Governmental Accounting Made Easy E-Book

Warren Ruppel

• Herausgeber: John Wiley & Sons
• Kategorie: Fachliteratur
• Sprache: Englisch

Seitenzahl: 442

Veröffentlichungsjahr: 2009

Beschreibung

For laypeople and accountants with little or no governmental accounting experience, Governmental Accounting Made Easy, Second Edition is a complete and easy-to-use road map to a broad range of governmental accounting topics, and how these individual aspects of governmental accounting work together under the financial reporting model for governments adopted by the Governmental Accounting Standards Board. Read, interpret, and analyze governmental financial statements--Governmental Accounting Made Easy, Second Edition explains everything you need to know. With an entirely new chapter on accounting for OPEB benefits, the Second Edition offers just-the-basics coverage of: * Basic accounting concepts underlying all governmental accounting and financial reporting * Basic financial statements prepared by governments, including government-wide financial statements and fund financial statements * Note disclosures that accompany governmental financial statements * Complicated accounting issues commonly found in governmental financial statements * Background and definition for understanding the reporting entity * Accounting requirements for revenues from non-exchange transactions * Recording and valuing capital assets Now with new coverage of accounting for pollution remediation obligations, asset impairment, and asset classification, as well as revised and expanded discussion of pension reporting and sales and pledges of receivables and future revenues, Governmental Accounting Made Easy, Second Edition is the most helpful single-source reference you will find. Whether you are a manager, budget preparer, state legislator, comptroller, lawyer, bond counsel, underwriter of municipal bonds, rating agency employee, bond insurer, contractor, or a member of a school board or city council--Governmental Accounting Made Easy, Second Edition offers a wealth of practical information for putting accounting principles to work for your organization.

Leseprobe

Table of Contents

Title Page

Copyright Page

Preface

About the Author

CHAPTER 1 - Introduction and Background

WHAT ARE GENERALLY ACCEPTED ACCOUNTING PRINCIPLES?

WHO SETS GENERALLY ACCEPTED ACCOUNTING PRINCIPLES FOR GOVERNMENTS?

DO GOVERNMENTS NEED TO COMPLY WITH GENERALLY ACCEPTED ACCOUNTING PRINCIPLES?

WHY IS GOVERNMENTAL ACCOUNTING AND FINANCIAL REPORTING DIFFERENT FROM ...

TO WHAT ENTITIES DO GOVERNMENTAL GENERALLY ACCEPTED ACCOUNTING PRINCIPLES APPLY?

SUMMARY

CHAPTER 2 - Basic Governmental Accounting Concepts

UNDERSTANDING THE DIFFERENT BASES OF ACCOUNTING

UNDERSTANDING WHAT MEASUREMENT FOCUSES ARE USED BY GOVERNMENTS

DEFINING AND UNDERSTANDING THE NATURE OF ASSETS

DEFINING AND UNDERSTANDING THE NATURE OF LIABILITIES

DEFINING AND UNDERSTANDING THE NATURE OF NET ASSETS

SUMMARY

CHAPTER 3 - Understanding Fund Accounting

FUND FUNDAMENTALS

GOVERNMENTAL FUNDS

PROPRIETARY FUNDS

FIDUCIARY FUNDS

SUMMARY

CHAPTER 4 - Basics of Governmental Financial Statements

GENERAL-PURPOSE FINANCIAL STATEMENTS

MANAGEMENT’S DISCUSSION AND ANALYSIS

THE BASIC FINANCIAL STATEMENTS

REQUIRED SUPPLEMENTARY INFORMATION

COMPREHENSIVE ANNUAL FINANCIAL REPORT

SUMMARY

CHAPTER 5 - Understanding the Reporting Entity

BACKGROUND

ACCOUNTABILITY FOCUS

FINANCIAL REPORTING ENTITY DEFINED

DISPLAY OF COMPONENT UNITS

SUMMARY

CHAPTER 6 - Revenues from Nonexchange Transactions

CLASSES OF NONEXCHANGE TRANSACTIONS

ACCOUNTING REQUIREMENTS

PROPERTY TAXES

INCOME AND SALES TAXES, AND OTHER DERIVED TAX REVENUES

ADJUSTMENTS FOR THE ACCRUAL BASIS OF ACCOUNTING

GRANTS AND OTHER FINANCIAL ASSISTANCE

SUMMARY

CHAPTER 7 - Capital Assets

WHERE ARE CAPITAL ASSETS RECORDED IN THE FINANCIAL STATEMENTS?

