This is the accessible text file for GAO report number GAO-03-827R 
entitled 'Thrift Savings Plan: Delayed Allocation of Failed System 
Development Costs to Participant Accounts' which was released on August 
22, 2003.

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July 22, 2003:

The Honorable Thomas M. Davis:

Chairman:

Committee on Government Reform:

House of Representatives:

The Honorable Danny K. Davis:

Ranking Minority Member:

Subcommittee on Civil Service and Agency Organization:

Committee on Government Reform:

House of Representatives:

The Honorable Dave Weldon:

House of Representatives:

Subject: Thrift Savings Plan: Delayed Allocation of Failed System 
Development Costs to Participant Accounts:


Subject: Thrift Savings Plan: Delayed Allocation of Failed System 
Development Costs to Participant Accounts:

The Thrift Savings Plan (TSP) is a retirement savings and investment 
plan for federal employees, governed by the Federal Retirement Thrift 
Investment Board (Board). The TSP is a defined contribution retirement 
plan[Footnote 1] available to eligible federal employees. The TSP had 
about 2.6 million participants and held about $100.6 billion in Net 
Assets Available for Benefits as of December 31, 2001, and about 3 
million participants and $102.3 billion in Net Assets Available for 
Benefits as of December 31, 2002.

In 1997, the Board awarded a contract to American Management Systems, 
Inc. (AMS) to develop and implement a new record-keeping system for the 
TSP. In 2001, after several implementation delays, the Board terminated 
the contract, and the Board's former Executive Director filed a lawsuit 
against the contractor on behalf of the TSP.[Footnote 2] On June 20, 
2003, 2 days after we provided a draft of this report to the Board for 
its review, a settlement between the parties was reached.[Footnote 3] 
Then, on June 23, 2003, the net unrecovered cost from the system 
development failure was allocated to participant account balances as 
recommended in our draft report. While the loss has now been allocated 
to participant accounts, albeit on a belated basis, we believe there is 
value associated with issuing this product in response to the request 
to illustrate the operative principles and concepts that should govern 
allocation of costs in the future.

Since the TSP is an important component of retirement income for many 
federal employees, participants must be assured of proper accounting of 
their funds. Therefore, you asked us to examine federal oversight of 
the TSP and the TSP's accounting for its failed system development 
costs. Our report on federal oversight of the TSP was issued in April 
2003.[Footnote 4] This report addresses whether (1) the TSP's 
management followed U.S. generally accepted accounting principles 
(GAAP) in accounting for the costs associated with the failed 
development of the new record-keeping system and (2) the TSP should 
have allocated the costs to participants' accounts when the loss 
occurred.

Results in Brief:

The TSP's write-down of $41 million in failed system development costs, 
as an expense on its 2001 income statement and balance sheet was 
consistent with GAAP. However, the decision not to allocate those costs 
to participant accounts at the same time was not consistent with the 
TSP's practice of allocating expenses on a monthly basis or with its 
accounting treatment of the expenses on the financial statements. In 
prior accounting periods, the TSP had recorded administrative expenses 
on its financial statements and reduced participant accounts for the 
expenses when incurred. The effect of not concurrently allocating the 
expenses attributable to the system write-down to individual accounts 
was that each then-existing participant account was overstated by a pro 
rata amount.

This differing treatment for financial statements and account balances 
resulted in aggregate reported TSP assets being $41 million less than 
the sum of individual accounts from the end of July 2001 through the 
most recent June 23, 2003, posting of the expense to accounts and 
allowed those who have withdrawn from the TSP since 2001 to not share 
in those costs. If the $41 million had been allocated to participants' 
accounts in 2001, the TSP expense ratios would, on average, have been 
approximately one-twentieth of 1 percent more--or about 41 cents per 
$1,000 account balance. Thus, the amounts chargeable to individual 
accounts would have been minimal--ranging from virtually nothing for 
new employees to roughly $400 for an account of $1 million.

The reason given by the Executive Director for not allocating the $41 
million to account balances at the time of the asset write down was 
confidence that the TSP would prevail in the court action and that, in 
the final analysis, the TSP would not suffer any losses due to the 
system development failure. The TSP's former and current independent 
auditors reviewed and concurred with this treatment. Given 
uncertainties inherent in any court action and the fact that 
significant numbers of account holders enroll and depart annually, in 
our view, allocating the $41 million to account balances when the loss 
occurred would have been more prudent, as well as being acceptable 
treatment under GAAP. In particular, allocation at the time the loss 
occurred would have met two underlying concepts of accounting--
consistency and conservatism.

