7 = Predecisional staff recommendations or suggestions to agency decision makers

FROM: Pamela J. Gardiner /s/ Pamela J. Gardiner

Executive Summary

Objective and Scope

Background

Results

Conclusion

Appendix I – Detailed Objective, Scope, and Methodology

Appendix II – Major Contributors to This Report

Appendix III – Report Distribution List

Appendix IV – Management’s Response to the Draft Report

Executive Summary

The Internal Revenue Service (IRS) supported the 8(a) business community by awarding over $36 million to 8(a) contractors during Fiscal Year 1998. An 8(a) firm is a Small Business Administration (SBA) approved small business that is owned and controlled by socially and economically disadvantaged American citizens. These 8(a) contractors have assisted the IRS in obtaining goods and services necessary to achieve organizational goals. However, the controls over the award and administration of 8(a) contracts could be improved.

The overall objective of the review was to evaluate whether the IRS is effectively using the 8(a) program to achieve organizational goals and whether sufficient controls exist to prevent fraud, waste, and abuse within the program. Due to ongoing contract investigations by the Treasury Inspector General for Tax Administration’s Office of Investigations, the Office of Audit did not conduct its planned tests of management controls regarding potential fraud, waste, or abuse within the program. At the conclusion of these investigations, any control weakness detected by the Office of Investigations will be addressed in a separate report.

While the 8(a) contractors provide valuable services to the IRS, additional emphasis is needed in planning and awarding 8(a) contracts. We also determined that improvements are needed in documenting 8(a) contractor compliance with federal subcontracting limitations.

During our review of 25 contracts, we identified 5 instances in which we believe the process for acquiring the goods and/or services could be improved. The Federal Acquisition Regulation (FAR), provides that 8(a) contracts are awarded on a competitive or non-competitive basis. These regulations further provide that contracts must be competed if the anticipated value over the life of the contract is greater than $3 million for acquisitions other than manufacturing.

We determined there were multiple purchase orders issued to one contractor prior to awarding the contractor two $3 million contracts. The total value of both contracts and associated purchase orders was in excess of $6.4 million, which exceeded the $3 million competition threshold. The purchase orders and contracts were for similar services and were awarded within a four-month period. Procurement management decided to continue with separate procurements because the time involved in combining and reorganizing the procurement was too lengthy and would not result in any cost or programmatic savings.

We further determined that the terms and conditions of contracts were not timely established for three letter contracts. A letter contract is a written preliminary contractual instrument that authorizes the contractor to commence work immediately. A letter contract must be superseded by a definitive contract. These letter contracts took an average of 11 months to establish the terms and conditions, even though regulations provide that the terms and conditions should be completed within 180 days after the date of the letter contract or before completion of 40 percent of the work to be performed. In 1 instance, the contract terms and conditions were negotiated 16 months after the letter contract was awarded. Although the Contracting Officer (CO) was successful in negotiating a $1.2 million credit for prior purchases, the IRS was unable to fully use the negotiated rates. It is anticipated that the IRS will ****7****.

The COs did not obtain documentation on how the 8(a) contractors planned to achieve compliance with federal limitations on subcontracting. A prior audit report identified a similar concern that IRS management relied on the SBA to evaluate the contractor’s compliance with federal limitations and additional controls were needed to ensure 8(a) contractor compliance with federal limitations. Only 1 of the 25 contracts we reviewed had documentation to support the contractor’s plan to comply with federal limitations. In reviewing the subcontracting documentation for this contract, it was questionable as to whether the 8(a) prime contractor would perform 50 percent of the work.. Regulations provide that at least 50 percent of the labor dollars must go to the 8(a) prime contractor for service type contracts. Failure to comply with subcontracting limitations could result in termination of the contractor from the 8(a) program.

The Assistant Commissioner (Procurement) should ensure all costs of an acquisition are considered when determining whether to compete the contract and continue to discourage the use of letter contracts. In addition, the Assistant Commissioner (Procurement) should ensure that documentation is obtained to certify that the 8(a) contractors are in compliance with subcontracting limitations.

Management’s Response: IRS management believes the recommendation that the Assistant Commissioner (Procurement) should ensure all costs of an acquisition are considered when determining whether to compete the contract is unnecessary. Management took this position because we identified only one instance of possible noncompliance with the competition requirements. In addition, IRS management believes they complied with competition requirements in the cited exception case.

IRS management also disagreed with discouraging the use of letter contracts, but will encourage the definitization of contracts within the recommended time frames. As a result, Procurement agreed to revise current Procurement Policies and Procedures to include a review to identify all letter contracts that have exceeded, or appear likely to exceed, the limits for definitization recommended in the FAR.

Additionally, Procurement management agreed to revise current policy and procedures to require COs to address subcontracting limitations in the price negotiation memorandum for each 8(a) contract. A complete copy of management’s response to the draft report is included as Appendix IV.

