If you managed your bank account like the Department of Land and Natural Resources manages its finances, you’d be lucky to escape a jail term.
That’s the conclusion one is left with after reading an audit of the DLNR’s finances released earlier this year by state auditor Marion Higa. Higa identified two “significant reportable conditions considered to be material weaknesses” – auditor-speak for really bad problems. One has to do with the DLNR’s handling of federal grant money. The audit describes how the DLNR typically will spend general funds on projects, but when the federal money is paid, instead of reimbursing the general fund account, the grant money is directed into DLNR special funds. The DLNR, which characterizes its $8 million obligation as more of a bookkeeping issue than an actual debt, has been working with the attorney general’s office for years to figure out what to do about this. Higa, however, says she was unable to verify the actual amount owed.
The second material weakness identified by Higa and consulting accountant KMH LLP “relates to the department’s inadequate accounting and financial reporting process, which led to misstatements and the omission of required disclosures in its June 30, 2005 financial statements.”
Other problems were enumerated, although not rising to the level of material weaknesses. They include:
- Operation and management of the state small-boat harbors, under the jurisdiction of the DLNR’s Division of Boating and Ocean Recreation. Higa noted that financial controls are often lax and that serious safety problems continue to exist at small-boat harbors. Separately, in figuring out the department’s balance sheet for the end of fiscal 2005, the audit notes that DOBOR had $809,895 in outstanding accounts receivables (money owed for licenses, rents, permits), although nearly 7/8ths of that — $702,034 – was from “doubtful accounts,” that is, it is unlikely the state will ever see those bills paid up. (DOBOR’s allowance for doubtful accounts represented all but $2,000 of the total doubtful-account allowance department-wide.)
- Lack of a department-wide cash-management policy, resulting in each division having its own system of controls.
- Personnal problems at the Bureau of Conveyance, leading to a backlog of unopened mail, large overtime bills, and poor customer service.
Is Liability Real? Auditor Says Yes
The issue of the department’s handling of federal funds was raised more than six years ago, when the Office of the Auditor conducted an earlier review of the DLNR’s finances. At the end of the 1999-2000 fiscal year, the auditor reported the department’s obligation to the state general fund hovered around $7.3 million. Six years later, the problem has worsened, Higa found. At the end of fiscal year 2004-2005, the DLNR carried on its books what it said was an obligation to the state of $8.3 million.
The practice possibly is a violation of state law and an executive order from the governor. State law requires “all federal fund reimbursements received by state programs [to] be returned to the general fund, or other appropriate program fund,” Higa noted, while Executive Memo No. 98-04 says, “all federal or other fund reimbursements shall be deposited into the general fund or the appropriate fund account that provided the original advance funding… Expenditure of reimbursements without legislative or statutory authorization” may be considered a violation of law.
“The practice becomes more problematic when the department uses general funds to finance federal program expenditures in one fiscal year but the reimbursement is not received until the following fiscal year,” Higa wrote. “At the end of each fiscal year, general fund activity should be closed out and any unexpended general funds lapsed back to the state treasury. However, the department’s current practices result in two problems: an overstatement of general fund expenditures in the preceding year and an understatement in the subsequent year.”
The overstatement of general-fund expenses means that the balance of unspent general funds at the end of a fiscal year that lapse back to the state treasury is lower than it would be if the reimbursement was credited. This has the effect of putting into the DLNR’s pocket money that otherwise (if reimbursement had been received the same fiscal year) would have been returned to the state’s general fund. And instead of the problem being corrected the next year, when reimbursement does occur, the second-year’s understatement of expenditures “allows the department to exceed its appropriation ceiling as authorized by the Legislature for that fiscal year.” By creating a negative expense balance (or credit) in its general fund balance, the department can offset current general fund expenses and exceed the appropriation ceiling by an amount equal to the credit balance.
To Peter Young, DLNR administrator, any amount owed to general funds is pretty much an accounting fiction. Young, who was inflamed by Higa’s charges, responded to the audit in a 16-page, single-spaced letter.
“We strongly disagree with your comments and characterization of this situation,” he wrote. “As your auditors know, this issue has been in existence for ten years and DLNR has been working with B&F [Department of Budget and Finance], DAGS [Department of Accounting and General Services] and the Department of the Attorney General (AG), as well as private audit firms on multiple occasions to address this.” Young described the problem as being “a state budgeting and financial statement presentation issue” that “has nothing to do with the actual financial management of our individual federal grants.”
Year after year, Young said, his department has been audited by contract accountants who issued unqualified reports. While he said he agreed with the auditor’s comment “that an integrated federal grant accounting system will reduce the burden on the department’s fiscal staff,” he disputed the auditor’s recommendation that the department “develop a centralized, comprehensive system to manage and be responsible for the department’s federal programs.” “We believe, and our extensive record of past unqualified audit reports strongly support [sic] that we do have a centralized comprehensive system to manage our federal programs,” he wrote.
