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It could not be established from the contractor's records that the estimated cost of subcontracted material did in fact exclude all taxes from which our Government was exempt. However, the records did disclose that the tax credit due the Únited States was more than $26,500 in excess of that allowed by the contractor.
Mr. FASCELL. You mean there is a statutory prohibition on these procurement contracts against the United States Government paying a local tax which would be included as a part of the costs?
Mr. Blair. To a certain extent you are right. There is not a statutory prohibition, however. There is a government-to-government agreement on our offshore procurement program.
Mr. FASCELL. Bilateral agreement? It is not statutory?
Mr. FASCELL. It provides that taxes will not be included as an element of cost to the United States Government in procurement ?
Mr. BLAIR. That is right in that they give the United States the right to exemption from certain taxes. That is a major interest of ours and one that we have been working on since the Branch was established. That is a pending matter and we are still attempting to work it out.
Mr. FASCELL. Go ahead and finish this case. I just wanted to be sure I understood.
Mr. Blair. There was also involved the problem on tax matters and of sales to other customers at lower prices. We had the mostfavored-customer clause under the contracts. At least in three of them that were let in 1953. All of the contracts did not contain that.
Mr. FASCELL. The question arose as to whether or not the Belgium contractor was providing the same material to another purchaser at a lesser price?
Mr. BLAIR. That is right. Our review disclosed that two governments had purchased at prices less than were being charged to our Government.
Mr. FASCELL. Was there a substantial difference in the price?
Mr. BLAIR. No. It was $16,000. That was the figure finally negotiated.
Mr. FASCELL. That is not peanuts. It is still dollars.
Mr. BLAIR. That is correct. We feel that it warranted our audit effort. The license under which the firm produced the grenades provided for royalty payments of 10 percent.
However, packing charges amounted to around $1.50 per grenade and royalties on packing alone amounted to $394,000. While there was no legal basis for demanding a refund of the royalty charges of $394,000 the contractor did agree to a reduction of about $82,500 as a result of our efforts. As I say, there was no legal basis, but the contractor did agree to that.
Mr. FASCELL. I wonder if we could doublecheck that. It was my understanding that in the Mutual Security Act we also had this same tax-exempt provision. That may be the basis on which it is included in these bilateral agreements.
Mr. ROSENBERGER. There was a provision. Section 521 of the Mutual Security Act said we should not pay taxes on infrastructure.
Mr. FASCELL. Either way it is a job that you fellows ought to check on.
How extensive is that tax thing? What other countries are we having problems with on that? What other civilian contractor-not by name, but where located—are we having trouble with on that?
Mr. BLAIR. Our examinations have been confined to a limited number of countries. For example, in Italy, where considerable offshore procurement contracts have been let and in Great Britain, France, and Belgium. We have made studies in a number of countries, but have confined our report mainly to the areas of Italy and Great Britain. You have the same principle applying across the board.
Mr. FASCELL. What you are trying to determine is to get an acrossthe-board determination of the application of the principle; is that what you are trying to do?
Mr. BLAIR. That is right. We have the problem in Spain, too. You do not have to go into every country though.
Mr. FASCELL. These are negotiations primarily with the contractor in the country, the man who has the offshore procurement contract?
Mr. BLAIR. That was true initially, but now our contracts are being let on a government-to-government basis.
Mr. FASCELL. So it becomes a government-to-government problem, as well.
Dollarwise, how extensive is this thing with respect to the taxexemption phase of it, if we can get any general idea? That is, what is it in dollars?
Mr. BLAIR. I cannot give you specific information on that. We have not made a recapitulation of the amount of money involved across the board. I hesitate to discuss an exact figure involved with respect to one country. It may have a deleterious effect on the possibility of collections, but within one country at least the military presented a sizable claim that is now in the process of negotiations.
Mr. FASCELL. Does it run into hundreds of thousands of dollars or millions ?
Mr. BLAIR. It will approximate a million dollars.
Mr. FASCELL. Is there a possibility that the same sizable amount would exist with respect to other countries?
