We are unable to give an opinion on the Statement of Financial Position as of September 30, 1996, because IRS could not provide adequate documentation to support the classification of its inventory of unpaid assessments as federal tax receivables and compliance assessments. Because we were unable to determine the appropriateness of IRS’ classifications of its inventory of unpaid assessments, we were unable to determine whether the amounts reported for net federal tax receivables and the related allowance for doubtful accounts as reflected on the Statement of Financial Position as of September 30, 1996, were fairly stated. Also, because of this limitation, which affects over 95 percent of the custodial assets on the Statement of Financial Position and which prevented us from being able to give an opinion, we did not perform testing of other line items on the Statement of Financial Position, such as Frozen Tax Refunds and Credits, Tax Refunds Payable, Advances, and Commitments and Contingencies. As we have reported in the past and as discussed in a later section of this report, IRS lacks an accounts receivable subsidiary ledger or other similar mechanism which routinely tracks receivables individually from period to period. This condition requires that IRS use alternative methods to identify the amounts to be recorded as federal tax receivables on its financial statements. However, these methods thus far have not provided IRS with the capability to report accurate and supportable amounts for federal tax receivables. Further, these methods have not provided the means necessary for IRS to effectively manage and routinely monitor the status of amounts owed by taxpayers. This makes it difficult to determine a reasonable estimate of amounts deemed collectible and could minimize the amounts IRS may ultimately be able to collect on its federal tax receivables. Because IRS could not provide sufficient evidence to support the classification of certain itemized taxes collected and refunded, we could not determine if the classifications of collection and refund amounts by tax type—for example, payroll versus corporate taxes—as reflected on the Statement of Custodial Activity were reliable. Otherwise, in our opinion, the Statement of Custodial Activity presents fairly, in all material respects, in conformity with a comprehensive basis of accounting other than generally accepted accounting principles as described in note 1, IRS’ custodial activities for taxes collected, refunded, and distributed. We evaluated management’s assertion about the effectiveness of its internal controls designed to safeguard assets against loss from unauthorized acquisition, use, or assure the execution of transactions in accordance with laws and regulations that have a direct and material effect on the Custodial Financial Statements or are listed in Office of Management and Budget (OMB) audit guidance and could have a material effect on the Custodial Financial Statements; and properly record, process, and summarize transactions to permit the preparation of reliable financial statements and to maintain accountability for assets. IRS management stated that, except for the material weaknesses in internal controls presented in the agency’s fiscal year 1996 FMFIA report on compliance with the internal control and accounting standards, internal controls provide reasonable assurance that the following would be prevented or detected for amounts material in relation to the financial statements: unauthorized acquisition, use, or disposition of assets, that could lead to noncompliance with laws and regulations; and misstatements in amounts reported in the financial statements. Management made this assertion based upon criteria established under FMFIA and the OMB Circular A-123, Management Accountability and Control. For financial statement reporting, a material weakness is a condition that precludes the entity’s internal control from providing reasonable assurance that losses, noncompliance, or misstatements material in relation to the financial statements will be prevented or detected in a timely basis. The following material weaknesses, which we also found in our prior audits of IRS, were reported in IRS’ FMFIA report for fiscal year 1996, with the exception of the computer security issues discussed below. These deficiencies in internal controls may adversely affect any decision by management that is based, in whole or in part, on information that is inaccurate because of the deficiencies. Our internal control work would not necessarily disclose material weaknesses not reported by IRS. Unaudited financial information reported by IRS may also contain misstatements resulting from these deficiencies. The nature of these weaknesses was such that they affected our ability to (1) render an opinion on IRS’ fiscal year 1996 financial statements taken as a whole and (2) conclude on IRS’ compliance with laws and regulations we tested as discussed in a later section of this report. Consequently, we believe that the internal controls were not effective in satisfying the objectives discussed above during fiscal year 1996. As discussed above, IRS does not maintain an accounts receivable subsidiary ledger or other similar mechanism that routinely tracks receivables and their related activity on an ongoing basis. Consequently, IRS does not have readily available the information on