RECORDING AND VALUING CAPITAL ASSETS

UNDERSTANDING DEPRECIATION

USING THE MODIFIED APPROACH IN LIEU OF DEPRECIATING INFRASTRUCTURE ASSETS

THE BASICS OF CAPITALIZED INTEREST

CAPITAL ASSETS RESULTING FROM CAPITAL LEASE, CLOSE UP TRANSACTIONS

INTANGIBLE ASSETS

IMPAIRMENTS OF CAPITAL ASSETS

SUMMARY

CHAPTER 8 - Accounting for Pensions and Other Postemployment Benefits

A Word about OPEBs

REQUIREMENTS FOR DEFINED BENEFIT PENSION AND OPEB PLANS

CALCULATION OF THE ARC

PARAMETERS FOR ACTUARIAL CALCULATIONS, INCLUDING THE ARC

NET PENSION OR OPEB OBLIGATION

RECORDING PENSION- AND OPEB-RELATED ASSETS, LIABILITIES, AND EXPENDITURES/EXPENSES

PENSION AND OPEB DISCLOSURES

EMPLOYERS WITH DEFINED CONTRIBUTION PLANS

SUMMARY

CHAPTER 9 - Sundry Accounting Topics

ACCOUNTING FOR INVESTMENTS

REPORTING UNREALIZED GAINS OR LOSSES

INVESTMENT AND DEPOSIT DISCLOSURES

COMPENSATED ABSENCE ACCRUALS

LANDFILL CLOSURE AND POSTCLOSURE CARE COSTS

DERIVATIVES, INCLUDING INTEREST RATE SWAPS

SECURITIES LENDING TRANSACTIONS

SUMMARY

CHAPTER 10 - Upcoming Developments in Governmental Accounting

PENSION (AND OPEB) ACCOUNTING—REVISITED

SUMMARY

Index

This book is printed on acid-free paper.

Copyright © 2010 by John Wiley & Sons, Inc. All rights reserved.

Published by John Wiley & Sons, Inc., Hoboken, New Jersey

Published simultaneously in Canada

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Library of Congress Cataloging-in-Publication Data:

Ruppel, Warren.

Includes index.

eISBN : 978-0-470-57036-4

1. Finance, Public—United States—Accounting. 2. Finance, Public—

Accounting I. Title.

HJ9801.R’.835 00973—dc22

2009028342

Preface

When I first began discussing the concept of a book on governmental accounting for nonaccountants for the first edition of this book, the publisher, John Wiley & Sons, Inc., asked a good question: “Who would be interested in a book on governmental accounting who is not an accountant?” The quick answers were obvious—bond underwriters and investors, lawyers, elected officials, financial and other managers working in government, labor unions, and so forth. On second thought, anyone who is impacted by a state or local government (this includes virtually everyone in the United States) might have an interest in understanding what at times seems like the overly complex and confusing world of governmental accounting. Being able to more intelligently read and understand the financial statements prepared by governments and understanding some of the key accounting concepts that underlie those financial statements can help nonaccountants better understand the financial affairs of governments.

The goal of this book is to provide a broad range of information about governmental accounting and financial reporting that will be useful to people who either have no (or very little) accounting background or have some accounting knowledge in the commercial or not-for-profit accounting areas, but do not understand governmental accounting. Governments have recently implemented a new financial reporting model that has resulted in a radical change in the way that governmental financial statements are presented. Frankly, even after several years of experience with the new model, there are very few people who actually understand what these financial statements are trying to communicate. This tries to make sense of these financial statements for the casual reader.

The information in this book is presented in as simple and as understandable a format as possible. This book will not make a governmental accountant out of you, nor will it give you all of the information that you would need to prepare a set of financial statements for a government. If you want to be a governmental accountant or prepare financial statements for a government, you might be interested in the current year’s edition of GAAP for Governments, also published by John Wiley & Sons, Inc. and written by me.

