not have adequate internal controls over

its financial reporting process. Its general ledger system was not able to

perform an automated year-end closing process and directly produce

consolidated financial statements as would normally be expected from

such systems. Because of these weaknesses, Education had to resort to a

costly, labor-intensive, and time-consuming process involving manual and

automated procedures to prepare financial statements for fiscal year 1999.

In addition, Education had to rely heavily on contractor services to help

perform reconciliations among the various sources used. In one instance,

Education reported a balance of approximately $7.5 billion for its

cumulative results of operations. However, the majority of this amount,

which pertains to the Federal Family Education Loan Program (FFELP),

should have been reported as a payable to Treasury rather than as

cumulative results of operations. As a result of the independent auditors’

work, an adjustment was made to reclassify the $7.5 billion to the proper

account. When such errors occur and are not detected by the

Department’s controls, there are increased risks that the Department

could retain funds inappropriately that should be returned to Treasury.

• Education again did not properly or promptly reconcile its financial

accounting records during fiscal year 1999 and could not provide sufficient

documentation to support some of its financial transactions. Weaknesses

6A material internal control weakness is a reportable condition that precludes the entity’s internal

controls from providing reasonable assurance that material misstatements in the financial statements

or material noncompliance with applicable laws or regulations will be prevented or detected on a

timely basis. In addition to these material internal control weaknesses, the independent auditors also

reported four reportable conditions. Reportable conditions are matters coming to the auditors’

attention that, in their judgment, should be communicated because they represent significant

deficiencies in the design or operation of internal controls that could adversely affect the

organization’s ability to meet the objectives of reliable financial reporting and compliance with

applicable laws and regulations.
Page 6 GAO/T-AIMD-00-106

in the Department’s internal controls over the reconciliation process

prevented timely detection and correction of errors in its underlying

accounting records. In some instances, Education adjusted its general

ledger to reflect the balance per the subsidiary records, without

sufficiently researching the cause for differences. Also, as indicated in

prior audits, Education has not been able to identify and resolve

differences between its accounting records and cash transactions reported

by the Treasury. For example, for fiscal year 1999, Education adjusted its

Fund Balance with Treasury, due to a difference between its general

ledger and the Treasury, by a net amount of about $244 million.

Reconciling agencies’ accounting records with relevant Treasury records

is required by Treasury policy and is analogous to individuals reconciling

their checkbooks to monthly bank statements.

• During fiscal year 1999, Education did not properly account for its funds

disbursed under FFELP. Specifically, it did not return about $2.7 billion in

net collections specific to its liquidating account to Treasury as required

by the Credit Reform Act of 1990. The liquidating account is used to record

transactions for loans originated prior to fiscal year 1992. Any unobligated

balances in this account at fiscal year end are unavailable for obligations

in subsequent fiscal years and must be transferred to the general fund.

Further, Education did not sufficiently analyze the balances reflected on

the financial statements to ensure that the FFELP balances agreed with

relevant balances in the Department’s budgetary accounts. The auditors

stated that this situation resulted in an unexplained difference of about

$700 million between the FFELP Fund Balance with Treasury account and

related budgetary accounts as of September 30, 1999. By not properly

accounting for and analyzing its FFELP transactions as required by the

Federal Credit Reform Act of 1990, Education cannot be assured that its

financial or budgetary reports are accurate. Further, not returning the

required amounts to Treasury—$2.7 billion in this instance—raised the

possibility that the Department might inappropriately use the collections.

• Education had information systems control deficiencies in

(1) implementing user management controls, such as procedures for

requesting, authorizing, and revalidating access to computing resources,

(2) monitoring and reviewing access to sensitive computer resources,

(3) documenting the approach and methodology for the design and

maintenance of its information technology architecture, and

(4) developing and testing a comprehensive disaster recovery plan to

ensure the continuity of critical system operations in the event of disaster.

The Department places significant reliance on its financial management

systems to perform basic functions, such as making payments to grantees

and maintaining budget controls. Consequently, continued weaknesses in
Page 7 GAO/T-AIMD-00-106

information systems controls increase the risk of unauthorized access or

disruption in services and make Education’s sensitive grant and loan data

vulnerable to inadvertent or deliberate misuse, fraudulent use, improper

disclosure, or destruction, which could occur without being detected.