Background:

The TSP was authorized by Congress under the Federal Employees' 
Retirement System Act of 1986 (FERSA).[Footnote 5] As of December 31, 
2002, the Board reported that the TSP fund had approximately 3 million 
federal employee participants and $102.3 billion in Net Assets 
Available for Benefits, making it one of the largest retirement savings 
plans in the United States. The TSP is available to federal and postal 
employees, members of Congress and congressional employees, members of 
the uniformed services, and members of the judicial branch. The TSP 
provides federal (and, in certain cases, state) income tax deferral on 
employee contributions and related earnings. The TSP's assets and 
earnings on these assets generally cannot be used for any purpose other 
than providing benefits to participants and their beneficiaries, and 
paying TSP administrative expenses. From December 2001 through February 
2003, approximately 720,000 new participants joined the TSP, while 
approximately 510,000 participants withdrew.

In 1997, the Board awarded a contract to AMS to develop a new TSP 
record-keeping system to provide participants with the ability to make 
investment changes and to view updates of their account balances daily. 
Prior to the recent system upgrade announced in mid-June 2003, 
participants' interfund transfers could take up to 45 days to 
implement, and participants could only view monthly updates of their 
account balances. In July 2001, after numerous implementation delays 
and disappointing interim results, the Board terminated the 1997 AMS 
contract for development of the new system and awarded a new contract 
to a different contractor. At the time the contract with AMS was 
terminated, the TSP wrote off $41 million of its capital assets as a 
result of the failed system development. At the same time, a suit was 
filed on behalf of the TSP against AMS, seeking $50 million[Footnote 6] 
in actual damages and $300 million in punitive damages. Then, AMS filed 
a contract termination settlement claim against the Board for improper 
contract termination seeking $58 million in damages.[Footnote 7] On 
June 20, 2003, 2 days after we provided a draft of this report to the 
Board for its review, a settlement was reached between the parties. The 
net result of the settlement required AMS to pay $5 million to the TSP, 
thus reducing the amount of the loss from $41 million to $36 million. 
On June 23, 2003, the $36 million was allocated to the participant 
accounts on a pro rata basis, based on respective investment fund 
balances.

The TSP prepares and reports its financial statements using GAAP. The 
TSP's annual financial statements are audited and have received 
unqualified or "clean" audit opinions since its inception in 1987. 
Statement on Auditing Standards No. 69 (SAS 69), The Meaning of 
"Present Fairly in Conformity with Generally Accepted Accounting 
Principles," provides a definition of GAAP and discusses a hierarchy of 
guidance that is to be followed. The statement describes four 
categories of authoritative guidance, referred to as the GAAP 
hierarchy, which are listed in table 1.

Table 1: GAAP Hierarchy of Guidance:

[See PDF for image]

Source: SAS 69.

[End of table]

In the absence of guidance in the four categories on a particular 
transaction, SAS 69 allows for consideration of other relevant 
accounting literature, such as FASB Statements of Financial Accounting 
Concepts; AICPA Issue Papers; and Federal Accounting Standards Advisory 
Board Statements, Interpretations, and Technical Bulletins.

Scope and Methodology:

In order to determine if the TSP followed GAAP in accounting for the 
costs of the failed systems development and whether the costs should 
have been allocated to participant accounts when the contract was 
terminated, we reviewed relevant laws and regulations, including FERSA 
and applicable federal regulations. We reviewed accounting guidance 
associated with accounting for defined contribution plans, systems 
development capitalization, and asset impairment, including Financial 
Accounting Standard 121 (FAS 121), Accounting for the Impairment of 
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of; AICPA's 
Audit and Accounting Guide, Audits of Employee Pension Benefit Plans; 
and Statement of Financial Accounting Concepts No. 2 (SFAC 2), 
Qualitative Characteristics of Accounting Information. We also reviewed 
the TSP's audited financial statements for calendar years 2000, 2001, 
and 2002; literature published by the TSP; and minutes of Board 
meetings. In addition, we interviewed officials from the TSP, the 
Department of Labor (DOL), and another defined contribution plan 
provider. We requested and received written comments from the Executive 
Director of the Board. These comments are discussed in the Agency 
Comment and Our Evaluation section and are reprinted in the enclosure. 
We conducted our work from January 2003 through May 2003 in accordance 
with generally accepted government auditing standards.

Accounting Treatment for System Write-Down Was Acceptable:

The TSP's financial statement treatment of writing down the capitalized 
costs of its failed system development costs was consistent with GAAP. 
FAS 121 provides authoritative guidance (category A) for properly 
accounting for an impaired asset. FAS 121 requires that when the 
carrying amount of an impaired asset exceeds its fair value, the 
impaired asset must be written down to its fair value.[Footnote 8] The 
difference between the asset's carrying amount and its fair value is to 
be recognized as an impairment loss and a reduction of income from 
continuing operations. Therefore, the TSP's write-down of the failed 
system development costs, by recording an expense of that amount and 
likewise reducing the asset value, was consistent with FAS 121.

