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Sustained Improvement in Federal Financial Management Is Crucial to 
Addressing Our Nation's Accountability and Fiscal Stewardship 
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Testimony: 

Before the Subcommittee on Government Management, Organization, and 
Procurement, Committee on Oversight and Government Reform, House of 
Representatives: 

United States Government Accountability Office: 

GAO: 

For Release on Delivery Expected at 2:00 p.m. EDT: 

Tuesday, March 20, 2007: 

Fiscal Year 2006 U.S. Government Financial Statements: 

Sustained Improvement in Federal Financial Management Is Crucial to 
Addressing Our Nation's Accountability and Fiscal Stewardship 
Challenges: 

Statement of David M. Walker: 
Comptroller General of the United States: 

GAO-07-607T: 

GAO Highlights: 

Highlights of GAO-07-607T, a testimony before the Subcommittee on 
Government Management, Organization, and Procurement, Committee on 
Oversight and Government Reform, House of Representatives 

Why GAO Did This Study: 

GAO is required by law to annually audit the consolidated financial 
statements of the U.S. government. The Congress and the President need 
to have timely, reliable, and useful financial and performance 
information. Sound decisions on the current results and future 
direction of vital federal government programs and policies are made 
more difficult without such information. 

Until the problems discussed in GAO’s audit report on the U.S. 
government’s consolidated financial statements are adequately 
addressed, they will continue to (1) hamper the federal government’s 
ability to reliably report a significant portion of its assets, 
liabilities, costs, and other related information; (2) affect the 
federal government’s ability to reliably measure the full cost as well 
as the financial and nonfinancial performance of certain programs and 
activities; (3) impair the federal government’s ability to adequately 
safeguard significant assets and properly record various transactions; 
and (4) hinder the federal government from having reliable financial 
information to operate in an economical, efficient, and effective 
manner. 

What GAO Found: 

For the 10th consecutive year, certain material weaknesses in financial 
reporting and other limitations on the scope of GAO’s work resulted in 
conditions that continued to prevent GAO from being able to provide 
Congress and the American people an opinion as to whether the 
consolidated financial statements of the U.S. government are fairly 
stated in conformity with U.S. generally accepted accounting 
principles. While over the past 10 years significant progress has been 
made in improving financial management since the U.S. government began 
preparing consolidated financial statements, three major impediments 
continue to prevent GAO from rendering an opinion on the consolidated 
financial statements: (1) serious financial management problems at the 
Department of Defense, (2) the federal government’s inability to 
adequately account for and reconcile intragovernmental activity and 
balances between federal agencies, and (3) the federal government’s 
ineffective process for preparing the consolidated financial 
statements. Further, in GAO’s opinion, as of September 30, 2006, the 
federal government did not maintain effective internal controls over 
financial reporting and compliance with significant laws and 
regulations due to numerous material weaknesses. 

From a broad federal financial management perspective, the federal 
government’s financial condition and fiscal outlook are worse than many 
may understand. The U.S. government’s total reported liabilities, net 
social insurance commitments, and other fiscal exposures continue to 
grow and now total over $50 trillion, representing approximately four 
times the nation’s total output (GDP) in fiscal year 2006, up from 
about $20 trillion, or two times GDP in fiscal year 2000. The federal 
government faces large and growing structural deficits in the future 
due primarily to known demographic trends and rising health care costs. 
These structural deficits which are virtually certain given the design 
of our current programs and policies will mean escalating and 
ultimately unsustainable federal deficits and debt levels. Based on 
various measures and using reasonable assumptions the federal 
government’s current fiscal policy is unsustainable. Continuing on this 
imprudent and unsustainable path will gradually erode, if not suddenly 
damage, our economy, our standard of living, and ultimately our 
domestic tranquility and national security. Tough choices by the 
President and the Congress are necessary in order to address the 
nation’s large and growing long-term fiscal imbalance. 

The federal government should consider the need for further revisions 
to the current federal financial reporting model to recognize the 
unique needs of the federal government. While the current reporting 
model recognizes some of these needs, a broad reconsideration of issues 
such as the kind of information that may be relevant and useful for a 
sovereign nation, could stimulate needed discussion and lead to 
reporting enhancements that might help the Congress deliberate 
strategies to address the nation’s growing long-term fiscal imbalance. 
Furthermore, additional transparency in connection with federal budget 
reporting and legislative proposals is needed. 

[Hyperlink, http://www.gao.gov/cgi-bin/getrpt?GAO-07-607T]. 

To view the full product, including the scope and methodology, click on 
the link above. For more information, contact Jeffrey C. Steinhoff or 
Gary T. Engel at (202) 512-2600 or engelg@gao.gov. 

[End of section] 

Mr. Chairman and Members of the Subcommittee: 

I am most pleased to be here today to discuss our report on the U.S. 
government's consolidated financial statements for fiscal years 2006 
and 2005. I would like to thank you for continuing the annual tradition 
of oversight hearings on this important subject. The involvement of 
your subcommittee remains critical to ultimately assuring the continued 
progress in the financial management area while enhancing public 
confidence in the federal government as a financial steward that is 
accountable for its finances. Such hearings play a vital role in 
ensuring that the federal government is held accountable to the 
American people. Our work was conducted in accordance with U.S. 
generally accepted government auditing standards. 

Both the consolidated financial statements and our report on them are 
included in the fiscal year 2006 Financial Report of the United States 
Government (Financial Report). The most recent report was issued by the 
Department of the Treasury (Treasury) on December 15, 2006, and is 
available through GAO's Internet site, at [Hyperlink, 
http://www.gao.gov/financial/fy2006financialreport.html], and 
Treasury's Internet site, at [Hyperlink, 
http://www.fms.treas.gov/fr/06frusg/06frusg.pdf]. I also would like to 
highlight a guide we issued in September 2005 titled Understanding the 
Primary Components of the Annual Financial Report of the United States 
Government,[Footnote 1] which was prepared to help those who seek to 
obtain a better understanding of the Financial Report. This guide can 
also be found on GAO's Internet site at [Hyperlink, 
http://www.gao.gov/new.items/d05958sp.pdf]. 

Since the enactment of key financial management reforms, the federal 
government has made substantial progress in improving financial 
management activities and practices. Federal financial systems 
requirements have been developed and internal control has been 
strengthened. Nonetheless, as I recently testified before the Senate 
Subcommittee on Federal Financial Management, Government Information, 
Federal Services, and International Security, Committee on Homeland 
Security and Governmental Affairs, the federal government still has a 
long way to go to address several principal challenges to fully 
realizing strong federal financial management.[Footnote 2] For the 10th 
consecutive year, certain material weaknesses[Footnote 3] in financial 
reporting and other limitations on the scope of our work resulted in 
conditions that continued to prevent us from being able to provide the 
Congress and the American people an opinion as to whether the 
consolidated financial statements of the U.S. government were fairly 
stated in conformity with U.S. generally accepted accounting principles 
(GAAP). Further, we also reported that the federal government did not 
maintain effective internal control over financial reporting (including 
safeguarding assets) and compliance with significant laws and 
regulations as of September 30, 2006. Until the problems that I will 
discuss today and that are discussed in our audit report are adequately 
addressed, they will continue to have adverse implications for the 
federal government and the taxpayers. 

GAO's audit report also included an emphasis paragraph for the 3rd 
consecutive year noting that the nation's current fiscal path is 
unsustainable and that tough choices by the President and the Congress 
are necessary to address the nation's large and growing long-term 
fiscal imbalance. In fact, the federal government's financial condition 
and fiscal outlook are worse than many may understand. The value of the 
federal government's net social insurance commitments, liabilities, and 
other fiscal exposures is now reported at over $50 trillion, 
representing close to four times Gross Domestic Product (GDP) in fiscal 
year 2006 and up from about $20 trillion or two times GDP in 2000. One 
way to think about it is: if we wanted to put aside today enough to 
cover these promises, it would take about $440,000 per American 
household, up from $190,000 in 2000. As these numbers indicate, the 
federal government faces large and growing structural deficits 
primarily related to Medicare and other social insurance commitments. 
These structural deficits--which are virtually certain given the design 
of our current programs and policies--will mean escalating and 
ultimately unsustainable federal deficits and debt levels. Simply put, 
despite an almost 12 percent increase in federal revenues this year, 
our nation's financial condition and long-term fiscal imbalance 
continue to deteriorate and are on an imprudent and unsustainable 
course. 

In this testimony, I will discuss (1) the challenges posed by the 
federal government's fiscal condition and my views on a possible way 
forward, including ideas for consideration to improve the transparency 
of long-term costs; (2) our continued concerns about restatements to 
prior year financial statements; (3) the major issues relating to the 
consolidated financial statements for fiscal years 2006 and 2005, 
including systems problems that continue to hinder federal agency 
accountability; and (4) the need for an improved federal financial 
reporting model. I will also describe progress that has been made 
toward addressing major impediments to an opinion on the consolidated 
financial statements. 

The Nation's Fiscal Imbalance: 

From a broad financial management perspective, the federal government's 
deteriorating long-range financial condition and long-term fiscal 
imbalance are matters of increasing concern. We face large and growing 
structural deficits due primarily to known demographic trends and 
rising health care costs. There is a need to engage in a fundamental 
review, repriorization, and reengineering of the base of the 
government. Understanding and addressing the federal government's 
financial condition and long-term fiscal imbalance are critical to 
maintain fiscal flexibility so that we can respond to current and 
emerging social, economic, and security challenges. 

The Reported Long-Term Fiscal Outlook: 

The fiscal year 2006 Financial Report disclosed that, despite a 
reported increase in revenues in fiscal year 2006 of about $255 
billion, the federal government's costs exceeded its revenues by $450 
billion (i.e., net operating cost). Further, as of September 30, 2006, 
the U.S. government reported in the 2006 Financial Report that it owed 
(i.e., liabilities) more than it owned (i.e., assets) by almost $9 
trillion. In addition, the Statement of Social Insurance in the 
Financial Report disclosed an additional $39 trillion of the 
government's social insurance responsibilities, including Medicare and 
Social Security. The total of the reported liabilities (e.g., debt), 
contingencies (e.g., insurance), and social insurance and other 
commitments and promises (e.g., Social Security, Medicare)--rose from 
$20 trillion to about $50 trillion in the last 6 years. 

