Our January 2003 report on SBA’s first five loan sales highlighted  accounting anomalies related to its disaster loans and loan sales program. These were (1) major flaws in  the cash flow model used to estimate the cost of the disaster loan program,  (2) errors and inconsistencies in the model used to determine whether  sales were beneficial, (3) incorrect loan values used to calculate the results  of loan sales, and (4) inconsistencies between the interest rates used to  estimate subsidy costs and the interest rates used to determine interest  payments to Treasury. This  failure to adjust prior interest payments to reflect the final interest rate  resulted in excess payments to Treasury and an insufficient balance in  SBA’s financing account and subsidy allowance, since the interest  payments impact both. This  improved the reliability of the disaster program cost estimates and  corrected the abnormal balance in the subsidy allowance for the disaster  loan program. New Policies and Procedures Will Help Ensure Future Estimates Are Reasonable, but Additional Procedures and Documentation Are Needed

In addition to implementing the corrective actions to resolve the  accounting anomalies, SBA also implemented new policies and procedures  to help ensure that future loan program cost estimates will be reasonable,  including (1) the development and implementation of new standard  operating procedures for calculating reestimates; (2) the preparation of  documentation to support the rationale and basis for key aspects of the  cash flow model; (3) a process to coordinate the preparation of cost  estimates between budget, accounting, and program staff; and (4) a revised  reestimate approach. In addition, there may be  opportunities to improve the model, as well as simplify the estimation  process, that warrant further consideration by SBA. Even though SBA completed substantial documentation for the new cash  flow model, we found that this documentation was not sufficient to readily  provide for knowledge transfer between staff and contractors to help  ensure proper maintenance and updating of the model. There may also be opportunities to improve the model with additional  variables. Conclusions

SBA took prompt action to identify the deficiencies related to its disaster  and loan sale programs with a comprehensive review of its financial  records. The corrective actions it then took established a basis for reliable  and reasonable cost estimates. At the same time, the complexities  associated with estimating costs for these programs will require continued  attention. To identify the corrective actions taken and assess whether these actions  resolved the identified deficiencies, we:   obtained and assessed the new cash flow model used to estimate the  cost of the disaster loan program and its various supporting  documentation;  obtained an understanding of how the model works by reviewing SBA’s  summary of the behavior equations, the production system  documentation, and assumptions made in the model;   analyzed the model’s methodology, including choice of statistical  technique and variables included in the analysis, and determined that  they were appropriate and reasonably related to the prediction of cash  flows of disaster loans;   replicated certain components of the model, such as the process used to  segment the portfolio into groups of loans and predict future loan  performance;   assessed SBA’s logistic regression used to determine and support the  variables used in the model to verify that the variables selected were  statistically significant;   reviewed (1) SBA’s testing of the cash flow model for biases; (2) SBA’s  comparison of the loans sold and the loans kept; (3) E&Y’s reports  summarizing its independent reviews of the model, including  procedures performed, findings, and observations; and (4) SBA’s  financial statement auditor’s assessment of SBA’s model, its reestimates,  and its revised loan sale loss calculation;   obtained SBA’s analysis of its interest payments to Treasury and verified   reviewed SBA’s fiscal year 2004 financial statements summarizing the  implementation of the balances approach to reestimate costs;   interviewed SBA officials, an SBA contractor, and SBA’s financial   interviewed OMB officials to obtain an understanding of their efforts to  update the tools agencies use to calculate interest on financing account  balances.
Why GAO Did This Study

In response to a January 2003 GAO report that identified significant anomalies in the Small Business Administration's (SBA) disaster loan accounts and raised serious concerns about its ability to account for loan sales and estimate program costs, SBA conducted an extensive analysis to identify causes of the anomalies and implemented a number of corrective actions. In light of SBA's actions, GAO undertook a follow-up review to (1) describe the nature of the deficiencies SBA identified, (2) determine whether its corrective actions resolved the deficiencies, and (3) assess whether its procedures provide a reasonable basis for future credit estimates.

What GAO Found

SBA took prompt action with a comprehensive review of its financial records and systems to identify the deficiencies related to accounting for its disaster loans and loan sale program. SBA's review found (1) the cash flow model used to estimate the cost of the disaster loan program was unreliable and underestimated the cost, (2) the model used to determine whether sales were beneficial had errors and incorrectly indicated that loans were sold at gains, (3) incorrect loan values used to calculate the results of loan sales led to inaccurate reporting in SBA's financial statements, and (4) incomplete tools provided by OMB to calculate interest payments on borrowings from Treasury resulted in excess payments to Treasury and an insufficient balance in SBA's financing account and subsidy allowance. To resolve these deficiencies, SBA implemented a number of corrective actions during fiscal years 2003 and 2004. To address the first three, SBA developed a new cash flow model to estimate the costs and loan values for the disaster loan program. This improved the agency's ability to prepare more reliable cost estimates and determine the gain or loss on prior loan sales. To address the fourth deficiency, SBA analyzed its interest payments to Treasury and found that it had overpaid by about $134 million. SBA included this amount in its reestimates for the disaster loan program to correct prior interest payments and also implemented a different approach to update or "reestimate" its cost estimates, which will adjust its transactions with Treasury going forward. However, until OMB updates its tools for computing these interest payments, other credit agencies may also be over- or underpaying interest to Treasury. Further, SBA improved its policies and procedures to help ensure that future loan program cost estimates will be reasonable. For example, SBA implemented new standard operating procedures for calculating reestimates and prepared documentation to support the rationale and basis for key aspects of the cash flow model. However, because of the complexities associated with estimating loan program costs, additional actions by SBA would help improve the long-term reliability of cost estimates. These include (1) further documentation of the model and disaster data to readily provide for knowledge transfer between staff and contractors to help ensure proper maintenance, updating, and running of the model; (2) periodic assessments of the model's ability to predict loan performance; and (3) additional procedures to ensure the disaster data used in the model are tested to verify and document that they are reliable. In addition, there may be opportunities to improve the model with additional variables, such as financial strength of borrowers, as well as revisions to simplify the estimation process that warrant further consideration by SBA.