receivables it needs to prepare its financial statements. To compensate for this, IRS runs computer programs against its masterfiles—the only detailed record of taxpayer information it maintains—to identify taxpayer accounts for which assessments or other debits exceed receipts received or other credits made to taxpayers’ accounts. After these accounts—unpaid assessments—have been identified, IRS runs computer programs that utilize transaction and other codes within the masterfiles to separately classify these accounts as financial receivables or compliance assessments. Those accounts that are classified as financial receivables are then evaluated on a statistical basis by IRS to estimate what amount IRS ultimately believes it will collect on its receivables. The total amount deemed collectible by IRS, based on a projection of its statistical sample, is reported as federal tax receivables on its custodial Statement of Financial Position. The difference between the amount estimated to be collectible and the total amount identified as financial receivables is reported on the custodial Statement of Financial Position as an allowance for doubtful accounts. In our audit of IRS’ fiscal year 1995 financial statements, we reported that IRS was unsuccessful in deriving reliable receivables information for use in preparing the financial statements. We reported that errors we identified in the transaction and other coding of assessments within the masterfiles, coupled with mistakes IRS made in performing the statistical procedures, resulted in IRS’ sampling results being unreliable for purposes of projecting both the gross and net receivable amounts for financial reporting. For our fiscal year 1996 audit, we again reviewed IRS’ process for extracting and classifying taxpayer assessments into financial receivables and compliance assessments. We also tested samples of assessments classified by IRS as both financial receivables and compliance assessments to determine whether IRS’ classifications were appropriate. To test for proper classification, we attempted to review supporting documents in taxpayer files, such as tax returns, receipt deposits, correspondence between the taxpayer and IRS, and other pertinent information. We found that IRS could not locate sufficient supporting documentation (such as tax returns and installment agreements) for us to determine whether IRS had properly classified its inventory of unpaid assessments as either federal tax receivables or compliance assessments. Thus, we were unable to determine whether IRS had appropriately recognized federal tax receivables on the Statement of Financial Position. IRS officials stated that the missing documents had either been destroyed based on the agency’s record retention policies or simply could not be located. The lack of a detailed listing, or subsidiary ledger, for receivables, coupled with IRS not readily maintaining supporting documents on outstanding accounts receivable, increases the risk that material amounts may be inappropriately included or excluded from the financial statements. Additionally, IRS’ not maintaining adequate documentation, in many cases, to support the underlying assessments, could affect IRS’ ability to pursue collection from taxpayers on amounts owed, resulting in lost tax revenue, including interest and penalties, to the government. In an effort to address some of the concerns noted above, IRS is continuing to review all individual assessments in excess of $10 million identified through its computer programs as financial receivables and compliance assessments to ensure their proper classification. Additionally, IRS is continuing to refine its efforts to more accurately classify its unpaid assessments inventory through various enhancements to the computer programs it uses to classify these assessments. As part of a larger and long-term effort to modernize its systems, IRS is also identifying and refining the business and system requirements necessary to assess the status of its unpaid assessments and manage its receivables. IRS’ efforts are consistent with our recommendations from prior years’ audits that IRS take steps to ensure that (1) in the long-term, tax system modernization efforts provide for a mechanism to enable IRS to readily identify and routinely track and report on the status of federal tax receivables and (2) in the short-term, continue to identify ways to improve the accuracy of receivables reporting through further enhancements to its computer programs and detailed reviews of taxpayer accounts. (See appendix I.) As we have reported in our prior financial audits, IRS’ custodial financial management system was not designed to readily support the preparation of financial statements. Specifically, IRS’ Revenue Accounting Control System—its general ledger—is unable to sufficiently identify detailed tax revenues collected and related refunds paid to permit the preparation of its Custodial Financial Statements. For fiscal year 1995, we reported that IRS had attempted to extract taxpayer information from its masterfiles to support the amounts it reported as revenues on the fiscal year 1995 Custodial Financial Statements. We reported that, while IRS extracted taxpayer information from its masterfiles, it could not adequately reconcile this information to its general ledger and the Department of Treasury’s Financial Management