Over the next few decades, the nation's fiscal outlook will be shaped 
largely by known demographic trends and rising health care costs. As 
the baby-boom generation retires, federal spending on current 
retirement and health care programs--Social Security, Medicare, and 
Medicaid--will grow dramatically. These programs represent $39 trillion 
of the $50 trillion long-term fiscal exposure. A range of other federal 
fiscal commitments, some explicit and some representing implicit public 
expectations, also bind the nation's fiscal future. Absent policy 
changes, a growing imbalance between expected federal spending and tax 
revenues will mean escalating and ultimately unsustainable federal 
deficits and debt levels. 

There are various ways to consider and assess the long-term fiscal 
outlook. In this regard, information included in the Financial Report, 
and other information and analyses, can be used to more fully 
understand the nation's long-term fiscal outlook, including: 

* the Statement of Social Insurance, 

* major reported long-term fiscal exposures, and: 

* long-term fiscal simulations. 

Statement of Social Insurance: 

The Statement of Social Insurance in the Financial Report displays the 
present value[Footnote 4] of projected revenues and expenditures for 
scheduled benefits of certain benefit programs that are referred to as 
social insurance (e.g., Social Security, Medicare). For Social Security 
and Medicare alone, projected expenditures for scheduled benefits for 
the next 75 years exceed earmarked revenues (e.g., dedicated payroll 
taxes, premiums, and existing government bonds in the trust funds) for 
the same period by approximately $39 trillion in present value terms. 
Stated differently, one would need approximately $39 trillion invested 
today to deliver on the currently promised benefits not covered by 
earmarked revenues for the next 75 years. Table 1 shows a simplified 
version of the Statement of Social Insurance by its primary components. 

Table 1: Simplified Statement of Social Insurance as of January 1, 
2006: 

Dollars in trillions. 

Present value of future revenue (earmarked contributions, taxes, and 
premiums); 
Social security: $32; 
Medicare Hospital Insurance (Part A): $11; 
Medicare Supplementary Medical Insurance - Part B: $5; 
Medicare Supplementary Medical Insurance - Part D: $2; 
Total: $50. 

Present value od expenditures for scheduled future benefits[A]; 
Social security: $(39); 
Medicare Hospital Insurance (Part A): $(22); 
Medicare Supplementary Medical Insurance - Part B: $(18); 
Medicare Supplementary Medical Insurance - Part D: $(10);  
Total: $(89). 

Present value of future expenditures in excess of future revenue[B]; 
Social security: $(7); 
Medicare Hospital Insurance (Part A): $(11); 
Medicare Supplementary Medical Insurance - Part B: $(13); 
Medicare Supplementary Medical Insurance - Part D: $(8); 
Total: $(39). 

Source: The Department of the Treasury. 

[A] These amounts include administrative expenses for the programs. 

[B] Under current law, Social Security and Federal Hospital Insurance 
(Medicare Part A) payments are limited to amounts available to the 
respective trust funds. 

Note: Data are from the fiscal year 2006 Financial Report. 

[End of table] 

Major Reported Long-Term Fiscal Exposures: 

GAO developed the concept of "fiscal exposures" to provide a framework 
for considering the wide range of responsibilities, programs, and 
activities that explicitly or implicitly expose the federal government 
to future spending. 

The concept of fiscal exposures is meant to provide a broader 
perspective on long-term costs. Major reported long-term fiscal 
exposures in fiscal year 2006 with a present value totaling over $50 
trillion consisted of about $10 trillion of liabilities reported on the 
Balance Sheet, $1 trillion of other commitments and contingencies, and 
the $39 trillion of social insurance responsibilities, the last two of 
which are reported elsewhere in the Financial Report. This $50 trillion 
compares to about $20 trillion in fiscal year 2000. 

These large numbers are difficult to comprehend. Table 2 seeks to 
translate them into several figures and ratios that are more 
understandable. 

Table 2: Understanding the Size of Major Reported Fiscal Exposures: 

Major fiscal exposures: Total household net worth; 
2000: $20.4 trillion; 
2006: $50.5 trillion; 
Percentage increase: 147%. 

Major fiscal exposures: Total household net worth: Ratio of fiscal 
exposures to net worth; 
2000: $42.0 trillion; 
2006: $53.3 trillion; 
Percentage increase: 27%. 

Major fiscal exposures: Burden: Per person; 
2000: $70,000; 
2006: $170,000; 
Percentage increase: 132%. 

Major fiscal exposures: Burden: Per full-time worker; 
2000: $165,000; 
2006: $400,000; 
Percentage increase: 143%. 

Major fiscal exposures: Burden: Per household; 
2000: $190,000; 
2006: $440,000; 
Percentage increase: 134%. 

Major fiscal exposures: Income: Median household income; 
2000: $41,990; 
2006: $46,326; 
Percentage increase: 10%. 

Major fiscal exposures: Income: Disposable personal income per capita; 
2000: $25,127; 
2006: $31,519; 
Percentage increase: 25%. 

Major fiscal exposures: Ratio of household burden to median income; 
2000: 4.5; 
2006: 9.5; 
Percentage increase: 112%. 

Sources: GAO analysis of data from the Department of the Treasury, 
Federal Reserve Board, U.S. Census Bureau, and Bureau of Economic 
Analysis. 

Note: Percentage increases reflect actual data and may differ from 
calculation of rounded numbers presented in table. 

[End of table] 

Long-Term Fiscal Simulations: 

Another way to assess the U.S. government's long-term fiscal outlook 
and the sustainability of federal programs is to run simulations of 
future revenues and costs for all federal programs, based on a 
continuation of current or proposed policy. The simulations GAO has 
published since 1992 are designed to do that. As shown in figure 1, 
GAO's long-term simulations--which are neither forecasts nor 
predictions--continue to show ever-increasing long-term deficits 
resulting in a federal debt level that ultimately spirals out of 
control. The timing of deficits and the resulting debt buildup varies 
depending on the assumptions used; one alternative (baseline extended) 
takes the legislatively-mandated baseline from the Congressional Budget 
Office (CBO) for the first 10 years and then keeps discretionary 
spending and revenues constant as a share of GDP while letting Social 
Security, Medicare, and Medicaid grow as projected by the Trustees and 
CBO under midrange assumptions. The other, perhaps more realistic, 
scenario based on the administration's announced policy preferences 
changes only two things in the first 10 years: discretionary spending 
grows with the economy and all expiring tax provisions are extended. 
Like the "baseline extended" scenario, after 10 years both revenues and 
discretionary spending remain constant as a share of the economy. Under 
either optimistic set of assumptions, the federal government's current 
fiscal policy is unsustainable. 

Figure 1: Unified Surpluses and Deficits as a Share of Gross Domestic 
Product (GDP) under Alternative Fiscal Policy Simulations: 

[See PDF for image] 

Source: GAO's January 2007 analysis. 

Note: The simulation assumes currently scheduled Social Security 
benefits are paid in full throughout the simulation period. 

[End of figure] 

Over the long term, the nation's growing fiscal imbalance stems 
primarily from the aging of the population and rising health care 
costs. Absent significant changes on the spending or revenue sides of 
the budget or both, these long-term deficits will encumber a growing 
share of federal resources and test the capacity of current and future 
generations to afford both today's and tomorrow's commitments. 
Continuing on this unsustainable path will gradually erode, if not 
suddenly damage our economy, our standard of living, and ultimately our 
domestic tranquility and national security. 

If, for example, as shown in figure 2, it is assumed that recent tax 
reductions are made permanent and discretionary spending keeps pace 
with the growth of our economy, our long-term simulations suggest that 
by 2040 federal revenues may be adequate to pay little more than 
interest on debt held by the public and some Social Security benefits. 
Neither slowing the growth in discretionary spending nor allowing the 
tax provisions, including the tax cuts enacted in 2001 and 2003, to 
expire--nor both together--would eliminate the imbalance. As figures 1 
and 2 illustrate, regardless of the assumptions used, the problem is 
too big to be solved by economic growth alone. 

Figure 2: Potential Fiscal Outcomes under Alternative Simulation: 
Discretionary Spending Grows with GDP after 2007 and All Expiring Tax 
Provisions Are Extended: 

[See PDF for image] 

Source: GAO's January 2007 analysis. 

Note: Alternative Minimum Tax (AMT) exemption amount is retained at the 
2006 level through 2017 and expiring tax provisions are extended. After 
2017, revenue as a share of GDP is held constant--implicitly assuming 
that action is taken to offset increased revenue from real bracket 
creep, the AMT, and tax-deferred retirement accounts. 

[End of figure] 

At some point, action will need to be taken to change the nation's 
fiscal course. The sooner appropriate actions are taken, the sooner the 
miracle of compounding will begin to work for the federal budget rather 
than against it. Conversely, the longer that action to deal with the 
nation's long-term fiscal outlook is delayed, the greater the risk that 
the eventual changes will be disruptive and destabilizing. Acting 
sooner rather than later will give us more time to phase in gradual 
changes, while also providing more time for those likely to be most 
affected to make compensatory changes. 

The "fiscal gap" is a quantitative measure of long-term fiscal 
imbalance. Under GAO's more realistic simulation, assuming debt held by 
the public remains at the current share of the economy (i.e., GDP), 
closing the fiscal gap would require spending cuts or tax increases 
equal to 8 percent of the entire economy each year over the next 75 
years, or a total of about $61 trillion in present value terms. To put 
this in perspective, closing the gap would require an immediate and 
permanent increase in federal tax revenues of more than 40 percent or 
an equivalent reduction in federal program spending (i.e., in all 
spending except for interest on the debt held by the public, which 
cannot be directly controlled). 

A Possible Way Forward: 

Although the long-term fiscal outlook is driven primarily by rising 
health care costs and known demographics, we cannot ignore other 
government programs and activities. There is a need to engage in a 
fundamental review, reprioritization, and reengineering of the base of 
government. Aligning the federal government to meet the challenges and 
capitalize on the opportunities of the 21st century will require a 
fundamental review of what the federal government does, how it does it, 
and how it is financed. Many of the federal government's current 
policies, programs, functions, and activities are based on conditions 
that existed decades ago, are not results-based, and are not well 
aligned with 21st century realities. We need to address the growing 
costs of the major entitlement programs and also review and reexamine 
all other major programs, policies, and activities on both the spending 
and the revenue side of the budget. Programs that run through the tax 
code--sometimes referred to as tax expenditures[Footnote 5]--must be 
reexamined along with those that run through the spending side. As we 
move forward, the federal government needs to start making tough 
choices in setting priorities and linking resources and activities to 
results. I recently provided all members of the new Congress with a 
package of materials to help them understand facts regarding the long- 
term fiscal imbalance of the federal government, why we should act 
sooner rather than later, and what types of changes need to be 
considered.[Footnote 6] 

Meeting our nation's large, growing, and structural fiscal imbalance 
will require a multipronged approach: 

* increasing transparency and enhancing the relevancy of key financial, 
performance, and budget reporting and estimates to highlight our long- 
term fiscal challenges; 

* reinstituting and strengthening budget controls for both spending and 
tax policies to deal with both near-term and longer-term deficits; 

* strengthening oversight of programs and activities, including 
creating approaches to better facilitate the discussion of integrated 
solutions to crosscutting issues; and: 

* reengineering and reprioritizing the federal government's existing 
programs, policies, and activities to address 21st century challenges 
and capitalize on related opportunities. 