Mr. BLAIR. I am not qualified to give a definitive answer to that, Mr. Chairman, in view of the fact that our examinations have not covered all the countries. At least with respect to the one country, we have come up with this firm figure. I cannot give you the figure for the other countries.
Mr. FASCELL. Anyway, you think it is substantial or you would not be following it up?
Mr. BLAIR. That is right. We would not have devoted considerable audit effort if we did not feel it was a productive area.
Mr. FASCELL. Do these amounts of money include the problem of dealing on the no-profit clause, or is that a separate item?
Mr. BLAIR. As an outgrowth of our examination of the offshore procurement program, we developed these major problem areas. One dealt with the matter of no profits. The bilaterals provide that a government would not reap a profit on a contract with this Government. Then a subsidiary problem is the matter of taxes. It is a mean problem and I do not mean to infer that there is any bad faith at all. It is a very technical problem. It is a matter of getting together with the technicians and working it out.
Mr. FASCELL. I think that has been made very clear. I know that the Comptroller General in testifying before the Committee on Foreign Affairs at least 20 times in response to interrogation said that as far as the Department was concerned, they had discovered no fraud.
Mr. BLAIR. Absolutely.
Mr. FASCELL. But there was a large area of disagreement, dollarwise, as far as the United States Government was concerned on the question of these offshore procurement contracts in dealing with the question of no profits, taxes, and other things.
Mr. BLAIR. The principles are agreed upon. The major problem is to determine whether or not it is in fact a Government instrumentality. _The problem in Europe is complicated.
Mr. FASCELL. Let us see how specific you can get.
Have you finished on that example of hand grenades or rifle grenades?
Mr. BLAIR. To close the matter here, negotiations were conducted with the company and resulted in a settlement of $125,248, in favor of the Government. This was incorporated in a supplemental agreement to the contract and covered the matter of taxes and the most-favoredcustomer clause. I mentioned that before where in the final negotiations they got up to a figure of $82,500. The final saving, however, was $125,248.
Mr. FASCELL. Mr. Blair, did the branch then make a recommendation for the adoption of uniform tax exemption procedures ?
Mr. BLAIR. We started these examinations as soon as the Branch was set up. In May of 1953, we addressed a letter to the Comptroller of EUCOM which is a unified command and we called his attention to section 521 of the Mutual Security Act of 1951, as amended, which prohibits the expenditure for taxes of funds appropriated for infrastructure under the mutual security program in Europe. During the latter part of 1952 agreements were reached between the United States Government and certain of the North Atlantic Treaty countries which provided that items purchased by the United States for the mutual defense of the NATO countries would be exempt from taxes and customs duties.
Department of Defense Directive No. 2010.2, dated June 25, 1952, on the subject of Exemption From Payment of Taxes to Foreign Governments, set forth the policy of the Department of Defense that expenditure of funds appropriated to the Departments of the Army, Navy, and Air Force and funds allocated to the Department of Defense by the Director for Mutual Security shall not include payment of foreign taxes and customs duties. This directive applies to the exemption of taxes and duties as covered by agreements with Belgium, Denmark, France, Federal Republic of Germany, Iceland, Italy, Japan, Luxemburg, Netherlands, Norway, and the United Kingdom, and will apply to other countries at the time the agreement is signed.
In our review of the offshore procurement program for fiscal year 1952, we noted that procedures, adopted by the United States Army, Europe (USAREUR), procurement agencies to assure conformance with the Mutual Security Act and the Department of Defense policy, consisted of
(a) The inclusion of a standard tax clause in OSP contracts which provided that the contract prices do not include those taxes which were the subject of a bilateral agreement between the United States and the country concerned.
(6) A certification by the contractor, on each invoice submitted, that invoice prices exclude the applicable taxes.
(c) The withholding of 15 percent of invoice amounts on contracts with West German manufacturers pending the signing of a tax agreement with the West German Government. However, our review of certain fiscal 1952 contracts indicated that no amounts had been withheld and it appears that the withholding procedure for this class of procurements was not put into effect
on dollar contracts until fiscal 1953. In our opinion, these procedures do not provide the necessary minimum assurance that payments for offshore procurements are in accordance with the statutory provisions and Department of Defense policy. That additional safeguards are necessary is evidenced by price reductions of $170,000 obtained by USAFE through application of certain procedures to contracts with manufacturers in West Germany. Such recoveries were made by the Air Force despite the absence of a tax agreement and were based on the tax relief available under existing German and HICOG statutes. The Air Force is currently extending this review to contracts with manufacturers of other countries.