Our work in this area has shown that other agencies have improved their

financial audit report results but are also facing material internal control

weaknesses. A number of other agencies have focused their efforts

primarily on trying to develop short-term stop-gap measures designed to

produce year-end balances rather than on the fundamental solutions that

are needed to address the management challenges they face. As a result,

these agencies continue to experience pervasive material weaknesses in

the design and operation of their financial management and related

operational systems, accounting procedures, documentation,

recordkeeping, and internal controls, including computer security

controls. Consequently, these agencies rely on costly, time-consuming ad

hoc procedures to determine year-end balances. This approach does not

produce the timely and reliable financial and performance information

needed for decision making on an ongoing basis. This approach is also

inherently incapable of addressing the underlying financial management

and operational issues that adversely affect these agencies’ ability to fulfill

their missions.

The third report that the auditors issue annually is a report on agency

compliance with laws and regulations. Specifically, the Department’s

auditors reported that it was not in full compliance with three laws as

noted below.

• For fiscal year 1999, the independent auditors found that Education was

again not in compliance with FFMIA because it lacked adequate,

integrated financial management systems, reports, and oversight to

prepare timely and accurate financial statements. The Department was 1

of 21 CFO Act agencies whose financial systems did not comply with the

requirements of FFMIA in fiscal year 1998. Because many agencies have

significant financial management systems weaknesses, we are not

expecting significant changes in these results in the fiscal year 1999 audits;

however, it is imperative that these problems be resolved so that agencies

can produce needed financial information on a day-to-day basis in a timely

and accurate manner. FFMIA requires that agency financial management

systems substantially comply with (1) federal financial management

Report on Compliance

With Laws and Regulations
Page 8 GAO/T-AIMD-00-106

systems requirements,7 (2) federal accounting standards, and (3) the U.S.

Government Standard General Ledger8 at the transaction level. We are

working with OMB and agencies to monitor their efforts to resolve these

significant weaknesses.

• The Department had neither fully implemented a capital planning and

investment process nor performed an assessment of the information

resource management knowledge and skills of agency personnel, including

a plan to correct identified deficiencies, as required by the Clinger-Cohen

Act of 1996. A key goal of the Clinger-Cohen Act is that agencies should

have processes and information in place to help ensure that information

technology (IT) projects are being implemented at acceptable costs and

within reasonable and expected time frames and that they are contributing

to tangible, observable improvements in mission performance. By not fully

implementing the plans called for under the act, Education was not

maximizing the value and assessing and managing the risks of its IT

investments.

• The Department did not transfer its excess funds related to FFELP,

specifically the $2.7 billion of net collections previously mentioned, to

Treasury as required by the Federal Credit Reform Act of 1990.

Education continues to be plagued by serious internal control and system

deficiencies that hinder its ability to achieve lasting financial management

improvements. The internal control weaknesses discussed above and in

more detail in the auditors’ report need to be addressed to reduce the

potential for waste, fraud, and abuse in the Department. Some of the

vulnerabilities identified in the audit report include weaknesses in the

financial reporting process, inadequate reconciliations of financial

accounting records, information systems weaknesses, and property

management weaknesses. Specific examples of vulnerabilities related to

these weaknesses follow:

• The material internal control weakness related to financial reporting

highlights the fact that managers do not receive accurate and timely

financial information, such as information on disbursements made and

amounts collected, that could be used to identify unusual activity and

other anomalies.

7The financial management systems requirements have been developed by the Joint Financial

Management Improvement Program, which is a joint and cooperative undertaking of the Department

of the Treasury, OMB, GAO, and the Office of Personnel Management.

8The Standard General Ledger provides a standard chart of accounts and standardized transactions

that agencies are to use in all their financial systems.

Potential for Fraud,

Waste, and Abuse
Page 9 GAO/T-AIMD-00-106

• Some of the known duplicate payments mentioned by the auditors in their

report on internal controls could have been identified earlier if proper

reconciliations had been performed. The auditors stated that the

Department has procedures in place that should detect duplicate

payments and correct them within a reasonable time frame. We have not

yet reviewed these procedures.