In two of my January 2007 testimonies,[Footnote 7] I proposed a number 
of ideas for consideration to improve the transparency of long-term 
costs, including supplemental reporting in the President's budget 
submission and additional cost information on proposals before 
adoption. In November 2006, I provided the congressional leadership 
with recommendations, based on the work of GAO, for consideration for 
the agenda of the 110th Congress.[Footnote 8] These recommendations 
focused on three areas: (1) targets for near-term oversight, (2) 
policies and programs that are in need of fundamental reform and 
reengineering, and (3) governance issues. One of the areas I pointed 
out that warranted congressional attention was the development of a 
portfolio of outcome-based key national indicators (e.g., economic, 
security, social, environmental) to help measure progress toward 
national outcomes, assess conditions and trends, and help communicate 
complex issues. The Congress could take a leadership role in 
highlighting the need for a U.S. national indicator system to inform 
strategic planning, enhance performance and accountability reporting, 
inform congressional oversight and decision making, and stimulate 
greater citizen engagement. In my view, this should include 
consideration of a public/private partnership to help make this key 
concept a reality sooner rather than later. 

In order to effectively address our long-term fiscal imbalance, 
fundamental reform of existing entitlement programs is essential. 
However, entitlement reform alone will not get the job done. We also 
need to reprioritize and constrain other federal government spending 
and generate more revenues--hopefully through a reformed tax system. 
GAO's 21st Century Challenges: Reexamining the Base of the Federal 
Government[Footnote 9] contains a suggested list of specific federal 
activities for reexamination, illustrative reexamination questions, and 
perspectives on various strategies, processes, and approaches for 
congressional consideration stemming from our audit and evaluation work 
that can be used in reexamining the federal base. Answers to these 
questions may draw on the work of GAO and others; however, only elected 
officials can and should decide which issues to address as well as how 
and when to address them. Addressing these problems will require tough 
choices, and our fiscal clock is ticking. As a result, the time to 
start is now, to help save our future. 

Restatements to Financial Statements: 

The federal government restated certain of its fiscal year 2005 
consolidated financial statements to correct errors.[Footnote 10] 
Restatements relating to property, plant, and equipment resulted from 
misstatements by the Department of Defense, which had received a 
disclaimer on its originally issued as well as its restated fiscal year 
2005 financial statements.[Footnote 11] Certain other restatements that 
were made to the consolidated financial statements related to errors 
that occurred during the preparation of the fiscal year 2005 
Reconciliation of Net Operating Cost and Unified Budget Deficit. 

Since fiscal year 2004, we have reported our concerns about 
restatements to federal agencies' previously issued financial 
statements. During fiscal year 2005, we reviewed the causes and nature 
of the restatements made by nine CFO act agencies in fiscal year 2004 
to their fiscal year 2003 financial statements. Between 2005 and 2006 
we issued reports covering five of these nine CFO act agencies that 
included recommendations for improvements in internal controls and 
procedures to prevent or detect future similar errors.[Footnote 12] In 
October 2006, we issued a capping report to the Office of Management 
and Budget (OMB), which communicated our observations on the 
transparency and timeliness of the nine federal agencies and their 
auditor's restatement disclosures.[Footnote 13] The primary 
contributing factor for the restatement disclosure issues that we 
identified was insufficient guidance available at the time to both the 
agencies' management and their respective auditors for disclosure of 
the restatements and the timeliness of such disclosures. In August 
2005, OMB revised Circular No. A-136, Financial Reporting Requirements, 
which provides additional guidance to federal agencies' management 
regarding disclosure of restatements to previously issued financial 
statements. Revisions made to OMB Circular No. A-136 address many of 
our concerns regarding the agencies' disclosure of restatements. In 
addition, in August 2006, OMB issued Bulletin No. 06-03, Audit 
Requirements for Federal Financial Statements, which provides some 
information regarding reporting on restatements. However, we believe 
that OMB needs to timely provide additional, though complementary, 
restatement guidance. As such, our October 2006 report contained 
recommendations to OMB to further improve the restatement guidance 
available to agencies' management and the agencies' respective 
auditors. In addition, the January 2007 revision of generally accepted 
government auditing standards (GAGAS) includes a section on reporting 
on restatement of previously issued financial statements.[Footnote 14] 

Frequent restatements to correct errors can undermine public trust and 
confidence in both the entity and all responsible parties. Material 
internal control weaknesses discussed in our fiscal year 2006 audit 
report serve to increase the risk that additional errors may occur and 
not be identified on a timely basis by agency management or their 
auditors, resulting in further restatements. 

Highlights of Major Issues Related to the U.S. Government's 
Consolidated Financial Statements for Fiscal Years 2006 and 2005: 

As has been the case for the previous nine fiscal years, the federal 
government did not maintain adequate systems or have sufficient, 
reliable evidence to support certain material information reported in 
the U.S. government's consolidated financial statements. The underlying 
material weaknesses in internal control, which generally have existed 
for years, contributed to our disclaimer of opinion on the U.S. 
government's consolidated financial statements for the fiscal years 
ended September 30, 2006, and 2005.[Footnote 15] 

Appendix I describes the material weaknesses that contributed to our 
disclaimer of opinion in more detail and highlights the primary effects 
of these material weaknesses on the consolidated financial statements 
and on the management of federal government operations. The material 
weaknesses that contributed to our disclaimer of opinion were the 
federal government's inability to: 

* satisfactorily determine that property, plant, and equipment and 
inventories and related property, primarily held by the Department of 
Defense (DOD), were properly reported in the consolidated financial 
statements; 

* reasonably estimate or adequately support amounts reported for 
certain liabilities, such as environmental and disposal liabilities, or 
determine whether commitments and contingencies were complete and 
properly reported; 

* support significant portions of the total net cost of operations, 
most notably related to DOD, and adequately reconcile disbursement 
activity at certain agencies; 

* adequately account for and reconcile intragovernmental activity and 
balances between federal agencies; 

* ensure that the federal government's consolidated financial 
statements were (1) consistent with the underlying audited agency 
financial statements, (2) balanced, and (3) in conformity with GAAP; 
and: 

* identify and either resolve or explain material differences that 
exist between certain components of the budget deficit reported in 
Treasury's records, used to prepare the Reconciliation of Net Operating 
Cost and Unified Budget Deficit and Statement of Changes in Cash 
Balance from Unified Budget and Other Activities, and related amounts 
reported in federal agencies' financial statements and underlying 
financial information and records. 

Due to the material weaknesses and the additional limitations on the 
scope of our work, as discussed in our audit report, there may also be 
additional issues that could affect the consolidated financial 
statements that have not been identified. 

In addition to the material weaknesses that contributed to our 
disclaimer of opinion, which were discussed above, we found the 
following four other material weaknesses in internal control as of 
September 30, 2006. These weaknesses are discussed in more detail in 
appendix II, including the primary effects of the material weaknesses 
on the consolidated financial statements and on the management of 
federal government operations. These other material weaknesses were the 
federal government's inability to: 

* implement effective credit reform estimation and related financial 
reporting processes, 

* determine the full extent to which improper payments exist, 

* identify and resolve information security control weaknesses and 
manage information security risks on an ongoing basis, and: 

* effectively manage its tax collection activities. 

Individual federal agency financial statement audit reports identify 
additional reportable conditions[Footnote 16] in internal control, some 
of which were reported by agency auditors as being material weaknesses 
at the individual agency level. These additional reportable conditions 
do not represent material weaknesses at the governmentwide level. 
Regarding agencies' internal controls, in December 2004, OMB revised 
its Circular No. A-123, Management's Responsibility for Internal 
Control, to provide guidance to federal managers on improving the 
accountability and effectiveness of federal programs and operations by 
establishing, assessing, correcting, and reporting on management 
controls. Requiring federal managers, at the executive level, to focus 
on internal control demonstrates a renewed emphasis on identifying and 
addressing internal control weaknesses. 

OMB recognized that due to the complexity of some agencies, 
implementation of these new requirements may span more than 1 year. 
Accordingly, certain agencies have adopted multiyear implementation 
plans. OMB stated that it will continue to work with the Chief 
Financial Officers Council to identify potential areas for additional 
guidance and share agencies' best practices. It will be important that 
OMB monitor and oversee federal agencies' implementation of these new 
requirements. 

System Problems at Agencies Continue to Hinder Accountability: 

For fiscal year 2006, 18 of 24 CFO Act agencies were able to attain 
unqualified opinions on their financial statements by the November 15, 
2006, reporting deadline established by OMB (see app. III). The 
independent auditor of the Department of State subsequently withdrew 
its disclaimer of opinion on the department's fiscal year 2006 
financial statements and reissued an unqualified opinion on such 
financial statements dated December 12, 2006. As a result, 19 CFO Act 
agencies received unqualified opinions on their fiscal year 2006 
financial statements. However, irrespective of these unqualified 
opinions, many agencies do not have timely, reliable, and useful 
financial information and effective controls with which to make 
informed decisions and ensure accountability on an ongoing basis. The 
ability to produce the data needed for efficient and effective 
management of day-to-day operations in the federal government and 
provide the necessary accountability to taxpayers and the Congress has 
been a long-standing challenge at most federal agencies. 

The results of the fiscal year 2006 assessments performed by agency 
inspectors general or their contract auditors under the Federal 
Financial Management Improvement Act of 1996 (FFMIA) show that serious 
problems continue to affect financial management systems at most of the 
24 CFO Act agencies. These problems include nonintegrated financial 
systems, lack of accurate and timely recording of data, inadequate 
reconciliation procedures, noncompliance with accounting standards and 
the U.S. Government Standard General Ledger (SGL), and weak security 
over information systems. While the problems are much more severe at 
some agencies than at others, the nature and severity of the problems 
indicate that overall, management at most CFO Act agencies lacks the 
complete range of information needed for accountability, decision 
making, and performance reporting. 