At the time the systems development contract with AMS was terminated, 
the TSP had recorded a capitalized asset on its books for $65 million 
in systems development costs. This amount represented contractor 
invoices totaling $53 million and $12 million of internal development 
costs. Of the $53 million in contractor invoices, $23 million had not 
yet been paid and was reflected as an account payable. Upon contract 
termination, the Board rejected the $23 million in unpaid invoices and 
decreased the capitalized asset by the same amount, resulting in a 
residual recorded cost of approximately $42 million. This capitalized 
asset was considered impaired and written down from approximately $42 
million to an estimated fair value of $1 million.[Footnote 9] The $41 
million write-down of the asset to its net realizable value was 
reported on the Statement of Changes in Net Assets Available for 
Benefits as a component of administrative expenses. Table 2 summarizes 
the systems development write-down that resulted in a $41 million 
impairment loss on the capitalized asset. While the write-down was not 
separately classified as an impairment loss, its inclusion in 
administrative expenses resulted in a reduction of income from 
continuing operations.[Footnote 10]

Table 2: TSP System Development Write-down Resulting in $41 Million 
Impairment Loss on Capitalized Asset:

[See PDF for image]

Sources: TSP and the 2001 Financial Statements of the Thrift Savings 
Fund.

[End of table]

At that time, these record-keeping system development costs constituted 
most of the TSP's recorded fixed assets. The write-down of the $41 
million resulted in the TSP's total fixed assets being reduced from $50 
million to $9 million. It also was a major cause of the increase in 
administrative expenses from $62 million in fiscal year 2000 to $106 
million for fiscal year 2001.

Nonallocation to Individual Accounts Was Inconsistent with Prior 
Practices:

The decision not to allocate the expenses related to the failed system 
development to participant accounts when the loss occurred was not 
consistent with the TSP's practice of allocating expenses on a monthly 
basis or with the accounting treatment of the expenses on the financial 
statements.[Footnote 11] Under FERSA, the Executive Director is charged 
with prescribing regulations governing the TSP's allocation of net 
earnings, net losses, and administrative expenses to participants' 
accounts. In prior accounting periods, the TSP had recorded 
administrative expenses on its financial statements and reduced 
participant accounts for the expenses when incurred.

The effect of not concurrently allocating the expenses attributable to 
the system write-down to individual accounts was that each then-
existing participant account was overstated by a pro rata amount, and 
was thus not the most conservative treatment available. Accounting 
guidance[Footnote 12] we reviewed related to private pension plans and 
another defined contribution plan service provider[Footnote 13] we 
contacted stated that the sum of participant accounts should be equal 
to total net assets. Under this approach, the TSP loss should have been 
allocated to accounts when the loss occurred. However, neither the 
guidance nor the other service provider offered any insights related to 
allocation of expenses when such expenses might be recovered as a 
result of pending litigation.

The decision not to allocate the expenses when the loss occurred, as 
was discussed with the Board and documented in the February, April, and 
May 2002 minutes of the Board meetings, was based on the belief that it 
was preferable to defer allocation until after the outcome of the 
pending litigation against the original contractor was resolved. The 
former Executive Director expected to prevail in the litigation and 
stated that expenses from the failed systems development would be 
netted against the anticipated recovery from the contractor. 
Nonallocation of these expenses was disclosed in the TSP Fund's 2001 
financial statements, which received an unqualified audit opinion. In a 
June 2002 letter, DOL suggested that the TSP obtain competent advice 
concerning the propriety of the nonallocation procedure disclosed in 
the financial statements. The TSP requested that another external 
auditing firm review the accounting treatment; that firm reported in 
August 2002 that the treatment was reasonable.

We were unable to locate any specific guidance on the proper accounting 
treatment in cases for which expenses incurred by a defined 
contribution plan may be recovered through a pending lawsuit. The 
AICPA's Audit and Accounting Guide, Audits of Employee Benefit Plans 
(category B guidance in the GAAP hierarchy), which provides accounting 
and auditing guidance for private sector defined benefit and defined 
contribution plans, states that individual participants' account 
information "should necessarily be in agreement with the aggregate 
participant account information contained in the basic books and 
records." Applying this criterion, the $41 million should have been 
allocated to participants' accounts when the loss occurred. However, 
this guidance applies to private sector plans and not federal plans 
such as the TSP. Instead, under FERSA, the Executive Director is 
charged with prescribing regulations governing the TSP's allocation of 
administrative expenses to participants' accounts. We did not find 
anything in the guidance or the TSP regulations to suggest that the 
accounting treatment should be different depending on any unusual 
circumstances, such as situations involving pending litigation with a 
potential recovery.