• The auditors stated that because the Department has not developed formal

policies and procedures to reconcile grant expenditures between its

payments system and its general ledger system, there is increased risk that

material errors or irregularities could occur and not be detected on a

timely basis. This is significant because the volume of grant transactions is

over $30 billion per year.

• The information systems weaknesses highlight some of the computer

security vulnerabilities, such as the lack of an effective process to monitor

security violations on all critical systems of the Department. Information

systems control weaknesses increase the risk of unauthorized access or

disruption in services and make Education’s sensitive grant and loan data

vulnerable to inadvertent or deliberate misuse, fraudulent use, improper

disclosure, or destruction, which could occur without being detected. A

report issued by the Department’s Inspector General last week9

emphasizes the need for the Department to focus on addressing its

computer security vulnerabilities. In addition, the White House recently

recognized the importance of strengthening the nation’s defenses against

threats to public and private sector information systems that are critical to

the country’s economic and social welfare when it issued its National Plan

for Information Systems Protection.

10

• The auditors reported that Education had not taken a complete,

comprehensive physical inventory of property and equipment for at least

the past 2 years. Comprehensive inventories improve accountability for

safeguarding the government’s assets, such as computer software and

hardware, and establish accurate property records. Without such an

inventory, property or equipment could be stolen or lost without detection

or resources could be wasted by purchasing duplicate equipment already

on hand.

9Review of Security Posture, Policies and Plans (ED-OIG/A11-90013) February 2000.

10Defending America’s Cyberspace: National Plan for Information Systems Protection: Version 1.0: An

Invitation to a Dialogue, released January 7, 2000, the White House.
Page 10 GAO/T-AIMD-00-106

In addition, vulnerabilities in the Department’s student financial assistance

programs have led us since 1990 to designate this a high-risk11 area for

waste, fraud, abuse, and mismanagement. As we reported in our high-risk

series update in January 1999, audits by GAO and the Department’s IG

have found instances in which students fraudulently obtained grants and

loans. Also, the problems identified by the auditors in fiscal year 1999

related to the need to improve the accounting for FFELP raise additional

concerns about the vulnerability of the funds associated with this

program.

The grantback account holds funds recovered from grant recipients

following an audit determination that the recipients made an expenditure

of funds that was not allowable or failed to account properly for the funds.

A portion of these funds could be returned to the recipients if and when

the problem that led to the return of the funds has been corrected. Any

amounts not returned to the grant recipients should revert to Treasury.

For the grantback account, which is part of Education’s Fund Balance

with Treasury, its auditors reported that Education cannot readily

determine to which appropriations the excess funds belong. This same

problem was reported in fiscal year 1998. The general ledger reports

approximately $314 million in Fund Balance with Treasury for the

grantback account as of September 30, 1999. Subsequent to September 30,

1999, the Department returned approximately $146 million to the Treasury.

The auditors reported that Education is working with Treasury to

determine the appropriate accounting for the remaining funds.

Mr. Chairman, at the Subcommittee’s request, we have work ongoing on

this issue. We are awaiting answers from Education to a number of key

questions as well as documentation to support the transactions. The

documentation provided to us thus far often did not adequately support

the transactions in the account.

In summary, it is critical that Education rise to the challenges posed by its

financial management weaknesses because its success in achieving all

aspects of its strategic objectives depends in part upon reliable financial

management information and effective internal controls. It is also

important to recognize that several of the financial management issues

that have been raised in reports emanating from reviews of Education’s

financial statements directly or indirectly affect Education’s ability to meet

11High Risk Series: An Update (GAO/HR-99-1, January 1999).

Review of the

Grantback Account
Page 11 GAO/T-AIMD-00-106

its obligations to its loan and grant recipients and responsibilities under

law.

Mr. Chairman, this concludes my statement. I would be happy to answer

any questions you or other Members of the Subcommittee may have.

For information about this statement, please contact Gloria Jarmon at

(202) 512-4476 or at jarmong.aimd@gao.gov. Individuals making key

contributions to this statement included Chinero Thomas, Cheryl Driscoll,

Anh Dang, and Meg Mills.

(916328)

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