Under FFMIA, as a part of the CFO Act agencies' financial statement 
audits, CFO Act agency auditors are required to report whether 
agencies' financial management systems substantially comply with (1) 
federal financial management systems requirements, (2) applicable 
federal accounting standards, and (3) the SGL at the transaction level. 
These factors are critical for improving accountability over government 
operations and routinely producing sound cost and operating performance 
information. Noncompliance with federal financial management systems 
requirements was the deficiency most frequently reported by auditors. 
These deficiencies involved not only core financial systems, but also 
administrative and programmatic systems. 

The ability of federal financial management systems to substantially 
address FFMIA requirements has not advanced at the same pace as 
obtaining unqualified opinions on agency financial statements. As shown 
in figure 3, in fiscal year 2006, auditors for 17 of the 24 CFO Act 
agencies reported that the agencies' financial management systems did 
not substantially comply with one or more of FFMIA's three requirements 
compared to auditors for 20 of the 24 CFO Act agencies in fiscal year 
1997. 

Figure 3: Auditors' FFMIA Assessments for Fiscal Years 1997 through 
2006: 

[See PDF for image] 

Source: Independent auditors' reports for fiscal years 1997 through 
2006 prepared by agency inspectors general and contract auditors. 

Note: Data come from independent auditors' reports for fiscal years 
1997 through 2006 prepared by agency inspectors general and contract 
auditors. 

[End of figure] 

For 6 of the 7 CFO Act agencies whose auditors did not report 
substantial noncompliance with FFMIA requirements for fiscal year 2006, 
auditors provided negative assurance, meaning that nothing came to 
their attention indicating that the agencies' financial management 
systems did not substantially fulfill FFMIA requirements. The auditors 
for these 6 agencies[Footnote 17] did not definitively state whether 
the agencies' systems substantially complied with FFMIA requirements, 
as is required under the statute. In contrast, auditors for the Agency 
for International Development (AID) provided positive assurance by 
stating that the agency's financial management systems substantially 
complied with the requirements of FFMIA. AID's auditors had not 
reported AID's financial management systems as substantially compliant 
in prior years. Further, auditors for GSA cited actions taken to 
address financial reporting controls and provided negative assurance on 
FFMIA in fiscal year 2006; whereas, in fiscal year 2005 they had 
reported the agency's systems as not compliant. Conversely, auditors 
for the Department of Labor (Labor) reported that the agencies' 
financial management systems did not substantially comply with FFMIA 
requirements in fiscal year 2006 due to newly identified weaknesses in 
Labor's information security controls. The auditors had not reported 
any FFMIA compliance issues at the agency in fiscal years 2004 and 
2005. 

In an effort to address FFMIA-related problems such as nonintegrated 
systems, inadequate reconciliations, and lack of compliance with the 
SGL, a number of agencies have efforts underway to implement new 
financial management systems or to upgrade existing systems. Agencies 
expect that the new systems will provide reliable, useful, and timely 
data to support managerial decision making, help provide accountability 
to taxpayers, and assist in congressional oversight. Whether in 
government or the private sector, implementing and upgrading systems is 
a resource-consuming and difficult job that brings a degree of risk. 
Organizations that follow and effectively implement accepted best 
practices in systems development and implementation (commonly referred 
to as disciplined processes) can manage and reduce these risks to 
acceptable levels. The failure to do so can have serious repercussions. 
For example, auditors at the Department of Energy (Energy) and the 
National Aeronautical and Space Administration (NASA) have reported 
many issues related to the implementation of new financial management 
systems at those agencies. NASA has received disclaimers of opinion on 
their financial statements since implementing their new system in 
fiscal year 2003. While management at both agencies are taking actions 
to address the problems resulting from the systems implementation, more 
work is needed to meet FFMIA requirements and obtain an unqualified 
opinion on their financial statements. 

The financial management line of business is OMB's initiative to help 
address the need to reduce the cost and improve the outcome of federal 
financial systems implementations. This initiative promotes leveraging 
of shared service solutions to enhance the government's performance and 
services. OMB has projects under way to develop standard business 
processes, a common governmentwide accounting structure, and specific 
measures to assess the performance of shared service providers to help 
provide a foundation for the financial management line of business 
initiative. Because the federal government is one of the largest, most 
complex organizations in the world, operating, maintaining, and 
modernizing its financial management systems represents a monumental 
challenge--from both cost and technical perspectives. As pressure 
mounts to increase accountability, and efforts to diminish federal 
spending intensify, sustained and committed leadership will be a key 
factor in the successful implementation of governmentwide initiatives. 

Addressing Major Impediments to an Opinion on the Consolidated 
Financial Statements: 

Three major impediments to our ability to render an opinion on the U.S. 
government's consolidated financial statements continued to be: (1) 
serious financial management problems at DOD, (2) the federal 
government's inability to adequately account for and reconcile 
intragovernmental activity and balances between federal agencies, and 
(3) the federal government's ineffective process for preparing the 
consolidated financial statements. Extensive efforts by DOD officials 
and cooperative efforts between agency chief financial officers, 
inspectors general, Treasury officials, and OMB officials will be 
needed to resolve these serious obstacles to achieving an opinion on 
the U.S. government's consolidated financial statements. 

Financial Management at DOD: 

Essential to further improving financial management governmentwide and 
ultimately to achieving an opinion on the U.S. government's 
consolidated financial statements is the resolution of serious 
weaknesses in DOD's business operations. DOD is one of the largest and 
most complex organizations in the world. For decades, we have reported 
on the lack of efficiency and effectiveness in DOD's business 
operations, including financial management, and the effect these 
deficiencies have had on the department's, and the government's, 
ability to oversee, manage, and report on its operations. DOD's 
financial management weaknesses are pervasive, complex, long-standing, 
and deeply rooted in virtually all its business operations. Execution 
of DOD's business operations spans a wide range of defense 
organizations, including the military services and their respective 
major commands and functional activities, numerous large defense 
agencies and field activities, and various combatant and joint 
operational commands that are responsible for military operations for 
specific geographic regions or theaters of operations. The nature and 
severity of DOD's business operations and system deficiencies not only 
affect financial reporting, but also impede the ability of DOD managers 
to receive and utilize the full range of information needed to 
effectively manage day-to-day operations. Such weaknesses adversely 
affect DOD's (and the government's) ability to control costs; ensure 
basic accountability; anticipate future costs and claims on the budget; 
measure performance; maintain funds control; prevent fraud, waste, and 
abuse; and address pressing management issues, including supporting 
warfighters and their families. To date, none of the military services 
or major DOD components has passed the test of an independent financial 
audit[Footnote 18] because of pervasive weaknesses in business 
management processes, controls, and systems. Moreover, of the 27 areas 
on GAO's high-risk list, DOD has 8 of its own high-risk areas and 
shares responsibility for 7 governmentwide high-risk areas.[Footnote 
19] 

Effective oversight, reporting, and decision making depends upon 
information that is timely, reliable, and useful. DOD has 
transformation efforts underway to improve its business management 
processes, control, and systems. These efforts will take many years to 
complete and represent a huge challenge to the department since 
improvements must be made while continuing to support ongoing 
operations and activities. While the department is making progress in 
developing and implementing approaches to better understand and address 
weaknesses in its business operations, more remains to be done. 

On March 1, 2006, I testified[Footnote 20] that DOD had issued a third 
key component of its business transformation strategy: the Financial 
Improvement and Audit Readiness (FIAR) Plan.[Footnote 21] According to 
DOD, the FIAR Plan, which was issued in December 2005 and updated in 
June and September of 2006, is intended to provide DOD components with 
a construct for resolving problems affecting the accuracy, reliability, 
and timeliness of financial information, and obtaining clean financial 
statement audit opinions. In addition, the FIAR Plan outlines the 
business rules and oversight structure DOD has established to guide 
financial improvement activities and audit preparation efforts. 
According to DOD, its June and September 2006 FIAR Plan updates were 
largely intended to refine previous versions of the plan by (1) 
identifying milestones that must be met for assertions regarding the 
reliability of reported financial statement information to occur on 
time, (2) improving consistency between components regarding their 
corrective actions and milestones, and (3) expanding on earlier 
descriptions of how the FIAR Plan will be integrated with the 
Enterprise Transition Plan. We have reported and made numerous 
recommendations to DOD regarding DOD's efforts to develop and implement 
its Business Enterprise Architecture and Transition Plan and obtain 
favorable audit opinions. In addition, we have reviewed the FIAR Plan 
and related updates, and discussed them with DOD and OMB. However, we 
cannot comment on specific focus areas or milestones identified in the 
FIAR Plan because we have not seen any of the underlying component or 
other subordinate plans upon which the FIAR Plan is based. 

DOD has taken important steps toward developing key components of its 
business transformation strategy. However, we continue to stress that 
while the reliability of reported financial statement information is 
important, the effectiveness of DOD's FIAR Plan in addressing the 
department's financial management deficiencies will ultimately be 
measured by the department's ability to provide timely, reliable, and 
useful information for day-to-day management and decision making. 
Furthermore, the department continues to lack a comprehensive, 
enterprisewide approach to planning and decision making and the 
sustained leadership needed to ensure successful transformation and 
address systemic business challenges. More specifically, DOD has not 
yet developed a plan that covers all key business functions, and 
contains results-oriented goals, measures, and expectations that link 
organizational and individual performance goals, while also being 
clearly linked to DOD's overall investment plans. Furthermore, as we 
previously testified, because of the complexity and long-term nature of 
business transformation, we continue to believe that DOD needs a Chief 
Management Official (CMO) with significant authority, experience, and 
tenure to provide sustained leadership and integrate DOD's overall 
business transformation efforts. The National Defense Authorization Act 
for Fiscal Year 2006[Footnote 22] directs the department to study the 
feasibility of a CMO position in DOD. In this regard, the Institute for 
Defense Analysis issued its report in December 2006 and, among other 
things, called upon the Congress to establish a Deputy CMO (executive 
level III official) at the department. Further, in May 2006, the 
Defense Business Board recommended, among other things, the creation of 
a Principal Under Secretary of Defense, as a level II official with a 5-
year term appointment, to serve as CMO. I strongly support an executive 
level II official and believe that someone at this level is needed to 
be successful given the magnitude of the challenge and the need to 
effect change across the department. It is important to note that a CMO 
would not assume the responsibilities of the undersecretaries of 
defense, the service secretaries, or other DOD officials for the day-to-
day management of the department. Rather, the CMO would be responsible 
and accountable for planning, integrating, and executing the overall 
business transformation effort. The reason I am so passionate about the 
need for a CMO at DOD is that progress at DOD has historically been 
painfully slow. A host of well-intended past improvement initiatives 
have largely failed. I am concerned that without a CMO who is 
responsible and accountable for demonstrable results and sustained 
success, history will continue to repeat itself. 

