The receipt, processing, and retrieval of vast quantities of paper forms and documents is one of IRS’s most critical problems. IRS annually receives over 200 million tax returns with multiple attachments, about 1 billion information documents (for example, W2s and 1099s), and several hundred million pieces of taxpayer correspondence. To process this enormous volume of paperwork, IRS uses labor-intensive processes and systems to (1) convert data from tax returns into machine usable form, (2) maintain taxpayer accounts, including current and historical data, (3) ensure refunds are prompt, and (4) prepare bills for tax payments due. Retrieving paper forms and documents involves over 1.2 billion tax returns stored in over 1 million square feet of space. Also, IRS collects most of the government’s revenue, currently over $1.25 trillion annually, and it employs over 113,000 people, more than any other civilian agency. IRS is headquartered in Washington, D.C., and has 7 regional offices, 63 district offices, 10 service centers, and 2 computer centers. Upon receipt at IRS’s service centers, paper-based tax returns and related supporting and information documents are manually extracted from envelopes, sorted, batched, coded, and transcribed into electronic format. The service centers send electronically formatted data to IRS’s main computer center in Martinsburg, West Virginia. IRS stores nearly all the paper supplied by taxpayers as part of, or in support of, their tax filings. Tax return processing at IRS service centers was designed in the late 1950s. Today, nearly 4 decades later, IRS still processes tax return data using the processes instituted when automated systems were first installed in the service centers. In today’s technological climate, taxpayers have come to expect faster, better, more convenient service in virtually every facet of their lives. To meet these expectations, IRS’s outdated tax processes and systems are being used to electronically capture and provide more and more information. At the same time, the number of tax-related documents is greatly expanding. Between the late 1960s and the early 1980s, IRS began several efforts to modernize its operations. These efforts did not succeed, and on numerous occasions the Congress expressed concern about the cost of the redesign efforts, the inadequacy of security controls over taxpayer information, the lack of clear management responsibility for the programs, and the paucity of technical and managerial expertise. In late 1986, IRS produced plans for a new modernization effort, known today as Tax Systems Modernization (TSM). IRS estimates that TSM could cost between $8 billion and $10 billion through 2001. Through fiscal year 1995, IRS will have spent or obligated $2.5 billion for TSM, which comprises 36 systems development projects. About $1.1 billion more has been requested for fiscal year 1996. IRS has developed a business vision to guide its modernization efforts. This vision calls for a work environment that is virtually paper-free, where taxpayer account updates are rapid and taxpayer information is readily available to IRS employees for purposes such as customer service and compliance activities. IRS’s overall redesign of its tax processing system is key to achieving this vision. An important component of the redesign is maximizing the receipt of electronic information to reduce the receipt of paper documents. IRS plans, for example, to expand the electronic receipt of tax returns. However, IRS believes the requirement to process large volumes of paper documents will exist for the foreseeable future. As a result, IRS is designing the Document Processing System to scan paper documents and electronically capture data for subsequent processing and retrieval at workstations. This system will require staff using personal computers to correct and add data that the system cannot accurately capture from paper documents. Like its electronic filing system counterparts, the Document Processing System is to capture 100 percent of the numeric data submitted on tax returns, compared to about 40 percent captured from paper returns today. Throughout the modernization, we have reported on critical issues related to the need to build an effective organization structure for managing technology; problems in developing specific TSM systems and the reliability of reported weak internal, computer security, and fraud controls; and antiquated systems that were not designed to provide the meaningful and reliable financial information needed to effectively manage and report on IRS’s operations. Because of problems such as these, in February 1995, we designated TSM a high-risk systems modernization effort. In general, these major efforts experience cost over-runs, are prone to delays, and often fail to meet intended mission objectives. Appendix II is a list of our prior reports and testimonies pertinent to TSM. Our objective was to review the business and technical practices IRS has established to develop, manage, and operate its information systems and, in particular, the TSM initiative. We examined IRS’s business strategy for reducing paper tax return submissions, strategic information management processes, software development capability, systems development accountability and responsibility. To review IRS’s business strategy for reducing paper tax return submissions, we interviewed IRS officials who have responsibility for submission processing and electronic filing. We analyzed various task force studies on electronic filing and summaries of issues compiled by an IRS task team charged with promoting electronic filing. In