Service’s (FMS) records. For fiscal year 1996, IRS again extracted detailed taxpayer information from its masterfiles to derive the reported amounts for revenue collections and refunds by tax types on the Custodial Financial Statements. IRS then performed reconciliations between the information used to derive the financial statements and (1) summary amounts recorded in its general ledger and (2) amounts reported for tax revenues collected and refunds paid by FMS. We found that, for fiscal year 1996, IRS’ overall reconciliation between its masterfile, general ledger, and amounts reported by FMS, in total, were materially the same. Based on this, and on our detailed tests of revenue collection and refund transactions, we were able to determine that the total Net Collections of Federal Revenue as reported on the fiscal year 1996 Statement of Custodial Activity was fairly stated in all material respects in relation to the financial statements taken as a whole. However, we were unable to determine whether revenue collection and refund amounts reported by tax types on the financial statements were properly classified. The primary reasons we were unable to make this determination were because (1) IRS could not always provide documentation to support certain transactions and (2) its record retention policies and practices resulted in the destruction of other key documents. By not maintaining the necessary documentation to support revenue collection and refund activity, IRS’ ability to accurately report such activity by tax type on its financial statements is significantly reduced. To address its record retention problems, IRS is performing an in-depth review to determine for what period, and in what form, records will be retained to ensure that it has the information necessary to support tax revenue collections and refunds. IRS relies on computerized information systems to process and account for its revenue and taxpayer data. These systems should include controls to prevent or detect unauthorized access and intentional or inadvertent unauthorized modifications to the data and related computer programs. In our prior audits of IRS’ financial statements, we reported material weaknesses in IRS’ computer security. Also, in April 1997 we reported that IRS continues to have serious weaknesses in the controls used to safeguard IRS computer systems, facilities and taxpayer data. Our review of controls, done to support our audit of IRS’ fiscal year 1996 financial statements, found that such controls continued to be ineffective. Many issues we previously identified at five IRS sites remained unresolved at the completion of our review of IRS computer security controls in May 1997. These include serious weaknesses in the areas of (1) physical security, (2) logical security, (3) data communications management, (4) risk analysis, (5) quality assurance, (6) internal audit and security, (7) security awareness, and (8) contingency planning. As a result, we consider computer security as a material weakness because IRS data or programs could be added, altered, or deleted and not detected in a timely manner. Further, we identified examples of weaknesses in our current review that allowed for unauthorized access and modification to computer resources, including computer programs and data. The more significant weaknesses include the following: Computer support personnel were granted excessive access to read or change sensitive system files or resources. This access gave them the ability to change, alter, or delete taxpayer data and associated programs. Access to such data files, which include the basic operating system software, should be limited to the minimum number of computer support personnel needed for maintenance and review. For example, at one facility, 88 computer support personnel had the ability to implement programs not controlled by the security software. Computer support personnel were granted inappropriate access, including the ability to both obtain access to data or programs and alter the automated audit trail that identifies who entered or changed data. The inherent risk in these privileges is that data or programs can be added, modified, or deleted and the related audit trail masked or deleted. Computer support personnel access to system resources was not adequately monitored. Monitoring the access activities of employees, especially those who have the ability to alter sensitive programs and data, can help identify any significant problems and deter employees from inappropriate and unauthorized activities. IRS systems record user and system activity in automated audit logs. However, when thousands of transactions are involved, reviews cannot be effective unless reports are available to managers that highlight activity that is unusual or suspicious so that such activity can be investigated. Proper supervision of employee actions, especially those having broad access privileges, requires routine assurance concerning the propriety of their activities. IRS sites had incomplete disaster recovery plans. The absence of a comprehensive, current plan increases the likelihood that IRS would not be able to restore the operations on a timely basis in the event of a local disaster and increases the risk of unavailability of the computerized information systems at IRS. At one site, IRS allowed improper access to the commands used to authorize and