Office of Audit Comment: While we identified only one instance of apparent noncompliance, we believe it indicates a potential management control weakness. In this regard, the intent of our recommendation is to address situations where the value of the purchase orders issued are not considered in the total estimated value of the contract when deciding whether to compete the contract. It is our opinion that the value of all procurement actions to a contractor for the same, or similar, goods and services should be considered when determining whether the acquisition meets the competitive requirement.

Objective and Scope

 The overall objective of this review was to evaluate whether the Internal Revenue Service (IRS) is effectively using the 8(a) program to achieve organizational goals and whether sufficient controls exist to prevent fraud, waste, and abuse within the program. The audit work was performed during the period of October 1998 through July 1999 at the IRS’ Procurement and program offices in the Washington, D.C. area. We selected a judgmental sample of 25 of 150 8(a) contracts with activity during Fiscal Years (FY) 1995 through 1998. Due to ongoing contract investigations by the Treasury Inspector General for Tax Administration’s (TIGTA) Office of Investigations, the Office of Audit did not conduct its planned tests of management controls regarding potential fraud, waste, or abuse within the program. At the conclusion of these investigations, any control weakness detected by the Office of Investigations will be addressed in a separate report.

This audit was performed in accordance with Government Auditing Standards. Details of our objective, scope, and methodology are presented in Appendix I. Major contributors to this report are included in Appendix II.

Background

 The Small Business Administration (SBA) has an 8(a) business development program designed to help socially and economically disadvantaged American citizens compete for federal contracts. Businesses qualifying for acceptance into the SBA 8(a) program must be a small business; be unconditionally owned and controlled by socially and economically disadvantaged American citizens; and demonstrate the potential for success. A small business is classified depending on the industry, according to the average number of employees or the average sales volume for three years. Once the SBA has approved a contractor as qualified for the 8(a) program, a contractor can stay in the program for nine years. However, a contractor can graduate earlier if the 8(a) contractor substantially achieves the targets, objectives, and goals in its business plan.

The Federal Acquisition Regulation (FAR), provides that 8(a) contracts are awarded on a competitive or
non-competitive basis. The contracting agency may identify a specific contractor independently, through the 8(a) contractor’s self-marketing efforts, or the SBA’s marketing efforts. Generally, 8(a) contracts must be competed if the value over the life of the contract is greater than or equal to $3 million.

The Department of the Treasury and its bureaus set small business contracting goals each fiscal year. The IRS set its 8(a) contracting goals at 6 percent and 5 percent of the total IRS procurements for FY 1998 and FY 1999, respectively. At the end of the fiscal year, the IRS assessed its achievements based on data maintained in the Treasury Procurement Data System.

Results

 The IRS helped promote socially and economically disadvantaged American citizens by awarding over $36 million to 8(a) contractors during FY 1998. These 8(a) contractors have assisted the IRS in obtaining goods and services necessary to achieve its organizational goals.

The IRS Procurement function has been widely recognized for its accomplishments in promoting the 8(a) program. In 1996, the IRS Commissioner recognized the innovative approaches and increased awareness of the Small Business Program within the IRS. Recently, the IRS’ Small Business Specialist received an award from the Secretary of the Treasury as the Small Business Advocate of the Year. In addition, the Department of the Army recognized the IRS as an acquisition reform success story for its open communication with 8(a) contractors in improving partnerships.

Due to ongoing contract investigations by the TIGTA’s Office of Investigations, the Office of Audit did not conduct its planned tests of management controls regarding potential fraud, waste, or abuse within the program. At the conclusion of these investigations, any control weakness detected by the Office of Investigations will be addressed in a separate report.

Although the IRS Procurement function has actively promoted and worked with 8(a) contractors to provide valuable services to the IRS, improvements are needed in documenting and awarding 8(a) contracts. Specifically:

• Additional emphasis is needed on awarding 8(a) contracts.
• Improvements are needed in documenting 8(a) contractor compliance with federal limitations on subcontracting.

 Additional Emphasis is Needed on Awarding 8(a) Contracts

 Acquisition planning and the award of 8(a) contracts can be improved. In 5 of the 25 contracts we reviewed, we believe the process for acquiring the goods and services could be improved.

The FAR provides that 8(a) contracts are awarded on a competitive or non-competitive basis. However, the contract must be competed if the anticipated value over the life of the contract is greater than $3 million for acquisitions other than manufacturing.

We determined there were multiple purchase orders issued to the same contractor prior to awarding the contractor two $3 million contracts. The value of these purchase orders was not taken into consideration in the total estimated value of the individual contracts awarded to that contractor. Procurement management informed us that issuing purchase orders prior to award is a common practice in their organization because the needs of the customer dictate time frames. The purchase orders and contracts were for similar services and were awarded within a four-month period.