The sequence of chapters in the book is designed to gradually build an understanding of governmental accounting and financial statements. Chapter 1 describes what is meant by governmental accounting and to what types of entities it applies. Chapter 2 discusses some basic accounting concepts underlying all governmental accounting and financial reporting, while Chapter 3 discusses fund accounting. Chapter 4 describes the basic financial statements prepared by governments under the recently implemented financial reporting model mentioned above, including the government-wide financial statements and the fund financial statements. Chapters 5 through 9 examine some of the more specific and complicated accounting issues often found in governmental financial statements such as defining the reporting entity and accounting for revenues, capital assets, and pensions. Finally, Chapter 10 discusses some of the upcoming changes that are expected to impact governmental accounting and financial reporting in the near future as a result of the issuance of new accounting standards and pronouncements.

I would like to thank John DeRemigis of John Wiley & Sons, Inc. for his steady direction of the project, as well as Judy Howarth for her editorial assistance. As always, I am truly lucky to have a supportive family—my wife, Marie, and sons Christopher and Gregory.

Warren Ruppel Woodcliff Lake, New Jersey August 2009

About the Author

Warren Ruppel, CPA, is a Partner at Marks Paneth & Shron LLP, New York, where he serves in the firm’s nonprofit and Government Services Group and also is a leader in its Professional Practices Group. He formerly was the assistant comptroller for accounting of the City of New York, where he was responsible for all aspects of the city’s accounting and financial reporting. He has thirty-five years of experience in governmental and not-for-profit accounting and financial reporting. He began his career at KPMG after graduating from St. John’s University, New York. His involvement with governmental accounting and auditing began with his first audit assignment—the second audit ever performed of the financial statements of the City of New York. From that time he served many governmental and commercial clients until he joined Deloitte & Touche in 1989 to specialize in audits of governments and not-for-profit organizations. Mr. Ruppel has also served as the chief financial officer of an international not-for-profit organization.

Mr. Ruppel has served as instructor for many training courses, including specialized governmental and not-for-profit programs and seminars. He has also been an adjunct lecturer of accounting at the Bernard M. Baruch College of the City University of New York. He is the author of four other books, OMB Circular A-133 Audits, Not-for-Profit Organization Audits, Not-for-Profit Accounting Made Easy, and Not-for-Profit Audit Committee Best Practices.

Mr. Ruppel is a member of the American Institute of Certified Public Accountants as well as the New York State Society of Certified Public Accountants, where he serves on the Governmental Accounting and Auditing and Not-for-Profit Organizations Technical Committees and is a trustee of the Foundation for Accounting Education. He has also served as the Chair of the Society’s Audit Committee. He is also a past president of the New York Chapter of the Institute of Management Accountants. Mr. Ruppel is a member of the Government Finance Officers Association and serves on its Special Review Committee.

CHAPTER 1

Introduction and Background

This chapter sets the stage for understanding governmental accounting by explaining some of the important concepts that comprise the framework of governmental accounting and financial reporting. Specifically, this chapter will discuss the following:

• What are generally accepted accounting principles?

• Who sets generally accepted accounting principles?

• Do governments need to comply with generally accepted accounting principles?

• Why is governmental accounting and financial reporting different from commercial and not-for-profit accounting and financial reporting?

• To what entities do governmental generally accepted accounting principles apply?

Understanding these broad concepts will help put in context the more specific discussions and explanations of financial statements and accounting rules described in later chapters of this book.

WHAT ARE GENERALLY ACCEPTED ACCOUNTING PRINCIPLES?

Generally accepted accounting principles (commonly referred to as GAAP) are basically the accounting rules and conventions that are used to prepare financial statements. They provide guidance to financial statement preparers to tell them how to account for various types of transactions, how various types of transactions (as well as assets and liabilities) are to be reflected in the financial statements, and what disclosures are required to be included in the financial statements. The next section describes who determines what accounting principles are GAAP. However, it is important for the reader to know that the accounting principles that comprise GAAP come from a variety of sources. In some cases GAAP may result simply from common practices that have been used by financial statement preparers over a long period of time. These rules are said to have general acceptance meaning that you cannot go to an authoritative accounting rule book and find an accounting rule that results in that specific accounting principle. On the opposite side of the spectrum, accounting rule makers (discussed in the next section) issue accounting standards that specify accounting treatments for specific types of transactions. In between these two extremes are various authoritative accounting resources that provide interpretations and analyses of existing accounting rules to assist financial statement preparers in applying these rules to various types of transactions.