generate taxpayer refund checks. Having access to commands would allow an individual to process a refund payment without review and approval by a second party. In addition, although there were methods available for reviewing such access, there were no monitoring nor any review processes in place to detect improper refund transactions. This increases the likelihood that a person with such privileges could perform unauthorized refund activities. Further, without timely review, the likelihood of identifying such incidents is decreased. As discussed above, IRS could not provide adequate documentation to support the classification of its inventory of unpaid assessments with respect to federal tax receivables, and of certain itemized taxes with respect to tax collections and tax refunds. As a result, we were unable to (1) determine whether federal tax receivables as reported were valid and collectible, (2) determine whether tax collections and refunds were properly classified within the appropriate tax class, and (3) test for compliance with laws deemed significant to the financial statements.Accordingly, we are unable to report on IRS’ compliance with laws and regulations. When sufficient evidence to support information reported in the financial statements is not available for audit, we cannot determine whether IRS complied with laws and regulations deemed significant to the financial statements. For example, as discussed earlier, IRS was unable to provide documentation in many cases to support unpaid tax assessments. Similarly, as discussed earlier, IRS was unable to provide documentation to support its reporting of tax collections and refunds by tax type. Consequently, in both of these cases, we were unable to determine whether the transactions recorded in IRS’ accounting records complied with laws and regulations. However, we did note that one issue we have reported in our prior audits continued to exist during fiscal year 1996. Specifically, IRS did not base its certifications of excise tax amounts distributed to specific trust funds on the basis of amounts actually collected. As we have reported in prior audits, IRS based its certifications of excise tax distributions to specific trust funds on the assessed amount, or amount owed, as reflected on the tax returns filed by taxpayers. This is because IRS does not require taxpayers to provide the necessary information at the time taxes are collected to certify the distributions on the basis of amounts actually collected. By law, distributions of excise taxes to specific trust funds are to be based on actual collections. IRS has studied various options to enable it to make final certifications of amounts distributed based on actual collections and to develop the underlying information needed to support such distributions. IRS has finalized a methodology for addressing this issue and intends to implement it in fiscal year 1998. We will assess IRS’ implementation of its proposal in future audits. IRS’ Overview and Supplemental Information contain various data, most of which is not directly related to the Custodial Financial Statements. We do not express an overall opinion on this information. Additionally, because we were unable to express an opinion on the financial statements taken as a whole due to IRS’ inability to provide sufficient evidence to support amounts reported in its financial statements and the material weaknesses in internal controls discussed above, we did not pursue further work on this information. In our prior reports, we made 30 recommendations aimed at improving IRS’ custodial accounting operations. In our assessment this year, we determined that, to date, IRS had completed action on eight of these recommendations. IRS believes that it has resolved an additional 13 recommendations and anticipates closing the remaining nine in fiscal year 1998. We will review IRS’ actions to resolve the 13 recommendations IRS believes it has closed as part of our fiscal year 1997 financial statement audit. With respect to six of the 22 recommendations, we provided more specific recommendations that are contained in our April 1997 report on IRS systems security. Progress has been made and actions are underway by IRS to try to resolve the material weaknesses in internal controls and financial management problems reported in our audits. Additional corrective actions are still needed, and IRS continues to state its intention to commit the necessary resources and management oversight to resolve these weaknesses. We will continue to advise IRS on how to resolve these long-standing financial management problems. Appendix I provides a status of IRS’ implementation efforts on the remaining outstanding recommendations. preparing the annual Custodial Financial Statements in conformity with the basis of accounting described in note 1; establishing, maintaining, and assessing internal control to provide reasonable assurance that the broad control objectives of FMFIA are met; and complying with applicable laws and regulations. We are responsible for obtaining reasonable assurance about whether (1) the Statement of Custodial Activity is reliable (free of material misstatements and presented fairly, in all material respects, in conformity with the basis of accounting described in note 1), and (2) management’s assertion about the effectiveness of internal controls is fairly stated, in all