We will continue to monitor DOD's efforts to transform its business 
operations and address its financial management deficiencies as part of 
our continuing DOD business enterprise architecture work and our 
oversight of DOD's financial statement audit. 

Intragovernmental Activity and Balances: 

Federal agencies are unable to adequately account for and reconcile 
intragovernmental activity and balances. OMB and Treasury require the 
CFOs of 35 executive departments and agencies to reconcile, on a 
quarterly basis, selected intragovernmental activity and balances with 
their trading partners.[Footnote 23] In addition, these agencies are 
required to report to Treasury, the agency's inspector general, and GAO 
on the extent and results of intragovernmental activity and balances 
reconciliation efforts as of the end of the fiscal year. 

A substantial number of the CFO Act agencies did not adequately perform 
the required reconciliations for fiscal years 2006 and 2005. For these 
fiscal years, based on trading partner information provided in the 
Governmentwide Financial Reporting System (GFRS) discussed below, 
Treasury produced a "Material Difference Report" for each agency 
showing amounts for certain intragovernmental activity and balances 
that significantly differed from those of its corresponding trading 
partners as of the end of the fiscal year. After analysis of the 
"Material Difference Reports" for fiscal year 2006, we noted that a 
significant number of CFOs were unable to adequately explain the 
differences with their trading partners or did not provide adequate 
documentation to support responses on the CFO Representations. For both 
fiscal years 2006 and 2005, amounts reported by federal agency trading 
partners for certain intragovernmental accounts were significantly out 
of balance. In addition, for fiscal year 2006, about 31 percent of the 
significant agencies identified by Treasury and OMB did not perform the 
required audit procedures on their intragovernmental trading partner 
data included in the footnotes to their closing packages.[Footnote 24] 
As a result of the above, the federal government's ability to determine 
the effect of these differences on the amounts reported in the 
consolidated financial statements is significantly impaired. 

To help address this longstanding problem, on November 13, 2006, OMB 
issued Memorandum No. M-07-03, Business Rules for Intragovernmental 
Transactions, which has also been incorporated in the Treasury 
Financial Manual.[Footnote 25] The OMB memorandum added criteria for 
resolving intragovernmental disputes and major differences between 
trading partners for certain intragovernmental transactions by creating 
the Chief Financial Officers Council's Intragovernmental Dispute 
Resolution Committee.[Footnote 26] Resolving the intragovernmental 
transactions problem remains a difficult challenge and will require a 
strong commitment by federal agencies to fully implement the recently 
issued business rules, and continued strong leadership by OMB. 

Preparing the Consolidated Financial Statements: 

While further progress was demonstrated in fiscal year 2006, the 
federal government continued to have inadequate systems, controls, and 
procedures to ensure that the consolidated financial statements are 
consistent with the underlying audited agency financial statements, 
balanced, and in conformity with GAAP. For fiscal year 2006, Treasury 
showed progress by demonstrating that amounts in the Statement of 
Social Insurance were consistent with the underlying federal agencies' 
audited financial statements and that the Balance Sheet and Statement 
of Net Cost were consistent with federal agencies' audited financial 
statements prior to eliminating intragovernmental activity and 
balances. However, Treasury's process for compiling the consolidated 
financial statements did not ensure that the information in the 
remaining three principal financial statements and notes were fully 
consistent with the underlying information in federal agencies' audited 
financial statements and other financial data. During fiscal year 2006, 
Treasury, in coordination with OMB, developed and began implementing 
corrective action plans and milestones for short-term and long-range 
solutions for certain internal control weaknesses we have previously 
reported regarding the process for preparing the consolidated financial 
statements. Resolving some of these internal control weaknesses will be 
a difficult challenge and will require a strong commitment from 
Treasury and OMB as they execute and implement their corrective action 
plans. 

The Need for an Improved Federal Financial Reporting Model: 

The Financial Report of the United States Government provides useful 
information on the government's financial position at the end of the 
fiscal year and changes that have occurred over the course of the year. 
However, in evaluating the nation's fiscal condition, it is critical to 
look beyond the short-term results and consider the overall long-term 
financial condition and long-term fiscal imbalance of the government-- 
that is, the sustainability of the federal government's programs, 
commitments, and responsibilities in relation to the resources expected 
to be available. More important than the government's $450 billion net 
operating cost for the year ended September 30, 2006, fiscal 
simulations by GAO and others show that over the long-term, we face 
large and growing structural deficits due primarily to Medicare and 
other social insurance commitments. 

As I have testified before, the current financial reporting model does 
not clearly, comprehensively and transparently show the wide range of 
responsibilities, programs, and activities that may either obligate the 
federal government to future spending or create an expectation for such 
spending. Thus, it provides a potentially unrealistic and misleading 
picture of the federal government's overall performance, financial 
condition, and future fiscal outlook. 

After a decade of reporting at the governmentwide level perhaps now is 
an appropriate time to step back and consider the need for further 
revisions to the current federal financial reporting model, which would 
affect both consolidated and agency financial reporting. While the 
current reporting model recognizes some of the unique needs of the 
federal government, a broad reconsideration of the federal financial 
reporting model could address the following types of questions: 

* What kind of information is most relevant and useful for a sovereign 
nation? 

* Do traditional financial statements convey information in a 
transparent manner? 

* What is the role of the balance sheet in the federal government 
reporting model? 

* How should items that are unique to the federal government, such as 
social insurance commitments and the power to tax, be reported? 

Engaging in a reevaluation of this nature could stimulate discussion 
that would bring about a new way of thinking about the federal 
government's financial and performance reporting needs. To understand 
various perceptions and needs of the stakeholders for federal financial 
reporting, a wide variety of stakeholders from the public and private 
sector should be consulted. Ultimately, the goal of such a reevaluation 
would be reporting enhancements that can help the Congress deliberate 
strategies to address the federal government's challenges, including 
those of our growing long-term fiscal imbalance. 

More specifically, we continue to support several specific improvements 
to federal financial reporting. For example, the federal government's 
financial reporting should be expanded to disclose the reasons for 
significant changes during the year in scheduled social insurance 
benefits and funding. It should also include a Statement of Fiscal 
Sustainability--providing a long-term look at the sustainability of 
current federal fiscal policy in the context of all major federal 
spending programs and tax policies. The reporting on fiscal 
sustainability should include additional information that will assist 
in understanding the sustainability of current social insurance and 
other federal programs, including key measures of fiscal sustainability 
and intergenerational equity,[Footnote 27] projected annual cash flows, 
and changes in fiscal sustainability during the reporting period. We 
believe that such reporting needs to reflect the significant 
commitments associated with the Social Security and Medicare programs 
while recognizing a liability for the net assets (principally 
investments in special U.S. Treasury securities) of the "trust funds." 
Other areas to consider might include the reporting of key outcome- 
based performance information. We support the current efforts of the 
Federal Accounting Standards Advisory Board (FASAB) to begin a project 
on fiscal sustainability reporting. In addition, an easily 
understandable summary annual report should be prepared and published 
that includes in a clear, concise, and transparent manner, key 
financial and performance information embodied in the Financial Report. 

Closing Comments: 

In closing, given the federal government's current financial condition 
and growing long-term fiscal imbalance, the need for the Congress and 
the President to have timely, reliable, and useful financial and 
performance information is greater than ever. Sound decisions on the 
current results and future direction of vital federal government 
programs and policies are more difficult without such information. 
Until the problems discussed in this testimony are effectively 
addressed, they will continue to have adverse implications for the 
federal government and the taxpayers. 

Addressing the nation's long-term fiscal imbalance constitutes a major 
transformational challenge that may take a generation or more to 
resolve. Given the size of the projected deficit, the U.S. government 
will not be able to grow its way out of this problem--tough choices 
will be required. 

Across government, financial management improvement initiatives are 
underway, and if effectively implemented, have the potential to greatly 
improve the quality of financial management information as well as the 
efficiency and effectiveness of agency operations. By the end of my 
term as Comptroller General, I would like to see the civilian CFO Act 
agencies routinely producing not only annual financial statements that 
can pass the scrutiny of a financial audit, but also quarterly 
financial statements and other meaningful financial and performance 
data to help guide decision makers on a day-to-day basis. For DOD, my 
expectations are not as high given the current status of DOD's 
financial management practices, yet it is realistic for at least major 
portions of DOD's financial information to become auditable by the end 
of my term. Moreover, progress on developing meaningful financial and 
performance reporting on the federal government will be a key area that 
I will continue to champion. I am determined to do whatever I can to 
help ensure that we are not the first generation to leave our children 
and grandchildren a legacy of failed fiscal stewardship and the 
hardships that would bring. 

Finally, I want to emphasize the value of sustained congressional 
interest in these issues, as demonstrated by this subcommittee's 
leadership. It will be key that, going forward, the appropriations, 
budget, authorizing, and oversight committees hold agency top 
leadership accountable for resolving the remaining problems and that 
they support improvement efforts. 

Mr. Chairman, this concludes my prepared statement. I would be pleased 
to respond to any questions that you or other members of the 
subcommittee may have at this time. 

GAO Contacts and Acknowledgments: 

For further information regarding this testimony, please contact 
Jeffrey C. Steinhoff, Managing Director; Gary T. Engel, Director; and 
Paula Rascona, Acting Director; Financial Management and Assurance, at 
(202) 512-2600. Key contributions to this testimony were also made by 
staff on the Consolidated Financial Statement audit team. 

[End of section] 

Appendix I: Material Weaknesses Contributing to Our Disclaimer of 
Opinion: 

The continuing material weaknesses discussed below contributed to our 
disclaimer of opinion on the federal government's consolidated 
financial statements. The federal government did not maintain adequate 
systems or have sufficient, reliable evidence to support information 
reported in the consolidated financial statements, as described below. 

