1 = Tax return/Return information
2d = Law Enforcement Technique(s)
3d = Identifying information - Other Identifying Information of an Individual or Individuals

Executive Summary

Objective and Scope

Background

Results

Conclusion

Appendix I - Detailed Objectivess, Scope and Methodology

Appendix II - Major Contributors to This Report

Appendix III - Report Distribution List

Appendix IV - Memorandum: Review of Abatements Associated With a Revenue Officer’s Embezzlement

Appendix V – Management’s Responses to the Memorandum

Appendix VI – Management’s Response to Draft Report

Executive Summary

Weak internal controls and poor management practices enabled an Internal Revenue Service (IRS) Delaware-Maryland District revenue officer (RO) to embezzle taxpayer payments of over $77,000 during a two-year period. In response to this report, the District has agreed to improve controls over the processing of adjustments to taxpayer accounts by Collection Division personnel (adjustments totaled over $10 million in Fiscal Year 1998).

We conducted this limited scope review in conjunction with a Treasury Inspector General for Tax Administration inquiry involving the embezzlement of delinquent taxes collected by an RO in the Baltimore, Maryland post-of-duty. Our overall objective was to assess the internal controls over the approval and processing of adjustments to taxpayers’ accounts in the Delaware-Maryland District. The audit was conducted in accordance with generally accepted government auditing standards, as they apply to the identification of illegal acts and abuse.

The internal control weaknesses in the processing of taxpayer account adjustments in the Delaware-Maryland District created an environment where fraud occurred and remained undetected. We identified approximately $77,000 in cashier's checks and money orders embezzled by the subject RO. The RO abated taxpayers’ tax liabilities to conceal the embezzlement. Our review of internal controls in this area determined that Forms 3870, Request for Adjustment, lacked adequate documentation of the required managerial approval. In addition, the national guidelines for abating tax liabilities for reasonable cause were not met in several cases.

During the review, we issued a memorandum to the District Director recommending that group managers thoroughly review reasonable cause abatement requests to reduce the risk of employee fraud. While management advised us that corrective actions have been taken to address the lack of documentation and reasonable cause issues, two areas continue to warrant management’s attention.

District procedures instruct ROs to submit approval folders containing Requests for Adjustment to their manager. After approval or disapproval of the request(s), the folder is returned to the RO, who forwards the approved requests for input. Proper controls for separation of duties would ensure that the approved adjustment requests are forwarded directly from the approving authority to the employees who input the adjustments in the IRS computer system. Otherwise, an unscrupulous RO could alter the adjustment document to conceal the embezzlement of funds.

Collection Division management acknowledged that the subject RO could have personally delivered forged adjustment documents to the Special Procedures Branch and placed them with other adjustments awaiting computer input. These forged documents would then be input along with legitimate adjustments.

If weaknesses in these two specific internal control areas are not quickly and effectively addressed, there is an increased risk of additional fraudulent activity by IRS employees and further revenue loss to the Government. Voluntary compliance is threatened when the IRS cannot assure the public that its internal controls prevent fraud, waste and abuse in tax administration activities.

Management’s Response: District Collection management agreed that the current procedures lacked proper separation of duties in the two areas cited above. New procedures have been implemented to address these weaknesses. Management’s complete response is included in Appendix VI of this report.

Objective and Scope

 Our overall objective was to assess the internal controls over the approval and processing of adjustments to taxpayers' accounts in the Delaware-Maryland District. We conducted portions of the review concurrent with a Treasury Inspector General for Tax Administration criminal conduct investigation of a Baltimore post-of-duty (POD) revenue officer (RO) who had embezzled over $77,000.

To accomplish our objective we:

• Determined the extent of the embezzlement by the subject RO.
• Identified the control weaknesses that permitted the embezzlement to occur and remain undetected.
• Determined if this type of embezzlement activity was widespread among other ROs in the same POD.

We conducted this limited scope review from February 1997 to September 1998, in accordance with generally accepted government auditing standards, as they apply to the identification of illegal acts and abuse. Appendix I presents our detailed objectives, scope and methodology. Appendix II provides a listing of the major contributors to this report.

During the review, we issued an audit memorandum communicating several issues requiring immediate attention. This report presents both a summary of the findings reported in the memorandum and our findings on additional audit results developed after the date of the memorandum. A copy of the memorandum is included in Appendix IV. Management’s response to the memorandum is presented in Appendix V.

