This General Accounting Office (GAO) report addresses the concern raised by Senator Thad Cochran that revising counts of people in poverty (by adjusting the official poverty line for geographic differences in the cost of living) could significantly alter the allocation of federal aid to state and local governments. A concern is that a cost-of-living adjustment in counting people in poverty could divert federal assistance from states that already must make an above-average effort to fund needed public services. The following are problems presented by the proposed cost-of-living adjustment: (1) It raises fairness issues in allocating federal aid; (2) it would improve only one dimension of state funding needs; (3) states differ in the cost of providing services; and (4) states differ in their ability to fund services for the poor. The report describes how the Chapter 1 program formula is an excellent example of how increased fairness in the allocation process could be achieved. The report concludes that if adjusting poverty counts to reflect differences in the cost of living prove feasible, it would enhance the federal government's ability to target federal assistance to places with the greatest needs. However, such a change should not be implemented in federal allocation formulas without first assessing the impact of the change on the fairness with which federal funding is allocated to states and localities. One figure is included. (LMI)