material respects, based upon criteria established under the Federal Managers’ Financial Integrity Act of 1982 and the Office of Management and Budget Circular A-123, Management Accountability and Control. In order to fulfill these responsibilities, we examined, on a test basis, evidence supporting the amounts in the Statement of Custodial Activity and related disclosures; assessed the accounting principles used and significant estimates made by management in the preparation of the Statement of Custodial Activity; evaluated the overall presentation of the Statement of Custodial Activity; obtained an understanding of the internal control structure related to safeguarding assets, compliance with laws and regulations, and financial reporting, except in the above-noted areas where IRS was unable to provide sufficient evidence to support amounts reported in its financial statements; and tested relevant internal controls over safeguarding, compliance, and financial reporting and evaluated management’s assertion about the effectiveness of internal controls, except in the above-noted areas where IRS was unable to provide sufficient evidence to support amounts reported in its financial statements. We did not evaluate all internal controls relevant to operating objectives as broadly defined by FMFIA, such as those controls relevant to preparing statistical reports and ensuring efficient operations. We limited our internal control testing to those controls necessary to achieve the objectives outlined in our opinion on management’s assertion about the effectiveness of internal controls. We attempted to perform audit procedures on the limited information IRS provided; however, for the reasons stated above, we were unable to perform the necessary audit procedures to opine on IRS’ Custodial Statement of Financial Position or report on IRS’ compliance with laws and regulations. We did our work in accordance with generally accepted government auditing standards and OMB Bulletin 93-06, Audit Requirements for Federal Financial Statements. In commenting on a draft of this report, IRS stated that its ability to obtain a qualified opinion on its Statement of Custodial Activity was a significant accomplishment. IRS also reaffirmed its commitment to improving its revenue reporting and to developing a revenue accounting system that will address the shortcomings cited in this report. IRS stated that it generally agreed with the findings and conclusions in this report; however, it questioned our inability to express an opinion on the financial statements taken as a whole because of concerns with internal controls. IRS officials based that view on their interpretation of auditing standards. In referring to these standards, IRS stated that internal control weaknesses do not preclude rendering an opinion on the financial statements since the assessment of internal controls is performed to determine the extent of reliance that can be placed on internal controls and hence the nature, timing, and extent of substantive testing required. While this statement is conceptually correct, the nature of one of the significant internal control weaknesses discussed in this report—specifically the lack of supporting documentation—prevented us from substantiating significant line items on IRS’ financial statements. In planning the fiscal year 1996 audit, we had to consider the weak internal control environment at IRS and, in fact, designed our audit procedures based on the assumption that we could not rely on internal controls. This resulted in our having to increase the level of testing necessary to support our opinion. However, the lack of sufficient evidence to support (1) the validity of amounts included in its tax accounts receivable and (2) classifications of receipts and refunds by tax class precluded us from being able to opine on the financial statements taken as a whole. As discussed in this report, among the basic documents that IRS could not locate and, therefore, were not available to us were tax returns and other agreements which are typically generated or signed by the taxpayer. As a result, we were unable to verify the amounts reported in the financial statements for taxes receivable and receipts and refunds by tax class, which are material to the financial statements taken as a whole, and to report on IRS’ compliance with laws and regulations. The existence of an audit trail to substantiate transactions is fundamental to good accounting practices, and appropriate documentation is necessary to permit audit assurance absent other means to validate these transactions. Further, while IRS believes it provided enough alternative supporting documentation for the majority of tax accounts receivable cases where it could not obtain supporting documentation, we considered the alternatives provided and found that they were unacceptable. Specifically, we found that the information that was generated from IRS systems could not be corroborated with sources external to IRS. While acknowledging that material internal control and system weaknesses related to tax accounts receivable existed, IRS disagreed that these weaknesses would impact its ability to effectively manage and routinely monitor the status of amounts owed by taxpayers or its ability to pursue collection. We disagree. As we reported in prior years, improved internal controls and systems would allow