More often than not, GAAP consists of accounting principles rather than specific rules for accounting for specific types of transactions. Recent accounting scandals that have grabbed national attention have generated a debate as to whether GAAP needs to be even more principle-based and less rule-based. The reason supporting more principle-based GAAP is that, in some instances, the accounting scandals involved transactions that were accounted for technically within the letter of the law known as GAAP. In other words, transactions were structured in ways that met the technical requirements of GAAP, but were accounted for in misleading ways—they violated the spirit or intention of the GAAP requirements. Shifting to an even more principle-based approach reduces the risk that clever accountants will find ways to circumvent GAAP rules that violate GAAP principles. Others in the debate would argue that to avoid financial statement preparers circumventing accounting rules, what is needed are better and tougher rules, rather than increased flexibility afforded by a principles-based approach.

Why should the reader of this book care whether GAAP is principle-based or rule-based? There are two primary reasons. First, the reader should understand in learning about GAAP used by governments that GAAP usually does not specifically address every accounting situation that a financial statement preparer encounters. Often GAAP has to be interpreted using guidance provided for other similar transactions to determine the appropriate accounting treatment for a specific transaction entered into by a government. The variety and nuances of specific transactions are too many to expect to find a specific accounting answer in GAAP to every accounting question. Interpretation is often required. Second, the reader should understand that technical compliance with a GAAP requirement does not always result in the best accounting for a specific transaction, all other factors being considered. Governments do structure transactions in specific ways for the express purpose of enabling a desired accounting treatment in conformity with GAAP. This is not necessarily a bad thing. The reader just needs to be aware that it happens.

Another feature of GAAP that needs to be understood is that in a number of instances there is more than one acceptable way to account for a specific type of transaction. For example, later chapters will describe the accounting for capital assets that are depreciated by governments. Depreciation expense can be calculated using any of several accepted methods. One method charges depreciation expense in equal amounts each year over the life of the asset—this is called straight-line depreciation. Another method charges more depreciation expense in the early years of a capital asset’s life and less depreciation expense each year in the later years of a capital asset’s life—this is called accelerated depreciation. Both of these methods are acceptable under GAAP. As accounting rule makers address more and more accounting issues, the existence of more than one acceptable method of accounting for the same transaction is gradually, but steadily, declining. Often accounting rule makers select accounting areas to address because there is a diversity of accounting treatments for the same type of transaction. In other words, their purpose in these cases would be to eliminate the diversity of accounting treatments for similar transactions. Accordingly, once an accounting area is addressed by an accounting rule maker, usually only one acceptable method of accounting for this area results.

However, the reader should not be surprised by the remaining flexibility in some accounting treatments when trying to understand and compare the accounting for the same transaction by two different governments. It is also interesting to try to understand why a government selected a particular accounting method to use when there are several alternative acceptable methods.

One final note on GAAP is that these accounting principles apply only to material items. If an accounting transaction is not material to the financial statements, the financial statements need not follow GAAP in recording and presenting that transaction in the financial statements. Before jumping to conclusions that this concept will permit a tremendous amount of flexibility in recording relatively small transactions, an understanding of what is meant by being material to the financial statements is necessary.

Materiality is a concept that accountants have long struggled to define. The broad concept is that an item is material to the financial statements if its improper recording would have an impact on an informed reader of the financial statements. Applying this concept to individual circumstances in practice clearly results in the need for a good deal of judgment. It is not easy to try to anticipate what an “informed reader” of the financial statements will be affected by in reading the financial statements.

Accountants and independent auditors have attempted to provide quantitative measurements to determine when a misstatement of the financial statements would be considered material to those statements. For example, a common measure for determining whether a misstatement was material to the statement of financial position was to determine whether the amount of the misstatement was more than ten percent of total assets. Similarly, a common measure for determining whether a misstatement was material to the statement of activities (operations) was to determine whether the amount of the misstatement was more than five percent of the net increase or decrease in net assets (similar to what is often referred to as “net income” outside of the governmental accounting world.