Property, Plant, and Equipment and Inventories and Related Property: 

The federal government could not satisfactorily determine that 
property, plant, and equipment (PP&E) and inventories and related 
property were properly reported in the consolidated financial 
statements. Most of the PP&E and inventories and related property are 
the responsibility of the Department of Defense (DOD). As in past 
years, DOD did not maintain adequate systems or have sufficient records 
to provide reliable information on these assets. Other agencies, most 
notably the National Aeronautics and Space Administration, reported 
continued weaknesses in internal control procedures and processes 
related to PP&E. 

Without reliable asset information, the federal government does not 
fully know the assets it owns and their location and condition and 
cannot effectively (1) safeguard assets from physical deterioration, 
theft, or loss; (2) account for acquisitions and disposals of such 
assets; (3) ensure that the assets are available for use when needed; 
(4) prevent unnecessary storage and maintenance costs, or purchase of 
assets already on hand; and (5) determine the full costs of programs 
that use these assets. 

Liabilities and Commitments and Contingencies: 

The federal government could not reasonably estimate or adequately 
support amounts reported for certain liabilities. For example, DOD was 
not able to estimate with assurance key components of its environmental 
and disposal liabilities. In addition, DOD could not support a 
significant amount of its estimated military postretirement health 
benefits liabilities included in federal employee and veteran benefits 
payable. These unsupported amounts related to the cost of direct health 
care provided by DOD-managed military treatment facilities. Further, 
the federal government could not determine whether commitments and 
contingencies, including those related to treaties and other 
international agreements entered into to further the U.S. government's 
interests, were complete and properly reported. 

Problems in accounting for liabilities affect the determination of the 
full cost of the federal government's current operations and the extent 
of its liabilities. Also, improperly stated environmental and disposal 
liabilities and weak internal control supporting the process for their 
estimation affect the federal government's ability to determine 
priorities for cleanup and disposal activities and to appropriately 
consider future budgetary resources needed to carry out these 
activities. In addition, when disclosures of commitments and 
contingencies are incomplete or incorrect, reliable information is not 
available about the extent of the federal government's obligations. 

Cost of Government Operations and Disbursement Activity: 

The previously discussed material weaknesses in reporting assets and 
liabilities, material weaknesses in financial statement preparation, as 
discussed below, and the lack of adequate disbursement reconciliations 
at certain federal agencies affect reported net costs. As a result, the 
federal government was unable to support significant portions of the 
total net cost of operations, most notably related to DOD. 

With respect to disbursements, DOD and certain other federal agencies 
reported continued weaknesses in reconciling disbursement activity. For 
fiscal years 2006 and 2005, there was unreconciled disbursement 
activity, including unreconciled differences between federal agencies' 
and the Department of the Treasury's (Treasury) records of 
disbursements and unsupported federal agency adjustments, totaling 
billions of dollars, which could also affect the balance sheet. 

Unreliable cost information affects the federal government's ability to 
control and reduce costs, assess performance, evaluate programs, and 
set fees to recover costs where required. Improperly recorded 
disbursements could result in misstatements in the financial statements 
and in certain data provided by federal agencies for inclusion in The 
Budget of the United States Government concerning obligations and 
outlays. 

Accounting for and Reconciliation of Intragovernmental Activity and 
Balances: 

Federal agencies are unable to adequately account for and reconcile 
intragovernmental activity and balances. The Office of Management and 
Budget (OMB) and Treasury require the chief financial officers (CFO) of 
35 executive departments and agencies to reconcile, on a quarterly 
basis, selected intragovernmental activity and balances with their 
trading partners. In addition, these agencies are required to report to 
Treasury, the agency's inspector general, and GAO on the extent and 
results of intragovernmental activity and balances reconciliation 
efforts as of the end of the fiscal year. 

A substantial number of the agencies did not adequately perform the 
required reconciliations for fiscal years 2006 and 2005. For these 
fiscal years, based on trading partner information provided in the 
Governmentwide Financial Report System (GFRS), Treasury produced a 
"Material Difference Report" for each agency showing amounts for 
certain intragovernmental activity and balances that significantly 
differed from those of its corresponding trading partners as of the end 
of the fiscal year. After analysis of the Material Difference Reports 
for fiscal year 2006, we noted that a significant number of CFOs were 
unable to adequately explain the differences with their trading 
partners or did not provide adequate documentation to support responses 
on the CFO Representations. For both fiscal years 2006 and 2005, 
amounts reported by federal agency trading partners for certain 
intragovernmental accounts were significantly out of balance. In 
addition, for fiscal year 2006, about 31 percent of the significant 
agencies identified by Treasury and OMB did not perform the required 
audit procedures on their intragovernmental trading partner data 
included in the footnotes to their closing packages.[Footnote 28] As a 
result of the above, the federal government's ability to determine the 
impact of these differences on the amounts reported in the consolidated 
financial statements is significantly impaired. 

Preparation of Consolidated Financial Statements: 

While further progress was demonstrated in fiscal year 2006, the 
federal government continued to have inadequate systems, controls, and 
procedures to ensure that the consolidated financial statements are 
consistent with the underlying audited agency financial statements, 
balanced, and in conformity with U.S. generally accepted accounting 
principles (GAAP). In addition, as discussed in our scope limitation 
section of our audit report, Treasury could not provide the final 
fiscal year 2006 consolidated financial statements and supporting 
documentation in time for us to complete all of our planned auditing 
procedures. During our fiscal year 2006 audit, we found the 
following:[Footnote 29] 

* Treasury showed progress by demonstrating that amounts in the 
Statement of Social Insurance were consistent with the underlying 
federal agencies' audited financial statements and that the Balance 
Sheet and the Statement of Net Cost were consistent with federal 
agencies' financial statements prior to eliminating intragovernmental 
activity and balances. However, Treasury's process for compiling the 
consolidated financial statements did not ensure that the information 
in the remaining three principal financial statements and notes were 
fully consistent with the underlying information in federal agencies' 
audited financial statements and other financial data. 

* To make the fiscal years 2006 and 2005 consolidated financial 
statements balance, Treasury recorded net decreases of $11 billion and 
$4.1 billion, respectively, to net operating cost on the Statement of 
Operations and Changes in Net Position, which it labeled "Other-- 
Unmatched transactions and balances."[Footnote 30] An additional net 
$10.4 billion and $3.2 billion of unmatched transactions were recorded 
in the Statement of Net Cost for fiscal years 2006 and 2005, 
respectively. Treasury is unable to fully identify and quantify all 
components of these unreconciled activities. 

* The federal government did not have an adequate process to fully 
identify and report items needed to reconcile the operating results, 
which for fiscal year 2006 showed a net operating cost of $449.5 
billion, to the budget results, which for the same period showed a 
unified budget deficit of $247.7 billion. 

* Treasury's elimination of certain intragovernmental activity and 
balances continues to be impaired by the federal agencies' problems in 
handling their intragovernmental transactions. As discussed above, 
amounts reported for federal agency trading partners for certain 
intragovernmental accounts were significantly out of balance. This 
resulted in the need for unsupported intragovernmental elimination 
entries by Treasury in order to force the Statements of Operations and 
Changes in Net Position into balance. In addition, differences in other 
intragovernmental accounts, primarily related to transactions with the 
General Fund, have not been reconciled, still remain unresolved, and 
total hundreds of billions of dollars. Therefore, the federal 
government continues to be unable to determine the impact of 
unreconciled intragovernmental activity and balances on the 
consolidated financial statements. 

* We have consistently reported that certain financial information 
required by GAAP was not disclosed in the consolidated financial 
statements. In 2006, the Federal Accounting Standards Advisory Board 
issued a new standard that eliminated or lessened the disclosure 
requirements for the consolidated financial statements related to 
certain information that Treasury had not been reporting.[Footnote 31] 
There continued, though, to be other disclosures required by GAAP that 
are not disclosed in the consolidated financial statements. Treasury 
has plans to address certain of the omitted disclosures in future 
years' consolidated financial statements. Because of certain of the 
material weaknesses noted in our audit report, we were unable to 
determine if the omitted information was material to the consolidated 
financial statements. 

* Treasury continued to make progress in addressing certain other 
internal control weaknesses in Treasury's process for preparing the 
consolidated financial statements. However, internal control weaknesses 
continued to exist involving a lack of (1) appropriate documentation of 
certain policies and procedures for preparing the consolidated 
financial statements, (2) adequate supporting documentation for certain 
adjustments made to the consolidated financial statements, and (3) 
effective management reviews. 

* The consolidated financial statements include financial information 
for the executive, legislative, and judicial branches, to the extent 
that federal agencies within those branches have provided Treasury such 
information. However, as we have reported in past years, there continue 
to be undetermined amounts of assets, liabilities, costs, and revenues 
that are not included, and the federal government did not provide 
evidence or disclose in the consolidated financial statements that the 
excluded financial information was immaterial. 

* As in previous years, Treasury did not have adequate systems and 
personnel to address the magnitude of the fiscal year 2006 financial 
reporting challenges it faced, such as (1) GFRS undergoing further 
development[Footnote 32] and not yet being fully operational, and (2) 
weaknesses in Treasury's process for preparing the consolidated 
financial statements as discussed above. We found that personnel at 
Treasury's Financial Management Service had excessive workloads that 
required an extraordinary amount of effort and dedication to compile 
the consolidated financial statements; however, there were not enough 
personnel with specialized financial reporting experience to help 
ensure reliable financial reporting by the reporting date. 

* During fiscal year 2006, Treasury, in coordination with OMB, 
developed and began implementing corrective action plans and milestones 
for short-term and long-range solutions for certain internal control 
weaknesses we have previously reported regarding the process for 
preparing the consolidated financial statements. Resolving some of 
these internal control weaknesses will be a difficult challenge and 
will require a strong commitment from Treasury and OMB as they execute 
and implement their corrective action plans. 

Outlays and Receipts--Components of the Budget Deficit: 

Both the Reconciliation of Net Operating Cost and Unified Budget 
Deficit and Statement of Changes in Cash Balance from Unified Budget 
and Other Activities report the budget deficit for fiscal years 2006 
and 2005 of $247.7 billion and $318.6 billion, respectively.[Footnote 
33] The budget deficit is calculated by subtracting actual budget 
outlays (outlays) from actual budget receipts (receipts). 