IRS to more effectively manage its tax accounts receivable. For example, IRS could better manage its collection efforts if it had readily available detailed subsidiary records of collection activity to augment data used to establish collection priorities. Also, not having available relevant supporting documentation, such as tax returns filed and collection files, can impact the collection process when taxpayers dispute amounts owed. The results of our efforts to audit IRS’ fiscal year 1992, 1993, 1994, and 1995 Principal Financial Statements were presented in our reports entitled Financial Audit: Examination of IRS’ Fiscal Year 1992 Financial Statements (GAO/AIMD-93-2, June 30, 1993), Financial Audit: Examination of IRS’ Fiscal Year 1993 Financial Statements (GAO/AIMD-94-120, June 15, 1994), Financial Audit: Examination of IRS’ Fiscal Year 1994 Financial Statements (GAO/AIMD-95-141, August 4, 1995), and Financial Audit: Examination of IRS’ Fiscal Year 1995 Financial Statements (GAO/AIMD-96-101, July 11, 1996). In these prior reports, we made numerous recommendations to improve IRS’ custodial accounting operations. We determined the status of recommendations based on our audit work on IRS’ fiscal year 1996 Custodial Financial Statements and on our discussions with IRS officials. Our assessments of IRS’ actions for several recommendations are discussed in the report. However, we have not fully assessed the effectiveness of all of the responses identified in the following table. Financial Audit: IRS Significantly Overstated Its Accounts Receivable (GAO/AFMD-93-42, May 6, 1993) Provide the IRS Chief Financial Officer authority to ensure that IRS accounting system development efforts meet its financial reporting needs. At a minimum, the Chief Financial Officer’s approval of related system designs should be required. Take steps to ensure the accuracy of the balances reported in IRS financial statements. In the long term, this will require modifying IRS systems so that they are capable of (1) identifying which assessments currently recorded in the Master File System represent valid receivables and (2) designating new assessments that should be included in the receivables balance as they are recorded. Until these capabilities are implemented, IRS should rely on statistical sampling to determine what portion of its assessments represent valid receivables. Clearly designate the Chief Financial Officer as the official responsible for coordinating the development of performance measures related to receivables and for ensuring that IRS financial reports conform with applicable accounting standards. (continued) Modify the IRS methodology for assessing the collectibility of its receivables by —including only valid accounts receivable in the analysis; —eliminating, from the gross receivables balance, assessments determined to have no chance of being collected; —including an analysis of individual taxpayer accounts to assess their ability to pay; —basing group analyses on categories of assessments with similar collection risk characteristics; and —considering current and forecast economic conditions, as well as historical collection data, in analyses of groups of assessments. Once the appropriate data are accumulated, IRS may use modeling to analyze collectibility of accounts on a group basis, in addition to separately analyzing individual accounts. Such modeling should consider factors that are essential for estimating the level of losses, such as historical loss experience, recent economic events, and current and forecast economic conditions. In the meantime, statistical sampling should be used as the basis for both individual and group analyses. IRS Information Systems: Weaknesses Increase Risk of Fraud and Impair Reliability of Management Information (GAO/AIMD-93-34, September 22, 1993) Limit access authorizations for individual employees to only those computer programs and data needed to perform their duties and periodically review these authorizations to ensure that they remain appropriate. Monitor efforts to develop a computerized capability for reviewing user access activity to ensure that it is effectively implemented. Establish procedures for reviewing the access activity of unit security representatives. Use the security features available in IRS’ operating systems software to enhance system and data integrity. Require that programs developed and modified at IRS headquarters be controlled by a program librarian responsible for (1) protecting such programs from unauthorized changes including recording the time, date, and programmer for all software changes, and (2) archiving previous versions of programs. Establish procedures requiring that all computer program modifications be considered for independent quality assurance review. Formally analyze Martinsburg Computing Center’s computer applications to ensure that critical applications have been properly identified for purposes of disaster recovery. (continued) Monitor service center practices regarding the development, documentation, and modification of locally developed software to ensure that such software use is adequately controlled. Review the current card key access system in the Philadelphia Service Center to ensure that only users who need access to the facilities protected by the system have access and that authorized users each have only one unique card key. Establish