Background

The RO, whose name appeared on the check, was subsequently arrested and admitted to embezzling numerous payments from taxpayers starting in early 1995. The investigation proved that the RO embezzled funds and attempted to cover up the scheme by abating penalties and interest on the accounts from which the funds were stolen. The RO could not recall how many taxpayer accounts had been altered.

Results

The internal control weaknesses in the processing of taxpayer account adjustments created an environment where fraud occurred and remained undetected. These weaknesses included the approval of Forms 3870, Request for Adjustment, without adequate supporting documentation and the approval of abatements that did not meet reasonable cause criteria.

Our review showed that the subject RO altered approximately $77,000 in cashier's checks and money orders received from taxpayers and deposited them into a personal checking account.

We analyzed 32 additional cases of the subject RO and over 300 cases worked by approximately 60 other ROs in the Delaware-Maryland District to identify any similar fraud in their Requests for Adjustments.

We referred six cases to our Office of Investigations that did not contain adequate documentation to justify the requests for abatement of over $85,000 in penalties.

Collection Division management advised us that they have taken several steps to strengthen controls and increase the awareness of proper processing of Requests for Adjustments. These steps include training for all persons involved in the processing of the requests, from initiation to final disposition, and quarterly post reviews of a sample of processed RO abatements.

Although these actions should improve the processing of Form 3870 adjustments, there are still two areas that warrant management’s attention.

• Forms 3870 should not be returned to ROs after managerial approval.
• ROs should not have the ability to submit adjustment documents directly to the Special Procedures Branch (SPB).

Forms 3870 Should Not Be Returned to Revenue Officers After Managerial Approval

 According to District Collection procedures, ROs submit approval folders containing Requests for Adjustment to their managers. After approval or disapproval of the request(s), the folder is returned to the RO. If approved, the RO submits the documents to the group secretary for forwarding to the SPB.

Collection Division management suspects that the subject RO may have added additional adjustment requests to the folder after the group manager’s approval. We have no evidence that supports their contention; however, in our discussion of the 32 additional cases worked by the subject RO, management stated that it was possible some of the fraudulent adjustments may have been processed in this manner.

A proper system of internal controls provides for separation of key duties and responsibilities between authorizing, processing, recording, and reviewing transactions. Therefore, approved Forms 3870 should not be returned to ROs after managerial approval. In addition, employees who receive and process (input) adjustments to taxpayers' accounts should be instructed not to accept adjustment requests from someone other than an authorized management official.

Management’s Response:

Collection Division management agreed that the current procedures lacked proper separation of duties and did not ensure that adjustment requests are forwarded directly from the approving authority to the employees who input the adjustments to the taxpayers’ accounts in the IRS computer system.

The new procedures require that after Forms 3870 are approved by the group manager, they will be forwarded directly to the group secretary for transmittal to the SPB or to a Remote Terminal Operator (RTO) in an outlying POD for input using ENTITY (automated inventory tracking system) transmittal forms. Part 3 of the Form 3870 will be returned to the RO for inclusion in the case file. The SPB and the RTOs will not accept any Forms 3870 for input that have not been forwarded on an ENTITY transmittal. ENTITY transmittals are to be completed only by the group secretaries.

Revenue Officers Should Not Have the Ability to Submit Adjustment Documents Directly to the Special Procedures Branch

Existing procedures do not prevent ROs from gaining access to the area where the Forms 3870 are input to the IRS computer system terminals. Collection Division management acknowledged that the subject RO could have walked forged adjustment documents directly to the SPB and placed them into the adjustment inventory to await computer terminal input. These forged documents would then be input along with the legitimate adjustments.

Management believes that signatures were forged in 2 of the 12 cases where funds were embezzled and in 6 of the 32 adjustment cases where no funds were embezzled.

It is feasible that the RO forged his manager’s signature to get fraudulent Forms 3870 processed. However, if managers stopped giving the folders with approved Forms 3870 back to the ROs and implemented procedures to prevent ROs from placing adjustment documents into the processing stream, the likelihood for fraudulent adjustments to be processed and remain undetected will be greatly diminished.

A proper system of internal controls limits access to resources to authorized individuals. Therefore, management needs to improve its system of internal controls to prevent the insertion of forged adjustment documents into the processing stream. In this regard, employees who receive and process (input) adjustments to taxpayers' accounts should be instructed not to accept adjustment requests from someone other than an authorized management official.

Management’s Response:

All Collection Forms 3870 are now input by the SPB or by RTOs in outlying PODs. The Forms 3870 are transmitted to the SPB or the RTOs via the ENTITY Group Daily document. Collection Division management issued a memorandum restating that Forms 3870 requiring processing outside of the ENTITY Group Daily should only be delivered by the originating group manager.