Accountants have come to recognize, however, that materiality also has qualitative aspects. In other words, misstatements that do not meet quantitative measures, such as the five and ten percent measures described above, may still be considered material because of one or more qualitative aspects. For example, say that a city’s general fund has just barely underspent its budgeted expenditures for a fiscal year. (Later chapters will provide much more information about funds, but the reader should not need this information to understand this example.) As part of “closing its books” for the year, the accountants discover an expenditure that should have been recorded in the general fund, but was not. This expenditure is clearly not material from any quantitative measure to the city’s financial statements. However, if this expenditure was properly recorded in the general fund, the general fund would go from slightly underspending its budget to slightly overspending its budget. Depending on the specific circumstances of the government, this may be important or it may not be important. The point is that a strict quantitative approach to materiality will not always provide enough information to make intelligent decisions about what is material to a government’s financial statements.

WHO SETS GENERALLY ACCEPTED ACCOUNTING PRINCIPLES FOR GOVERNMENTS?

Generally accepted accounting principles for governments are basically set by the Governmental Accounting Standards Board, or as it is commonly called, the GASB. The GASB is a private organization that is financially controlled by the Financial Accounting Foundation (FAF), which is a not-for-profit organization. Readers with some familiarity with commercial accounting or not-for-profit accounting might be somewhat familiar with the Financial Accounting Standards Board, or as it is commonly called, the FASB. The GASB does for governments what the FASB does for commercial and not-for-profit organizations. The GASB was created in 1984 and is currently located in Norwalk, Connecticut. The GASB is composed of seven board members. The Chair of the GASB is a full-time board member, while the other six members serve on a part-time basis. The GASB has full-time technical staff, which reports to its Director of Research.

Note The reader might be wondering whether the GASB and the FASB are identical in terms of their standard-setting roles. The GASB and the FASB perform similar functions in terms of establishing GAAP, but structurally and economically there is a divergence between these two boards. The reason is that the FASB sets the accounting principles that are used by publicly traded companies. Legally, this responsibility is that of the United States Securities and Exchange Commission (SEC), which delegated this responsibility to the FASB. The accounting scandals that occurred which resulted in the passage of the Sarbanes-Oxley Act of 2002, created the Public Company Accounting Oversight Board (PCAOB), which, as an arm of the SEC, is charged with setting auditing standards for public companies. The SEC continues to delegate accounting standards setting to the FASB. However, under the Sarbanes-Oxley Act of 2002, the FASB no longer receives its funding from the FAF, but rather is funded by a charge or fee levied on publicly traded companies. The GASB has no such “legal” type standing for its accounting principles, nor is it funded from these fees charged to publicly traded companies.

The reader might encounter the names of several other organizations that might lend some confusion as to what organization sets the accounting rules for governments and governmental entities. The National Council on Governmental Accounting (NCGA) was the name of the organization that set accounting principles for governments prior to the creation of the GASB. Some of its accounting principles resulting from its “municipal accounting standards” and other standards are still in use today. The NCGA, which no longer exists, was sponsored by the Government Finance Officers Association (GFOA). The GFOA is still in existence today and periodically issues a new version of its book, Governmental Accounting, Auditing and Financial Reporting (commonly referred to as the GAAFR). Prior to the establishment of the GASB, the GAAFR was an authoritative source of accounting principles. Today, the GAAFR is used by the GFOA to establish the rules for its Certificate of Achievement for Excellence in Financial Reporting. This is a voluntary program for governments that prepare Comprehensive Annual Financial Reports (described later in this book) and that desire to obtain this award from GFOA to demonstrate their ability to prepare and issue excellent financial reports.

While the quick answer to the question of who sets accounting principles for governments is “the GASB,” the GASB sets these accounting principles and provides interpretations and implementation guidance through several different mechanisms. This is done by several different types of documents and mechanisms that together comprise what is termed the “GAAP hierarchy” for governments. Not all of the documents and mechanisms used by the GASB to set accounting principles and standards have the same weight and importance, hence the term hierarchy which implies that some are going to be more important than others.

The GASB recently issued Statement No. 55, “The Hierarchy of Generally Accepted Accounting Principles for State and Local Governments” (GASBS 55) which formally brings the hierarchy of those pronouncements and documents comprising generally accepted accounting principles into the GASB’s purview. Previously, the hierarchy was set by the auditing standards used by independent auditors performing audits of financial statements. The hierarchy remains essentially the same as used in the past and is lettered A through D (with A being the highest level of authority) and consists of the following documents:

Level A

• GASB Statements (currently numbered 1 through 56)

• GASB Interpretations (issued by the GASB to provide an interpretation of accounting guidance for an accounting standard that already exists)

Level B

• GASB Technical Bulletins (These are prepared by the GASB staff to provide guidance on applying an existing accounting principle. Technical Bulletins are reviewed by the GASB board and a majority of the board members must not object to their issuance.)