The requisitions for the two contracts were received by the IRS Procurement function approximately a month apart. Upon receipt, Procurement personnel did not identify these requirements as related. After further discussions, Procurement management determined that these two contracts were for similar services. However, they decided to continue with separate procurements because the time involved in combining and reorganizing the procurement was too lengthy and would not result in any cost or programmatic savings. The total value of both contracts and associated purchase orders was in excess of $6.4 million, which exceeded the competition threshold.

Additionally, we determined the IRS awarded three non-competitive letter contracts that took an average of
11 months to establish the terms and conditions. A letter contract is a written preliminary contractual instrument that authorizes the contractor to commence work immediately. A letter contract must be superseded by a definitive contract. The FAR provides that the process of definitizing a contract (setting terms and conditions) should be completed within 180 days after the date of the letter contract or before completion of 40 percent of the work to be performed.

Although proper approval by the Assistant Commissioner (Procurement) was obtained for definitization extensions, the open-ended arrangement of a letter contract places the risk of excessive costs largely on the IRS. In one instance, most of the funds associated with the contract had been obligated and paid at the time of contract definitization, which was 16 months after the letter contract was issued. As a result, the contractor had performed work and invoices were paid prior to establishing the terms and conditions of the contract. Once the Contracting Officer (CO) negotiated the terms and conditions of the contract, there was a $1.2 million credit owed to the IRS for purchases made under the letter contract.

Although the CO was successful in negotiating a $1.2 million credit for these prior purchases, the IRS was unable to fully use the negotiated rates. Due to unforeseen circumstances, the IRS did not purchase the anticipated volume of equipment. Because the anticipated volume of equipment that helped establish the negotiated rates did not materialize, it is anticipated that the IRS will ****7****. The contract specialist stated that if the terms and conditions of the contract could have been established earlier, the IRS would have realized the benefit from the negotiated rates sooner.

Ensuring that the anticipated value over the life of the contract does not exceed the non-competitive threshold and timely negotiating terms of a contract are critical in protecting government resources.

1. The Assistant Commissioner (Procurement) should ensure that all costs associated with a planned acquisition are considered when determining whether to compete the contract (competition thresholds have been exceeded).

Management’s Response: IRS management believes the recommendation that the Assistant Commissioner (Procurement) should ensure all costs of an acquisition are considered when determining whether to compete the contract is unnecessary. Management took this position because we identified only one instance of possible noncompliance with the competition requirements. In addition, IRS management believes they complied with competition requirements in the cited exception case.

Office of Audit Comment: While we identified only one instance of apparent noncompliance, we believe it indicates a potential management control weakness. In this regard, the intent of our recommendation is to address situations where the value of the purchase orders issued are not considered in the total estimated value of the contract when deciding whether to compete the contract. In our opinion, the value of all procurement actions to a contractor for the same, or similar, goods and services should be considered when determining whether the acquisition is a competitive requirement.

1. The Assistant Commissioner (Procurement) should discourage the use of letter contracts, and in those instances where letter contracts are issued, the terms and conditions of the contract should be timely established.

Management’s Response: IRS management also disagreed with discouraging the use of letter contracts, but will encourage the definitization of contracts within the recommended time frames. As a result, Procurement management agreed to revise the Policy and Procedure on "Procurement Reviews" to include a review to identify all letter contracts that have exceeded, or appear likely to exceed, the limits for definitization recommended in the FAR. A copy of the review report will be provided to the Assistant Commissioner (Procurement).

Improvements Are Needed in Documenting 8(a) Contractor Compliance With Federal Limitations on Subcontracting

 We determined that COs did not obtain documentation on how the 8(a) contractors were going to achieve compliance with federal limitations on subcontracting.

A prior audit report identified similar concerns that IRS management relied on the SBA to evaluate the contractor’s compliance with federal limitations and that additional controls in this area are needed to ensure
8(a) contractor compliance with federal limitations. Procurement management responded that additional guidance was provided in a policy and procedure memorandum to the staff to obtain substantiation from the 8(a) contractor that it will comply with federal limitations on subcontracting.

However, the COs are not adhering to the policies and procedures. We determined that the COs are not obtaining documentation from the contractors explaining how they plan to achieve compliance with federal limitations on subcontracting. Only 1 of the 25 contracts we reviewed had documentation to support the contractor’s plan to comply with federal limitations.

The SBA is reliant upon the contracting agencies to ensure the 8(a) contractors are complying with contract regulations. Failure to comply with subcontracting limitations could result in termination of the contractor from the 8(a) program.

Federal regulations state that for services contracts at least 50 percent of the labor dollars must go to the
8(a) prime contractor. This ensures the 8(a) company is gaining experience in its field, not subcontracting all the work to other companies.