Since this accounting event was unusual, we contacted another large 
defined contribution plan service provider to determine what it might 
have done in a similar situation. The large defined contribution plan 
we contacted has net plan assets of approximately $140 billion. The 
representative we spoke with explained that that plan had never been in 
a similar situation but that the plan allocates all expenses and 
investment gains and losses to plan participants daily. Most of this 
plan's expenses are for services provided by third parties, and the 
plan remits payment for these services each day.

Notwithstanding the lack of specific guidance on the proper accounting 
treatment of allocating a loss to participant accounts in a defined 
contribution plan when there is a pending lawsuit with a potential 
recovery, financial accounting concepts suggest that the TSP accounting 
treatment was not applied in accordance with the accounting concepts of 
consistency and conservatism. According to SFAC 2, accounting treatment 
across accounting periods should be consistent in order to increase the 
informational value of accounting data. The decision not to allocate 
the administrative expenses related to failed systems development as 
the TSP had allocated all other administrative expenses when the loss 
occurred and in prior accounting periods was inconsistent. In addition, 
not allocating the loss to plan participants in 2001 was inconsistent 
with the financial statement accounting treatment.

SFAC 2 also addresses the concept of conservatism. The statement 
indicates that in determining the appropriate accounting treatment when 
there are uncertainties, the preferable method is one that does not 
overstate assets or understate expenses and therefore does not 
overstate operating results. By recording the loss on the financial 
statements, but not allocating administrative expenses related to the 
failed systems development, individual plan participants' assets were 
overstated and thus did not reflect the most conservative method of 
accounting. Given uncertainties inherent in any court action and the 
fact that significant numbers of account holders enroll and depart 
annually, in our view, allocating the loss to account balances when the 
loss occurred would have been more prudent, as well as being acceptable 
treatment under GAAP. In particular, allocation would have met two 
underlying concepts of accounting--consistency and conservatism.

Because these expenses were not allocated, the sum of all participants' 
plan accounts was more than the Net Assets Available for Benefits 
reported on the financial statements from when the loss occurred to 
June 2003 when the lawsuit was settled. Although the loss in relation 
to the $100.6 billion fund balance as of December 2001 (approximately 
.04 percent) is insignificant, the timing of the allocation to 
individual accounts may be sensitive to some plan holders. If the $41 
million loss had been allocated in 2001, plan holders would have been 
charged approximately one-twentieth of 1 percent--or about 41 cents 
more per $1,000 in their account balances. Thus, the amounts chargeable 
to individual accounts would have been minimal--ranging from virtually 
nothing for new employees to about $400 for an account of $1 million. 
Given that the average account balance in 2001 was approximately 
$39,000 (i.e., $100.6 billion in Net Assets Available for Benefits 
divided by 2.6 million participants), the average additional charge for 
administrative expenses for the year would have been about $16.

As a result of the settlement between the parties related to the system 
development, the TSP recovered approximately $5 million, which 
partially offsets the $41 million in previously recorded but 
unallocated administrative expenses. We confirmed that the resulting 
$36 million net loss was allocated to participants' accounts on June 
23, 2003.

Conclusion:

The financial statement treatment of writing down the failed system 
development costs was consistent with GAAP; however, we believe it 
would have been prudent to also write down the participants' accounts 
when the loss occurred. Not allocating the loss to individual 
participant accounts when it occurred was based on a premise of 
recovery for which there was no certainty. It also marked a departure 
from routine cost allocation practices, and in this situation, a 
significant number of account holders have departed from the TSP and 
were not allocated a share of these costs. Although we would hope that 
the Board does not have to face unusual circumstances similar to this 
again, it is important that consistency and conservatism principles and 
concepts govern future accounting and allocation decisions.

Recommendation for Executive Action:

To be consistent with the financial statement treatment and its routine 
allocation practices, in light of uncertainties involving the 
litigation, and to prevent a growing percentage of account holders from 
departing the TSP and not sharing in the system failure costs, we 
recommend that the Federal Retirement Thrift Investment Board require 
the Executive Director to allocate the loss as soon as possible to 
participant accounts in the most equitable and efficient manner.

Agency Comments and Our Evaluation:

In commenting on a draft of our report, the Executive Director 
discussed the June 20, 2003, settlement and the resulting $36 million 
allocation to participant accounts on June 23, 2003. We verified that 
the allocation was made, thus implementing the recommendation in this 
report.