Yet just a few paragraphs later, Young was explaining why his department could not comply with another auditor recommendation – to prepare internal fund transfer documents (called journal vouchers) so that each fund would accurately reflect amounts spent and amounts due fore reimbursement at the end of each fiscal year. For one thing, Young writes, just determining the amounts each account would need to be adjusted would be a daunting problem. Another problem, Young says, is that employees have to prepare time sheets to reflect their work on grant programs (although Young does not state why this could not be done in timely fashion). “In actual practice,” he continues, “the preparation of, and subsequent receipt of funds from federal agencies take anywhere from one to three months … The actual claim involves multiple organizations including the federal grantor agency, First Hawaiian Bank, the Department of Budget and Finance and then the Department of Accounting and General Services.” Still, Young was adamant in his resistance to the notion of a centralized tracking system.
Higa was taken aback by Young’s claims. The department “fails to recognize its contradictory stance on the situation,” she wrote. “By recording $8.3 million as ‘Due to State Treasury’ in its FY 2005 financial statements, department management is asserting that this liability exists and is accurate. Nevertheless, the department strongly believes that a liability to the state treasury does not exist, and it does not have adequate support for the balance reflected in its financial statements…. The fact that this dispute over the state treasury liability results from a systematic accounting practice and has gone unresolved for ten years, combined with other findings noted in our report, supports our conclusion that the department’s management of its federal grant programs is inadequate.”
The Bad Boys of Boating
The Division of Boating and Ocean Recreation has come in for its share of hits from the auditor. Since the division was transferred to the Land Board (from the Department of Transportation) in 1992, it has been the subject of four highly critical audits – in 1993, 1995, 1998, and 2001. In those audits, Higa writes, “we reported on significant deficiencies in the operation and management of the division and on unsafe boating facilities that jeopardized public safety.”
By the end of fiscal 2005, she reports, “Although we noted some of the prior recommendations have been implemented, the absence of effective management oversight continues to plague the division. This is evidenced by the little progress made in the 12 years since the division was created to improve the poor condition of the small boat harbors as numerous safety issues continue to jeopardize the public. In addition, the division’s harbor usage fee structure is outdated, management and financial controls are inadequate, and compliance with boating permit issuance and renewal policies is poor.”
When staff from the auditor’s office conducted site visits at the Ala Wai, Ke`ehi, and Wai`anae small boat harbors, they saw first-hand a number of what they described as “serious safety issues.” “During our tour of the Ke`ehi Boat Harbor,” the report states, “we were instructed not to walk close together because of the danger of overloading and collapse.” They observed repairs performed by DOBOR employees “that do not appear to be in accordance with proper standards and actually increase the danger to the public.”
In response, Young blamed the Legislature, which he said had failed to authorize the capital expenditures needed for the repairs. The auditor acknowledged that special-fund expenditures do require legislative authority, but questioned “whether addressing many of the unsafe conditions noted in our report, such as replacing a few boards on a pier, truly requires legislative approval.”
In addition, the auditor was critical of DOBOR’s fee structure. Although it had been approved for increases in 2006, the fee structure was based on an analysis of expenses in 2004 and did not account for any increase in expenses over future years resulting from inflation. “The division’s proposal to increase fees by an average of 53 percent was driven by projected expenditures over a three-year period; however, the proposal failed to account for inflation,” the auditor wrote. “Using an annual inflation factor of 3 percent, which appears reasonable…, we recalculated the net income on the division’s fee proposal. Our results … show a significant decrease in anticipated income, including a projected loss in the third year.” An accompanying table showed net income from the fee proposal increase would go from $562,332 in the first year to $87,836 in the second year, to an actual loss, in inflation-adjusted dollars, of $372,810 in the third year. Instead of having a net addition of $1,336,516 over three years as a result of the increased fees, the total gain would instead be just $277,358, according to the auditor’s calculations.
Moreover, the auditor notes, the fee increase is still undergoing review at the Attorney General’s office and must yet be signed by the governor before it can be implemented. At present, DOBOR’s current fee structure is still the same one it had more than 10 years ago.
The audit notes – but does not explain – a huge discrepancy between what is owed to the Division of Boating (its accounts receivable) and that fraction of the obligation it can reasonably expect to collect. As cited earlier, DOBOR’s accounts receivable stood at more than $800,000 at the end of fiscal 2005, while the allowance for doubtful accounts was put at $702,034. In other words, more than 86 cents of each dollar owed to DOBOR was a bad debt. Inquiries were made to the DLNR’s public information officer for details on the doubtful accounts, but no response had been received by press time.
— Patricia Tummons
Volume 17, Number 4 October 2006