physical controls in the Philadelphia Service Center to protect computers with access to sensitive data that are not protected by software access controls. Financial Management: Important IRS Revenue Information Is Unavailable or Unreliable (GAO/AIMD-94-22, December 21, 1993) Develop a method to determine specific taxes collected by trust fund so that the difference between amounts assessed and amounts collected is readily determinable and excise tax receipts can be distributed as required by law. This could be done by obtaining specific payment detail from the taxpayer, consistent with our April 1993 FTD report. Alternatively, IRS might consider whether allocating payments to specific taxes based on the related taxpayer returns is a preferable method. Determine the trust fund revenue information needs of other agencies and provide such information, as appropriate. If IRS is precluded by law from providing needed information, IRS should consider proposing legislative changes. Identify reporting information needs, develop related sources of reliable information, and establish and implement policies and procedures for compiling this information. These procedures should describe any (1) adjustments that may be needed to available information and (2) analyses that must be performed to determine the ultimate disposition and classification of amounts associated with in-process transactions and amounts pending investigation and resolution. Establish detailed procedures for (1) reviewing manual entries to the general ledger to ensure that they have been entered accurately and (2) subjecting adjusting entries to supervisory review to ensure that they are appropriate and authorized. Monitor implementation of actions to reduce the errors in calculating and reporting manual interest, and test the effectiveness of these actions. Give a priority to the IRS efforts that will allow for earlier matching of income and withholding information submitted by individuals and third parties. (continued) Financial Audit: Examination of IRS’ Fiscal Year 1993 Financial Statements (GAO/AIMD-94-120, June 15, 1994) Ensure that system development efforts provide reliable, complete, timely, and comprehensive information with which to evaluate the effectiveness of its enforcement and collection programs. Establish and implement procedures to analyze the impact of abatements on the effectiveness of assessments from IRS’ various collection programs. Reconcile detailed revenue transactions for individual taxpayers to the master file and general ledger. Establish and implement procedures to proactively identify errors that occur during processing of data, and design and implement improved systems and controls to prevent or detect such errors in the future. Develop and implement systems and standard operating procedures that incorporate controls to ensure that seized asset inventory records are accurately maintained, which include Establishing specific procedures to ensure the prompt and accurate recording of seizures and disposals, including guidance addressing the valuation of seized assets; Reconciling accounting and inventory records monthly as an interim measure until the successful integration of inventory and accounting systems is completed; and Implementing mechanisms for ensuring that annual physical inventories at field locations are effectively performed, that discrepancies are properly resolved, and that inventory records are appropriately adjusted. Determine what information related to seized assets, such as proceeds and liens and other encumbrances, would be most useful to IRS managers for financial management purposes and develop a means for accounting for these data. 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Summary: Pursuant to a legislative requirement, GAO examined the Internal Revenue Service's (IRS) custodial financial statements for fiscal year (FY) 1996. GAO noted that: (1) GAO was unable to give an opinion on the statement of financial position because IRS could not provide adequate documentation to support its balance of federal taxes receivable; (2) the statement of custodial activity was reliable in all material respects, except that sufficient evidence supporting the classification of itemized tax collections and refunds was not available; (3) while GAO found that total collections of federal revenue (net) and total transfers to Treasury, net of refund appropriations, as reported on the statement of custodial activity, are fairly presented in all material respects in relation to the financial statements taken as a whole, the classification of itemized collections and refunds of federal taxes presented on the statement may not be reliable; (4) IRS management asserted that, except for the material weaknesses identified in IRS' FY 1996 Federal Managers' Financial Integrity Act of 1982 report, internal controls were effective in: (a) safeguarding assets; (b) assuring material compliance with laws and regulations; and (c) assuring that there were no material misstatements in amounts reported in the financial statements; (5) consequently, the internal controls were not effective in satisfying the objectives discussed during FY 1996; and (6) material weaknesses in internal control and recordkeeping systems also precluded the tests necessary to provide a basis for any report on compliance with pertinent laws and regulations.