This report reviews the Internal Revenue Service's (IRS) expenditures on business systems modernization. IRS obligated and expended available Information Technology Investment Account (ITIA) appropriations in fiscal years 1999 and 2000 to pay for external business systems modernization costs. In fiscal years 1999 and 2000, IRS expended about $12.8 million and $120.2 million, respectively, of ITIA appropriations and, as of September 30, 2000, had an additional $66 million of ITIA appropriations obligated to modernize its external business systems. IRS' use of ITIA appropriations appears to be for no purposes consistent with the fiscal year 1998 and 1999 appropriations acts and within the $249 million approved ITIA expenditure plans. IRS used its information systems (IS) appropriations and other appropriations to fund both internal and external business systems modernization costs. IRS paid its internal business systems modernization costs from its appropriations for IS; Tax Law Enforcement; and Processing, Assistance, and Management. However, the amount of these costs is unknown because IRS did not have a cost accounting system in place to track its internal costs for business systems modernization. IRS initiated actions in fiscal year 2000 to begin tracking its internal costs associated with specific projects through the use of project accounting codes in conjunction with its time and attendance reporting. However, these actions were not fully implemented during GAO's review. In addition, IRS used its IS appropriations to fund some external business systems modernization costs. IRS also expended $48.6 million of IS appropriations to pay for external business systems modernization costs. Also during this period, IRS expended an additional $9.3 million of IS appropriations for both modernization and nonmodernization costs but could not distinguish between the two. There were no instances in which IRS' internal controls failed to assure that expenditures against ITIA appropriations were for business systems modernization. However, GAO recently reported that, despite important progress, IRS has yet to fully implement the capabilities needed to effectively manage the business systems modernization program. In addition, the Treasury Inspector General for Tax Administration reported that internal controls for managing IRS' business systems modernization efforts were inadequate before the Business Systems Modernization Office began operations in July 2000 but have since improved.

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