In reviewing the subcontracting documentation for the one contract, it was questionable as to whether the
8(a) prime contractor would perform 50 percent of the work. Prior to our review, the CO contacted the contractors involved and the SBA to determine the 8(a) contractor’s compliance with subcontracting limitations. Contractor estimates on the work breakdown indicated that the 8(a) prime contractor would perform 57 percent of the work. We believe 8(a) contractor certifications on compliance with federal limitations on subcontracting should be documented in the Pre-award Negotiation Memorandum that is prepared by contracting personnel.

3. The Assistant Commissioner (Procurement) should ensure that Procurement personnel are following guidance issued on obtaining 8(a) contractor certifications on compliance with federal limitations on subcontracting. These certifications should be included in the Pre-award Negotiation Memorandum for each 8(a) contract awarded.

Management’s Response: Procurement management agreed to revise the Policy and Procedure on "Reviews of Small Business/Labor Surplus Area Reviews, Small Purchase Set-Asides, and Subcontracting Plans" to require COs to address subcontracting limitations in the price negotiation memorandum for each 8(a) contract.

Conclusion

While the IRS has been widely recognized for its accomplishments in promoting the 8(a) program, improvements are needed in planning and awarding 8(a) contracts. Additional emphasis is needed on planning to ensure all costs associated with an acquisition are considered when determining whether to compete the contract. In addition, improvements are needed in documenting 8(a) contractor compliance with federal subcontracting limitations.

Appendix I

The overall objective of this review was to evaluate whether the Internal Revenue Service (IRS) is effectively using the 8(a) program to achieve organizational goals and whether sufficient controls exist to prevent fraud, waste, and abuse within the program. Specifically, we:

1. Determined the guidance available for the 8(a) program.
1. Determined the organizational structure within the Procurement function that administers the 8(a) program.
2. Determined the number of 8(a) contracts awarded since 1995 and the associated dollar values.
3. Determined what regulations and procedures are available for 8(a) contracting.
1. Reviewed Procurement regulations for guidance in awarding 8(a) contracts.
2. Determined whether the IRS has additional internal policies and procedures.
3. Researched the Internet to establish other external guidance and control weaknesses for the 8(a) program.
4. Determined if there are any guidelines for self-marketing by the 8(a) contractor.
4. Determined if the Treasury Inspector General for Tax Administration, Office of Investigations function, has evidence that procedures were not followed in awarding 8(a) contracts.
1. Reviewed the Office of Investigations’ internal databases to determine whether it had received any complaints regarding 8(a) contractors.
2. Obtained available court documents relating to 8(a) contractors.
2. Determined whether 8(a) contracts were awarded in the best interest of the government.
1. Judgmentally sampled 25 of 150 8(a) contracts that had activity during Fiscal Years 1995 through 1998 and:
1. Determined the method used to select the winning contractor.
2. Evaluated the adequacy of the competition and the appropriateness of the contract award.
3. Compared the contract award price to the government cost estimate.
2. Determined whether sufficient steps were taken prior to awarding the
   25 8(a) contracts sampled.
1. Determined whether the Contracting Officer (CO) included a review of the complexity of the requirements.
2. Assessed whether the CO evaluated whether other 8(a) contractors were available to provide the good/service.
3. Determined whether the CO reviewed the 8(a) contractor’s past performance.
4. Reviewed whether the requisitioning office prepared a cost estimate.
5. Evaluated whether the requisitioning office performed a market survey to determine the number of 8(a) contractors that offer the good/service.
3. Determined whether adequate corrective action was taken on recommendations reported in a 1993 audit report.
1. For the sample of 25 8(a) contracts, ensured the contractors explained in their proposals (and during negotiations) how they planned to achieve compliance with federal limits on subcontracting services.
2. Reviewed Procurement Policies & Procedures to determine whether the review process included an evaluation of the extent with which the CO or specialist(s) complied with federal services and manufacturing limitations.
3. Determined whether additional training classes were provided on the negotiation and/or administration of 8(a) contracts.
4. Determined whether an assessment of value to be added to 8(a) contracts by 8(a) contractors was performed and was documented in the file.

Appendix II

Maurice S. Moody, Associate Inspector General for Audit (Headquarters Operations and Exempt Organizations Programs)

Michael Phillips, Director

Nancy LaManna, Audit Manager

Kent Sagara, Audit Manager

Dawn Smith, Senior Auditor

Calvin Thomas, Senior Auditor

Yolanda Betancourt, Auditor

Chinita M. Coates, Auditor

Appendix III

Deputy Commissioner Operations C:DO

Chief, Agency-Wide Shared Services A

Assistant Commissioner (Procurement) A:P

Assistant Commissioner (Program Evaluation and Risk Analysis) M:OP

Office of the Chief Counsel CC

Office of Management Controls M:CFO:A:M

National Director for Legislative Affairs CL:LA

Audit Liaison – Assistant Commissioner (Procurement) A:P

Attachment IV

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