For several years, we have been reporting material unreconciled 
differences between the total net outlays reported in selected federal 
agencies' Statement of Budgetary Resources (SBR) and Treasury's central 
accounting records used to compute the budget deficit[Footnote 34] 
reported in the consolidated financial statements. OMB and Treasury 
have been working with federal agencies to reduce these material 
unreconciled differences. Such efforts have resulted in significantly 
reducing the net outlay differences in fiscal year 2006. However, 
billions of dollars of differences still exist in this and other 
components of the deficit because the federal government does not have 
effective processes and procedures for identifying, resolving, and 
explaining material differences in the components of the deficit 
between Treasury's central accounting records and information reported 
in agency financial statements and underlying agency financial 
information and records. Until these differences are timely reconciled 
by the federal government, their effect on the U.S. government's 
consolidated financial statements will be unknown. 

In fiscal year 2006, we again noted that several agencies' auditors 
reported internal control weaknesses (1) affecting the agencies' SBRs, 
and (2) relating to monitoring, accounting, and reporting of budgetary 
transactions. These weaknesses could affect the reporting and 
calculation of the net outlay amounts in the agencies' SBRs. In 
addition, such weaknesses also affect the agencies' ability to report 
reliable budgetary information to Treasury and OMB and may affect the 
unified budget outlays reported by Treasury in its Combined Statement 
of Receipts, Outlays, and Balances,[Footnote 35] and certain amounts 
reported in the President's Budget. 

[End of section] 

Appendix II: Other Material Weaknesses: 

The federal government did not maintain effective internal control over 
financial reporting (including safeguarding assets) and compliance with 
significant laws and regulations as of September 30, 2006. In addition 
to the material weaknesses discussed in appendix I that contributed to 
our disclaimer of opinion, we found the following four other material 
weaknesses in internal control. 

Loans Receivable and Loan Guarantee Liabilities: 

Federal agencies accounting for the majority of the reported balances 
for direct loans and loan guarantee liabilities continue to have 
internal control weaknesses related to their credit reform estimation 
and related financial reporting processes. While progress in addressing 
these long-standing weaknesses was reported by federal credit agencies, 
these issues and the complexities associated with estimating the costs 
of lending activities significantly increase the risk that material 
misstatements in agency and governmentwide financial statements could 
occur and go undetected. Further, these weaknesses continue to 
adversely affect the federal government's ability to support annual 
budget requests for these programs, make future budgetary decisions, 
manage program costs, and measure the performance of lending 
activities. 

Improper Payments: 

Under the leadership of OMB, agencies have continued to make progress 
in addressing improper payments. Improvements, though, are still needed 
to fully address the requirements of the Improper Payments Information 
Act of 2002 (IPIA).[Footnote 36] Major challenges remain in meeting the 
goals of the act and ultimately better ensuring the integrity of 
payments.[Footnote 37] The IPIA requires federal agencies to review all 
programs and activities, identify those that may be susceptible to 
significant improper payments,[Footnote 38] estimate and report the 
annual amount of improper payments for those programs, and implement 
actions to cost-effectively reduce improper payments. In addition, OMB 
has established a program-specific initiative under the President's 
Management Agenda for 15 federal agencies to hold federal agency 
managers accountable for meeting the goals of IPIA and to ensure that 
the necessary attention and resources are dedicated to meeting the IPIA 
requirements. 

For fiscal year 2006, federal agencies' estimates of improper payments, 
based on available information, totaled about $42 billion, a net 
increase of about $4 billion, or an 11 percent increase, from the prior 
year improper payment estimate of $38 billion.[Footnote 39] This 
increase was primarily attributable to 10 newly reported programs with 
improper payment estimates totaling about $2.3 billion and certain 
federal agencies reporting an increase in estimates for programs that 
had previously reported. 

We found that some agencies have not annually reviewed all programs and 
activities, have not estimated improper payments for all risk- 
susceptible programs, or have not estimated improper payments for all 
components of risk-susceptible programs. For example, we noted that in 
fiscal year 2006, improper payment estimates were not made for 9 risk- 
susceptible federal programs, including Medicaid, with total program 
outlays of about $183 billion for fiscal year 2006. Further, we noted 
some agencies reported noncompliance issues and major management 
challenges related to IPIA implementation, including the methodologies 
used to estimate improper payments, adequacy of agency documentation, 
management oversight, and contract management. 

Information Security: 

Although progress has been made, serious and widespread information 
security control weaknesses continue to place federal assets at risk of 
inadvertent or deliberate misuse, financial information at risk of 
unauthorized modification or destruction, sensitive information at risk 
of inappropriate disclosure, and critical operations at risk of 
disruption. GAO has reported information security as a high-risk area 
across government since February 1997. Such information security 
control weaknesses could result in compromising the reliability and 
availability of data that are recorded in or transmitted by federal 
financial management systems. A primary reason for these weaknesses is 
that federal agencies have not yet fully institutionalized 
comprehensive security management programs, which are critical to 
identifying information security control weaknesses, resolving 
information security problems, and managing information security risks 
on an ongoing basis. The Congress has shown continuing interest in 
addressing these risks, as evidenced by hearings on the implementation 
of the Federal Information Security Management Act of 2002[Footnote 40] 
and on information security. In addition, the administration has taken 
important actions to improve information security, such as requiring 
agencies in OMB Memorandum M-06-16[Footnote 41] to perform specific 
actions to protect certain personally identifiable information and 
issuing extensive guidance on information security. 

Tax Collection Activities: 

Material internal control weaknesses and systems deficiencies continue 
to affect the federal government's ability to effectively manage its 
tax collection activities,[Footnote 42] an issue that has been reported 
in our financial statement audit reports for the past 9 years. Due to 
errors and delays in recording taxpayer information, payments, and 
other activities, taxpayers were not always credited for payments made 
on their taxes owed, which could result in undue taxpayer burden. In 
addition, the federal government did not always follow up on potential 
unreported or underreported taxes and did not always pursue collection 
efforts against taxpayers owing taxes to the federal government. 

Weaknesses in controls over tax collection activities continue to 
affect the federal government's ability to efficiently and effectively 
account for and collect revenue. Additionally, weaknesses in financial 
reporting of revenues affect the federal government's ability to make 
informed decisions about collection efforts. As a result, the federal 
government is vulnerable to loss of tax revenue and exposed to 
potentially billions of dollars in losses due to inappropriate refund 
disbursements. 

[End of section] 

Appendix III: Fiscal Year 2006 Audit Results: 

Table 3: CFO Act Agencies: Fiscal Year 2006 Audit Results and Principal 
Auditors: 

CFO Act agencies: Agency for International Development; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: OIG. 

CFO Act agencies: Agriculture; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: OIG. 

CFO Act agencies: Commerce; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: KPMG LLP. 

CFO Act agencies: Defense; 
Opinion rendered by agency auditor: Disclaimer; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: OIG. 

CFO Act agencies: Education; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: Ernst & Young, LLP. 

CFO Act agencies: Energy; 
Opinion rendered by agency auditor: [A]; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: KPMG LLP. 

CFO Act agencies: Environmental Protection Agency; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: OIG. 

CFO Act agencies: General Services Administration; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: Pricewaterhouse Coopers LLP. 

CFO Act agencies: Health and Human Services; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: Pricewaterhouse Coopers LLP. 

CFO Act agencies: Homeland Security; 
Opinion rendered by agency auditor: [B]; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: KPMG LLP. 

CFO Act agencies: Housing and Urban Development; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: OIG. 

CFO Act agencies: Interior; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: KPMG LLP. 

CFO Act agencies: Justice; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: KPMG LLP. 

CFO Act agencies: Labor; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: KPMG LLP. 

CFO Act agencies: National Aeronautics and Space Administration; 
Opinion rendered by agency auditor: Disclaimer; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: Ernst & Young, LLP. 

CFO Act agencies: National Science Foundation; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
[Empty]; 
Principal auditor: Clifton Gunderson LLP. 

CFO Act agencies: Nuclear Regulatory Commission; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: R. Navarro & Associates, Inc. 

CFO Act agencies: Office of Personnel Management; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: KPMG LLP. 

CFO Act agencies: Small Business Administration; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: KPMG LLP. 

CFO Act agencies: Social Security Administration; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: ; 
Principal auditor: Pricewaterhouse Coopers LLP. 

CFO Act agencies: State; 
Opinion rendered by agency auditor: [C]; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: Leonard G. Birnbaum and Company, LLP. 

CFO Act agencies: Transportation; 
Opinion rendered by agency auditor: Qualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: OIG. 

CFO Act agencies: Treasury; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: KPMG LLP. 

CFO Act agencies: Veterans Affairs; 
Opinion rendered by agency auditor: Unqualified; 
Agencies' auditors reported material weaknesses or noncompliance: 
Check; 
Principal auditor: Deloitte & Touche LLP. 

Source: GAO. 

[A] For fiscal year 2006, only the Consolidated Balance Sheet of the 
Department of Energy was subjected to audit, and the auditor qualified 
its opinion on this statement. 

[B] For fiscal year 2006, only the Consolidated Balance Sheet and the 
related Statement of Custodial Activity of the Department of Homeland 
Security were subjected to audit; 
the auditor was unable to express an opinion on these two financial 
statements. 

[C] The auditor of the Department of State's (State) fiscal year 2006 
financial statements disclaimed an opinion because they were not 
provided complete financial statements or responses to certain requests 
for evidential material in time to meet the November 15, 2006, 
reporting deadline. Subsequently, the auditors satisfied themselves 
about the amounts presented on the financial statements. As a result, 
the auditor issued an unqualified opinion on State's fiscal year 2006 
financial statements dated December 12, 2006. 

[End of table] 

FOOTNOTES 

[1] GAO, Understanding the Primary Components of the Annual Financial 
Report of the United States Government, GAO-05-958SP (Washington, D.C.: 
September 2005). 

[2] GAO, Critical Accountability and Fiscal Stewardship Challenges 
Facing Our Nation, GAO-07-542T (Washington, D.C.: March 2007). 

[3] A material weakness is a condition that precludes the entity's 
internal control from providing reasonable assurance that 
misstatements, losses, or noncompliance material in relation to the 
financial statements or to stewardship information would be prevented 
or detected on a timely basis. 

[4] Present value is the discounted value of a payment or stream of 
payments to be received or paid in the future, taking into 
consideration a specific interest or discount rate. 

[5] In addition to the reported net cost, the federal government 
foregoes tax revenues as a result of preferential provisions, such as 
tax exclusions, credits, and deductions. These revenue losses are 
referred to as tax expenditures. 