addition, we examined IRS internal audit reports on the performance and development of systems designed to handle paper returns, reports of problems from the service centers responsible for processing tax returns, and a risk assessment and critical design review of operational and developmental systems. Further, we reviewed project plans and technical charters for paper processing systems, and we discussed systems requirements and performance test results with the contractor developing the Document Processing System. To assess IRS’s strategic information management processes, we interviewed IRS officials who have responsibility for systems development. We also analyzed IRS planning documents, including IRS’s Business Master Plan, Future Concept of Operations, and Integrated Transition Plan and Schedule. We obtained and analyzed IRS documentation and task force studies related to (1) planning and managing information technology, (2) analyzing systems development costs and benefits, (3) reengineering business processes, and (4) training staff in the use of new information technology. In analyzing IRS’s strategic information management practices, we drew heavily from our research on the best practices of private and public sector organizations that have been successful in improving their performance through strategic information management and technology. These fundamental best practices are discussed in our report, Executive Guide: Improving Mission Performance Through Strategic Information Management and Technology (GAO/AIMD-94-115, May 1994), and our Strategic Information Management (SIM) Self-Assessment Toolkit (GAO/Version 1.0, October 28, 1994, exposure draft). To evaluate IRS’s software development capability, we validated IRS’s August 1993 assessment of its software development maturity based on the Capability Maturity Model (CMM) developed in 1984 by the Software Engineering Institute at Carnegie Mellon University. CMM establishes standards in key software development processing areas and provides a framework to evaluate a software organization’s capability to consistently and predictably produce high-quality products. We discussed with IRS software development officials IRS’s CMM rating and actions initiated to improve it. We also identified and assessed IRS’s initiatives to improve software development capability in key process areas, including (1) requirements management, (2) project planning, tracking, and oversight, and (3) configuration management. In another key process area, software quality assurance, we examined, in particular, IRS’s use of metrics to control software development projects. To assess IRS’s technical infrastructures, we discussed security and data standards with systems architects and technical specialists. In addition, we obtained and analyzed integrated systems architecture documents; systems development documents for security and data standards; and project plans, quality measurement plans, and technical charters for all TSM projects. To assess accountability and responsibility for developing systems, we identified the IRS organizational components involved in developing and operating information systems. We discussed with IRS’s Modernization Executive, Chief Information Officer, and research and development division officials their respective systems development roles, responsibilities, and accountability. We performed our work at IRS headquarters in Washington, D.C., and at facilities in Cincinnati, Ohio, and Nashville, Tennessee. On April 28, 1995, we briefed the IRS Commissioner and other senior IRS executives on the results of our review and made recommendations to them for overcoming the management and technical problems impeding successful systems modernization efforts. Our work was performed between February 1995 and June 1995, in accordance with generally accepted government auditing standards. IRS provided written comments on a draft of this report, which are included as appendix I. IRS is currently drowning in paper—a serious problem IRS can mitigate only through electronic tax filings. But IRS will not achieve the full benefits that electronic filing can provide because it does not have a comprehensive business strategy to reach or exceed its electronic filing goal, which is 80 million electronic filings by 2001. Today, IRS’s estimates and projections for individual and business returns suggest that, by 2001, as few as 39 million returns may be submitted electronically, less than half of IRS’s goal. Maximizing electronic filings is important because tax returns filed electronically do not have to move through IRS’s labor-intensive operations. Paper filings have to be opened, sorted, reviewed, transcribed, shipped and stored, and then physically retrieved if IRS employees later need data on the returns that are not transcribed. IRS recognizes that increasing the number of electronic filings is essential to both improve its tax return processing and advance toward the virtually paperless environment envisioned by IRS under TSM. Creating a paperless environment, though, will involve making significant changes to improve IRS’s information management and will require new processes and new ways of doing business. Private and public sector organizations that have successfully improved their performance have found that to move away from the status quo, an organization must recognize opportunities to change and improve its fundamental business processes. Without well-conceived business strategies to capitalize on opportunities, meaningful change may be slow, the quality of service may not improve, and modernization may be impossible.