The Internal Revenue Service's financial management systems and internal controls came under sharp criticism in a financial audit conducted by the Government Accountability Office.

The GAO said that while the IRS's fiscal 2007 and 2006 financial statements were fairly presented in all material aspects, serious internal control and financial management deficiencies made it necessary for the IRS to rely on resource-intensive compensating processes to prepare its financial statements.

"Because of these and other deficiencies, IRS did not, in GAO's opinion, maintain effective internal controls over financial reporting (including safeguarding of assets) or compliance with laws and regulations, and thus did not provide reasonable assurance that losses, misstatements, and noncompliance with laws and regulations material in relation to the financial statements would be prevented or detected on a timely basis," said the report.

The GAO did credit the IRS with making significant strides in addressing its financial management challenges and substantially mitigating several material weaknesses in its internal controls. The IRS has enhanced its reporting of tax receipts, issued its first cost-accounting policy, enhanced its use of information to better target collection efforts on outstanding tax debt, and made progress in establishing a framework for implementing a subsidiary ledger for tax administration activities.

But problems remain with the automated systems for processing tax-related activities. The IRS has not determined how to apply the cost information that resides in its general ledger system for non-tax activities to the activities processed by its separate tax-processing systems. The GAO also said the IRS still has issues in internal controls over hard-copy taxpayer receipts. And it found that the IRS was not always in compliance with the law concerning the timely release of tax liens.

The GAO noted that the IRS faces challenges from continued use of obsolete financial management systems and said they adversely affected the IRS's ability to fulfill its responsibilities as the nation's tax collector because it was unable to obtain comprehensive, timely and accurate information for day-to-day decision-making. In addition, problems with the security of the IRS's increasingly automated systems, said the GAO, "could have serious implications for our ability to determine whether IRS's financial statements are fairly stated."

The IRS agreed with the report's findings and said that improving information security continues to be a priority, but that it has a solid management team in place to address the remaining financial management challenges.

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