[6] GAO, Fiscal Stewardship: A Critical Challenge Facing Our Nation, 
GAO-07-362SP (Washington, D.C.: January 2007); The Nation's Long-Term 
Fiscal Outlook: September 2006 Update, GAO-06-1077R (Washington, D.C.: 
Sept. 15, 2006); Understanding the Similarities and Differences between 
Accrual and Cash Deficits, GAO-07-117SP (Washington, D.C.: December 
2006) and its supplement, Accrual and Cash Deficits: Update for Fiscal 
Year 2006, GAO-07-341SP (Washington, D.C.: Jan. 22, 2007); 
Understanding the Primary Components of the Annual Financial Report of 
the United States, GAO-05-958SP (Washington, D.C.: September 2005); and 
Statement of the Comptroller General of the United States transmitting 
GAO's report on the U.S. government's consolidated financial statements 
for fiscal years 2006 and 2005. 

[7] GAO, Long-term Budget Outlook: Saving Our Future Requires Tough 
Choices Today, GAO-07-342T (Washington, D.C.: Jan. 11, 2007); Long-term 
Budget Outlook: Deficits Matter--Saving Our Future Requires Tough 
Choices Today, GAO-07-389T (Washington, D.C.: Jan. 23, 2007). 

[8] GAO, Suggested Areas for Oversight for the 110th Congress, GAO-07-
235R (Washington, D.C.: Nov. 17, 2006). 

[9] GAO, 21st Century Challenges: Reexamining the Base of the Federal 
Government, GAO-05-325SP, (Washington, D.C.: February 2005). 

[10] According to Statement of Federal Financial Accounting Standards 
(SFFAS) No. 21, Reporting Corrections of Errors and Changes in 
Accounting Principles, prior-period financial statements presented 
should only be restated for corrections of errors, when such errors 
caused the financial statements to be materially misstated. Errors in 
financial statements can result from mathematical mistakes, mistakes in 
the application of accounting principles, or oversight or misuse of 
facts that existed at the time the financial statements were prepared. 

[11] In addition to the Department of Defense, at least three other 
Chief Financial Officers (CFO) act agencies restated certain of their 
fiscal year 2005 financial statements to correct misstatements. 

[12] GAO, Financial Audit: Restatements to the Department of State's 
Fiscal Year 2003 Financial Statements, GAO-05-814R (Washington, D.C.: 
Sept. 20, 2005); Financial Audit: Restatements to the Nuclear 
Regulatory Commission's Fiscal Year 2003 Financial Statements, GAO-06-
30R (Washington, D.C.: Oct. 27, 2005); Financial Audit: Restatements to 
the General Services Administration's Fiscal Year 2003 Financial 
Statements, GAO-06-70R (Washington, D.C.: Dec. 6, 2005); Financial 
Audit: Restatements to the National Science Foundation's Fiscal Year 
2003 Financial Statements, GAO-06-229R (Washington, D.C.: Dec. 22, 
2005); and Financial Audit: Restatements to the Department of 
Agriculture's Fiscal Year 2003 Financial Statements, GAO-06-254R 
(Washington, D.C.: Jan. 26, 2006). 

[13] GAO, Financial Audit: Restated Financial Statements: Agencies' 
Management and Auditor Disclosures of Causes and Effects and Timely 
Communication to Users, GAO-07-91 (Washington, D.C.: Oct. 5, 2006). 

[14] GAGAS, promulgated by the Comptroller General of the United 
States, are to be followed by federal auditors and audit organizations 
and by other auditors auditing federal organizations, programs, or 
activities when required by law, contract, or policy. These standards 
pertain to auditors' professional qualifications, the quality of audit 
effort, and the characteristics of professional and meaningful audit 
reports. GAGAS incorporate American Institute of Certified Public 
Accountants' field work and reporting standards and the related 
Statements on Auditing Standards for financial audits unless the 
Comptroller General of the United States excludes them by formal 
announcement. 

[15] We previously reported that certain material weaknesses prevented 
us from expressing an opinion on the consolidated financial statements 
of the U.S. government for fiscal years 1997 through 2005. 

[16] Reportable conditions are matters coming to our attention that, in 
our judgment, should be communicated because they represent significant 
deficiencies in the design or operation of internal control that could 
adversely affect the federal government's ability to meet the internal 
control objectives described in our audit report. 

[17] The CFO Act agencies whose auditors provided negative assurance 
were the Department of Commerce, Environmental Protection Agency, 
General Services Administration (GSA), National Science Foundation, 
Office of Personnel Management, and the Social Security Administration. 

[18] Although not major DOD components, the Military Retirement Fund 
received an unqualified audit opinion on its fiscal year 2006 financial 
statements, and the DOD Medicare Eligible Retiree Health Care Fund 
received a qualified audit opinion on its fiscal year 2006 financial 
statements. 

[19] GAO, High-Risk Series: An Update, GAO-07-310 (Washington, D.C.: 
January 2007). The eight specific DOD high-risk areas are: (1) approach 
to business transformation, (2) business systems modernization, (3) 
contract management, (4) financial management, (5) personnel security 
clearance program, (6) supply chain management, (7) support 
infrastructure management, and (8) weapon systems acquisition. The 
seven governmentwide high-risk areas are (1) disability programs, (2) 
interagency contracting, (3) information systems and critical 
infrastructure, (4) information sharing for homeland security, (5) 
human capital, (6) real property, and (7) protection of critical 
technologies. 

[20] GAO, Fiscal Year 2005 U.S. Government Financial Statements: 
Sustained Improvement in Federal Financial Management Is Crucial to 
Addressing Our Nation's Financial Condition and Long-term Fiscal 
Imbalance, GAO-06-406T (Washington, D.C.: Mar. 1, 2006). 

[21] The Business Enterprise Architecture and the Enterprise Transition 
Plan are the other two key components of DOD's business transformation 
strategy. 

[22] National Defense Authorization Act for Fiscal Year 2006, Pub. L. 
No. 109-163, § 907, 119 Stat. 3136, 3403 (Jan. 6, 2006). 

[23] Trading partners are U.S. government agencies, departments, or 
other components included in the consolidated financial statements that 
do business with each other. 

[24] GFRS uses a closing package methodology that has been developed to 
capture each federal agency's information and link the agencies' 
audited financial statements to the governmentwide consolidated 
financial statements. 

[25] Treasury Financial Manual, Bulletin No. 2007-3, Intragovernmental 
Business Rules. 

[26] The U.S. Chief Financial Officer's Council is an organization of 
the CFOs and Deputy CFOs of the largest federal agencies and senior 
officials of OMB and Treasury who work collaboratively to improve 
financial management in the U.S. government. 

[27] Intergenerational equity assesses the extent to which different 
age groups may be required to assume financial burdens to sustain 
federal responsibilities. 

[28] GFRS uses a closing package methodology that has been developed to 
capture each federal agency's information and link the agencies' 
audited financial statements to the governmentwide consolidated 
financial statements. 

[29] Most of the issues we identified in fiscal year 2006 existed in 
fiscal year 2005, and many have existed for a number of years. In April 
2006, we reported in greater detail on the issues we identified, in 
GAO, Financial Audit: Significant Internal Control Weaknesses Remain in 
Preparing the Consolidated Financial Statements of the U.S. Government, 
GAO-06-415 (Washington, D.C.: Apr. 21, 2006). This report includes 
numerous recommendations to Treasury and OMB. 

[30] Although Treasury was unable to determine how much of the 
unmatched transactions and balances, if any, relate to operations, it 
reported this amount as a component of net operating cost in the 
consolidated financial statements. 

[31] SFFAS No. 32, Consolidated Financial Report of the United States 
Government Requirements, Implementing Statement of Federal Financial 
Accounting Concepts 4, "Intended Audience and Qualitative 
Characteristics for the Consolidated Financial Report of the United 
States Government" (Washington, D.C.: Sept. 28, 2006). 

[32] See GAO, Financial Management Systems: Lack of Disciplined 
Processes Puts Effective Implementation of Treasury's Governmentwide 
Financial Report System at Risk, GAO-06-413 (Washington, D.C.: Apr. 21, 
2006). 

[33] The budget deficit, receipts, and outlays amounts are reported in 
Treasury's Monthly Treasury Statement and the Budget of the United 
States Government. 

[34] See GAO's audit report on its audit of the federal government's 
fiscal year 2005 financial statements that was incorporated in the 2005 
Financial Report of the U.S. Government published by Treasury. Also, 
see GAO, Financial Audit: Process for Preparing the Consolidated 
Financial Statements of the U.S. Government Needs Improvement, GAO-04-
45 (Washington, D.C.: Oct. 30, 2003). 

[35] Treasury's Combined Statement of Receipts, Outlays, and Balances 
presents budget results and cash-related assets and liabilities of the 
federal government with supporting details. Treasury represents this 
report as the recognized official publication of receipts and outlays 
of the federal government based on agency reporting. 

[36] Pub. L. No. 107-300, 116 Stat. 2350 (Nov. 26, 2002). 

[37] See GAO, Improper Payments: Incomplete Reporting under the 
Improper Payments Information Act Masks the Extent of the Problem, GAO-
07-254T (Washington, D.C.: Dec. 5, 2006). 

[38] IPIA defines improper payments as any payment that should not have 
been made or that was made in an incorrect amount (including 
overpayments and underpayments) under statutory, contractual, 
administrative, or other legally applicable requirements. It includes 
any payment to an ineligible recipient, any payment for an ineligible 
service, any duplicate payment, payments for services not received, and 
any payment that does not account for credit for applicable discounts. 
OMB's guidance defines significant improper payments as those in any 
particular program that exceed both 2.5 percent of program payments and 
$10 million annually. 

[39] In their fiscal year 2006 Performance and Accountability Reports 
(PAR), selected federal agencies updated their fiscal year 2005 
improper payment estimates to reflect changes since issuance of their 
fiscal year 2005 PARs. These updates increased the governmentwide 
improper payment estimate for fiscal year 2005 from $38 billion to $39 
billion. 

[40] Title III of the E-Government Act of 2002, Pub. L. No. 107-347, 
116 Stat. 2899, 2946 (Dec. 17, 2002). 

[41] OMB Memorandum No. M-06-16, Protection of Sensitive Agency 
Information (June 23, 2006). 

[42] GAO, Financial Audit: IRS's Fiscal Years 2006 and 2005 Financial 
Statements, GAO-07-136 (Washington, D.C.: Nov. 9, 2006). 

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