Conclusion

 Collection Division management should continue the special periodic quality review of RO Requests for Adjustment to ensure that a proper understanding of adjustment reasonable cause criteria exists. In addition, management should ensure that proper controls are in place to guard against fraud and to ensure that Requests for Adjustment are properly approved, adequately documented, and based on authorized criterion.

Appendix I

Our overall objective was to assess the internal controls over the approval and processing of adjustments to taxpayers' accounts in the Delaware-Maryland District. We conducted our limited scope portion of the review concurrent with providing assistance to Treasury Inspector General for Tax Administration (TIGTA) Office of Investigations in its criminal conduct investigation of a Baltimore post-of-duty revenue officer (RO). The RO had embezzled over $77,000 in collected delinquent taxes. We began our assistance efforts in February 1997 and completed our limited scope review in September 1998.

To accomplish our objective, we conducted the following sub-objectives and tests:

1. To determine the extent of the RO’s embezzlement, the following actions were taken:
1. Reconciled the subject RO’s case inventory with the Delinquent Investigation/Account Listing (DIAL);
2. Analyzed audit trail information on the subject RO and requested electronic Master File transcripts in order to request source documents on identified abatements;
3. Analyzed Forms 3870, Request for Adjustment, and support documentation to look for trends and to substantiate justification for abatements;
4. Reviewed the District walk-in log to identify taxpayers assisted by the subject RO;
5. Searched closed case files;
6. Analyzed the subject RO’s bank statements and identified irregular deposits;
7. Reviewed Forms 795, Daily Report of Collection Activity, on the subject RO to identify any unusual activity, such as:
1. Numerous adjustment requests made on the same day.
2. Adjustments submitted while an acting manager was in place.
8. Determined how the subject RO adjusted taxpayer accounts to hide his embezzlement actions;
9. Explored the possibility of collusion between the subject RO and other employees; and
10. Reviewed the subject RO’s Official Personnel Folder for conflicts of interest.
2. To determine the control weaknesses that allowed the embezzlement to both occur and remain undetected, the following steps were completed:
1. Evaluated RO abatement request justifications and compared the justifications to the Internal Revenue Manual (IRM) criteria;
2. Identified abatement discrepancies and discussed the exception cases with management;
3. Discussed program procedures with District management to identify control weaknesses that could have been exploited; and
4. Determined Collection Division management’s role in case processing and noted controls that could be bypassed.
3. To determine if this type of embezzlement activity was widespread among other ROs in the same post-of-duty, the following actions were completed:
1. Used the DIAL to identify other ROs in the District that had high abatement requests and ordered complete bulk Master File Transcripts (MFTRA) for the taxpayers identified;
2. Placed the Master File and DIAL data in a database and determined the number of accounts with adjustments assigned to each RO;
3. Used MFTRA information to identify and request Integrated Data Retrieval System (IDRS) adjustment documents for approximately 1,300 separate taxpayer account transactions;
4. Reviewed IDRS documentation for over 1,000 of the 1,300 adjustments and identified over 300 adjustments that were the result of Forms 3870; and
5. Determined whether reasonable cause justifications on the source documents attached to the 300 Forms 3870 were consistent with IRM criteria.

Appendix II

M. Susan Boehmer, Acting Regional Inspector General for Audit

Thomas H. Black, Audit Manager

Barry G. Huff, Senior Auditor

Steve W. Gibson, Auditor

Tracy K. Harper, Auditor

Robert J. Leeke, Auditor

Kim M. McManis, Referencer

Jack E. Forbus, Referencer

Charlene L. Elliston, Referencer

Appendix III

Chief Operations Officer C:OP

Assistant Commissioner (Collection) OP:CO

National Director, Collection Field Operations OP:CO:C

National Director for Legislative Affairs CL:LA

Office of Management Controls M:CFO:A:M

Regional Commissioner, Southeast Region RC

Regional Chief Compliance Officer, Southeast Region RCCO

Director, Delaware-Maryland District

Office of Audit Liaisons:

Regional Controller’s Office, Southeast Region

Assistant Commissioner (Collection)

Appendix IV

date: October 14, 1997

to: District Director

Delaware - Maryland District

/s/ Thomas H. Black

from: Audit Manager

Southeast Region

We assisted Internal Security from February to June 1997, in an investigation involving embezzlement by a Revenue Officer in the Delaware-Maryland District. This memorandum includes the scope and results of the work we completed with Internal Security. We are providing this memorandum for your information. The scope of our review was limited therefore your corrective action may be targeted to assessing controls beyond the subject Revenue Officer. Please forward any planned corrective action(s) to the Regional Inspector within 30 workdays of the memorandum date. Your response should also contain all the information required by the Internal Revenue Manual (IRM) Section 1289.2.