As agreed with your offices, unless you release its contents earlier, 
we plan no further distribution of this report until 30 days after its 
date. At that time, we will send copies to interested congressional 
committees as well as the Executive Director of the Federal Thrift 
Retirement Investment Board and the Secretary of Labor. We will also 
make copies available to others on request. In addition, the report 
will be available at no charge on the GAO Web site at http://
www.gao.gov.

If you have any questions concerning this report, please contact me at 
(202) 512-6906 or Casey Keplinger at (202) 512-9323. Heather Dunahoo 
also made major contributions to this report.

McCoy Williams:

Director:

Financial Management and Assurance:

Enclosure:

Enclosure:


Comments from the Federal Retirement Thrift Investment Board:

THRIFT SAVINGS PLAN:

FEDERAL RETIREMENT THRIFT INVESTMENT BOARD 1250 H Street, NW 
Washington, DC 20005:

July 9, 2003:

Mr. McCoy Williams 
Director:

Financial Management and Assurance 
U.S. General Accounting Office Washington, DC 20548:

Dear Mr. Williams:

This is in regard to your June 18, 2003 draft report, enti-tled "Thrift 
Savings Plan: Failed System Development Costs Should Be Allocated to 
Participant Accounts" (GAO-03-827R).

Your report contained a recommendation that the Federal Retire-ment 
Thrift Investment Board require the TSP Executive Director to allocate 
the ". . .$41 million as soon as possible to par-ticipant accounts in 
the most equitable and efficient manner.":

On June 20, 2003, Mehle v. American Management Systems (AMS) was 
resolved by a settlement between the parties. The net result of the 
settlement required AMS to pay $5 million to the Thrift Savings Plan. 
By offsetting the $5 million settlement proceeds against the $41 
million outstanding, the amount to be allocated to the participants is 
reduced from $41 million to $36 million. On June 23, 2003, the $36 
million was allocated to the participant accounts pursuant to 5 CFR 
Part 1645.4(c), which re-quires that accrued administrative expenses 
not covered by for-feitures will be charged on a pro rata basis, based 
on the re-spective investment fund balances on the last day of the 
prior valuation period.

I believe this satisfies your recommendation. Should you have any 
further questions or concerns, please do not hesitate to contact me.

Very truly yours,

Gary A. Amelio 
Executive Director:

Signed by Gary A. Amelio: 

(195007):

FOOTNOTES

[1] Under a defined contribution plan, employees have individual 
accounts to which employers, the employees, or both can make periodic 
contributions. Defined contribution plan benefits are based on the 
contributions to and the investment returns (gains and losses) on 
individual accounts.



[2] The Executive Director who filed the related litigation resigned 
from his post on November 18, 2002.



[3] The lawsuit brought by the Board is still pending before the U.S. 
Court of Appeals for the District of Columbia Circuit. While the 
parties have notified the Court that they have agreed to a settlement, 
as of July 16, 2003, the Court has not dismissed the case.



[4] U.S. General Accounting Office, Federal Pensions: DOL Oversight and 
Thrift Savings Plan Accountability, GAO-03-400 (Washington, D.C. Apr. 
23, 2003).

[5] Pub. L. No. 99-335, 100 Stat. 514 (1986) (codified as amended 
largely at 5 U.S.C. 8351 and 8401 - 8479).



[6] The $50 million in actual damages being sought includes $30 million 
in invoices paid to the contractor, $12 million in salaries and 
benefits paid for TSP staff and other contractors related to the system 
implementation, $9 million in other start-up costs of the system 
implementation, and less $1 million paid for off-the-shelf software 
that had future use to the TSP.



[7] The $58 million in actual damages included $26 million of unpaid 
invoices and $32 million of other costs to close the contract.

[8] FAS 121 defines fair value as "the amount at which the asset could 
be bought or sold in a current transaction between willing parties."



[9] The remaining $1 million represents a recoverable asset that the 
TSP determined, in conjunction with the new contractor, to be of future 
use. The asset is off-the-shelf software that was used by the new 
contractor in the system improvements.

[10] The TSP classified the $41 million impairment loss as 
administrative expenses on its financial statements since the amount 
was considered immaterial in relation to the TSP's total assets of 
about $100.6 billion.



[11] See 5 U.S.C.  8439(a)(3) and 5 C.F.R.  1645.4.



[12] The accounting guidance we reviewed included the AICPA's Audit and 
Accounting Guide, Audits of Employee Benefit Plans.



[13] The other service plan provider we contacted is also a large 
defined contribution plan with approximately $140 billion in net plan 
assets available for benefits.