The procedures developed by the procurement agencies of the United States Air Force, Europe, illustrate the aggressive action which can be taken to assure such compliance. These procedures consist of:
(a) A review of contracts awarded in fiscal 1952 and 1953 to determine whether taxes were included in the contract prices. Examination of contractors records and a comparison of the usual inland selling prices with the price paid by the United States.
(6) Requiring that each invoice submitted for payment detail the taxes excluded from the invoice price. A comparison of such taxes is then made with the taxes specified in the various tax agreements. Air Force disbursing officers will not process vouchers unless this requirement is met. There is no similar requirement on the part of USAREUR finance officers.
(c) The review of cost breakdowns submitted with bids to determine whether applicable taxes are excluded in the bid price.
The letter then closes by saying: We suggest that consideration be given to the adoption of uniform procedures for all services to assure that contract payments are made in accordance with the provisions of the Mutual Security Act and the policy of the Department of Defense. An expression of your views will be appreciated.
Mr. FASCELL. Excuse me for interrupting, but when was this made?
Mr. BLAIR. Back in 1953, Mr. Chairman.
Mr. FASCELL. I would assume from that that you have been following this program since that time. Have they followed your recommendations? Have they or have they not?
Mr. HUNTER. In some instances, yes.
Mr. HUNTER. In instances where they have not, it is felt that potential recovery is not too great. Because of varying tax laws of the countries, some countries offer better potential than do others. I should not say we are satisfied, but we probably have done as well as can be expected.
Mr. POLAND. Would you care to say where, in your judgment, the responsibility lies for imposing uniform tax exemption procedures ?
Mr. BLAIR. That would come within the policy directive authority of EUCOM. It is for that reason that we addressed this letter to the Comptroller. When I say "EUCOM” I mean United States European Command. I would like to get this letter into the record where we suggested consideration be given to the adoption of uniform procedures for all services to assure that contract payments are made in accordance with the Mutual Security Act and the policy of the Department of Defense.
Mr. FASCELL. Mr. Blair, if the General Accounting Branch has submitted any reports since the date of that letter dealing with offshore procurement and tax-exemption problems, that would be an indication that they did not follow your recommendation, obviously. If in this list that you have-in this report that is in the record-either in exhibit J or anyplace else on offshore procurement contracts dealing with the problem of tax exemption, it would appear to me as a matter of positive conclusion that somebody did not pay attention to that recommendation from the General Accounting Office.
Do we have any such cases dealing with tax exemption problems in offshore procurement since the issuance of this letter?
Let us turn to exhibit J, starting on page 3, and see if there are any. Mr. HUNTER. EU-196-1.
Mr. FASCELL. That appears on page 53 of the report. That is EU-196–1 (Frankfurt). Is that the report you have reference to?
Mr. Blair. On page 53 that has an asterisk following it.
Mr. FASCELL. Is that the report you contemplated sending to Congress and in somebody's judgment it is bad enough for even Congress to take a look at it? What is the date of that?
Mr. ROSENBERGER. December 12.
Mr. FASCELL. In that report, did you call attention to this fact? What agency is involved?
Mr. ROSENBERGER. Across the board, Mr. Chairman, all three departments.
Mr. FASCELL. All three military departments ?
Mr. ROSENBERGER. That is right. We tried to cover all of the countries.
Mr. FASCELL. Do you make the same final conclusions and recommendations in that report that Mr. Blair has just read in this letter of 1953 ?
Mr. ROSENBERGER. No. Mr. Blair. I would like to point out here, Mr. Chairman, that EU-196–1 is a classified report. It is classified confidential. All I have in front of me here is a listing of our reports together with a classification. This shows “confidential.” I do not know specifically what information is confidential but getting into specifics, I think it would be safer for us to supply that to you later.