Internal Security began investigating the subject Revenue Officer (RO) after receiving information ****1****.

The RO provided a signed affidavit to Internal Security admitting to embezzling funds from taxpayers.

As part of our limited review, we obtained a download of the subject RO’s audit trail. We ordered electronic master file transcripts for these cases and identified those with abatement actions. For cases with abatement actions, we ordered and reviewed the applicable adjustment documents. We reviewed the Collection District walk-in log and identified cases worked by the subject RO. We searched closed Collection files to identify and review cases assigned to the subject RO.

We performed this project in accordance with generally accepted government auditing standards as they apply to the identification of illegal acts and abuse. We did not perform a typical program audit as prescribed in the General Accounting Office’s Government Auditing Standards, which are designed to determine:

• the extent to which desired results/benefits were being achieved;
• the effectiveness of Service’s programs, activities or functions; and,
• whether the Service has complied with Internal Revenue Manual procedures or other applicable regulations.

Internal Security determined that the subject RO altered approximately $77,000 in cashier's checks and money orders he received from taxpayers and deposited these funds into his personal checking account. The subject RO stated he abated penalties so that there would be no balances still owed by the taxpayer.

Internal Audit reviewed available source documents for 12 embezzlement cases. In 8 of the 12 cases, the subject RO completed reasonable cause abatement requests in an attempt to hide his fraudulent actions.

• In 5 cases, the RO successfully had abatement requests processed. In 3 of the 5 cases, reasonable cause criteria wasreasonable cause criteria were not met.
• The RO prepared abatement requests that were not yet approved in 2 of the embezzlement cases.
• A Group Manager denied abatement requests prepared in one embezzlement case.

The RO justified abatements for the three embezzlement cases by using explanations that did not meet reasonable cause criteria.

****1****. According to the IRM, in order to qualify for a reasonable cause abatement due to illness, the individual having sole authority to file the return must be ill. A Group Manager stated that the reasonable cause abatement approvals were forged in this case.

****1****. The IRM specifically states that reliance on the advice of a competent tax advisor does not provide a basis for a waiver of the estimated tax penalty. A Group Manager could not determine whether the approval signature on the abatement request was valid.

****1****. None of these circumstances meet the IRM criteria for reasonable cause abatements. A Group Manager approved the abatements.

To determine the extent of the RO’s abatement activities, we requested source documents for accounts the subject RO accessed on IDRS. From this analysis we identified 32 additional taxpayers for whom the subject Revenue Officer requested abatements totaling approximately $280,000. Documentation was not present to support over $74,000 in abatements in 9 of the 30 (30%) of the cases with abatements over $500. Additionally, over $9,000 in abatements were processed without managerial approval. We were not able to review case files for 7 of these 9 cases. Collection believes that some of the managerial approvals were forged by the RO in 6 of the 9 cases.

In 1 of the 32 taxpayer cases involving over ****1****. Collection believes that some of the abatement request approvals were forged in this case.

The Branch Chief said that Group Managers and Acting Group Managers perform daily spot checks on approved abatement cases. However, Group Manager checks did not identify any of the 8 cases Collection believes may involve forged adjustment approvals. The Branch Chief stated the suspect RO may have added forged abatement requests to the RO’s approval folder after a Group Manager reviewed the RO’s daily work and returned the folder to the RO. The RO could then provide the approved documents with the added abatements to the group secretary. The Branch Chief said that the group secretary would be unlikely to catch additional adjustments added by the RO.

The Branch Chief also said that the subject RO could have walked forged adjustment documents down to the Special Procedures Branch (SPB) without making an entry for the adjustments on the Entity Daily Report by waiting until the SPB had separated the Entity Daily Report from the cases.

Group Managers must thoroughly review reasonable cause abatement requests in order to reduce the risk of employee fraud. The manager’s review should determine whether the RO provided adequate supporting documentation establishing a taxpayer’s basis for a reasonable cause abatement.

Appendix V

Response has been removed due to its size. To see the complete Response, please go to the Adobe PDF version of this report.

Appendix VI

Response has been removed due to its size. To see the complete Response, please go to the Adobe PDF version of this report.