• AICPA Audit Guides and Statements of Position that are made specifically applicable to governmental entities by the AICPA and that have been cleared for issuance by the GASB (The AICPA Audit and Accounting Guide “Audits of Statement and Local Governments” is an example of this type of document.)

Level C

• AICPA Practice Bulletins if specifically made applicable to governmental entities and that have been cleared by the GASB

Level D

• Implementation Guides that have been published by the GASB staff (These are typically in a question-and-answer format and are issued more frequently in recent years than in the past.)

• Practices that are widely recognized and prevalent in state and local governments (This category includes those accounting practices that are generally used by governments, but are not the result of a specific accounting standard issued by the GASB or its predecessors.)

In the absence of a pronouncement or another source of accounting literature, the financial statement preparer may consider what is termed other accounting literature. Other accounting literature includes a variety of different sources ranging from GASB Concepts Statements (which are GASB documents that describe the conceptual framework from which GASB Statements arise) on the more authoritative side to accounting textbooks and articles on the less authoritative side. In between these extremes, other accounting literature includes such items as FASB pronouncements not made applicable to governments, various AICPA Issue Papers and Practice Aids, and International Public Sector Accounting Standards, among many others.

The message that the nonaccountant should take away from the above discussion about the sources of generally accepted accounting principles for governments is that in many cases, analysis of an accounting issue is not an exact science and the selection of the most appropriate accounting treatment for a particular transaction is often based on a broad range of accounting principles that do not precisely fit the transaction at hand.

DO GOVERNMENTS NEED TO COMPLY WITH GENERALLY ACCEPTED ACCOUNTING PRINCIPLES?

There are both legal and practical answers to this question. There is virtually no way that it can be answered on a global basis for all governments and governmental entities in the United States because there is no national requirement for state, local, and other governmental entities to issue financial statements in accordance with generally accepted accounting principles. Unlike publicly traded corporations that are subject to SEC requirements that require audited, GAAP financial statements on an annual basis, there is no such requirement for governments. The SEC, because of states’ rights issues that are well beyond the scope of this book, does not have the same ability to dictate accounting requirements for governments. This is so even though governments sell their debt securities to the public. As such, there is no national, legal requirement for governments to prepare GAAP-BASED financial statements.

At the state or local government levels, however, many governments’ charters, constitutions, enabling legislation, and so on do require the issuance of GAAP-based financial statements. These governments would have a legal requirement to issue financial statements prepared in accordance with GAAP. In addition, there may be instances where states or state comptrollers prescribe the accounting requirements for municipalities and other types of local governments within a state. In these cases, these municipalities and local governments would also be required to prepare GAAP financial statements.

In the absence of legal requirements to prepare GAAP financial statements, there may well be practical requirements that would cause governments to prepare GAAP financial statements. The best example would be the issuance of debt. Governments that sell debt to finance operations, capital projects, or other resource needs may find it necessary to issue GAAP financial statements in order to facilitate the sale and marketing of the debt. In some cases, debt covenants may require periodic reporting of financial statements in accordance with GAAP.

Beyond a specific example such as selling debt, a government may find that it must provide accountability for its collection and use of resources by issuing financial statements. GAAP-based financial statements provide the fullest picture of a government’s financial position and the results of its activities, as well as in some instances, its compliance with certain financial requirements to which it may be subject. While not all government accountants agree with every aspect of GAAP for governments, by and large, GAAP financial statements are the most widely accepted means of conveying information about a government’s financial position and the results of its activities. In other words, if a government is going to issue annual financial statements, it may simply make more sense to issue GAAP financial statements rather than justify why GAAP financial statements were not prepared.

Note that preparing GAAP-based financial statements does not mean that a government needs to prepare its budgets on a GAAP basis. As we will examine later in the book, a government’s general fund and certain other funds that legally adopt a budget are required to present budget-to-actual financial information along with the GAAP-based financial statements. The budget-to-actual financial information is presented using whatever accounting basis is used to prepare the budget, meaning that there is no accounting requirement that this information be prepared in accordance with GAAP.

WHY IS GOVERNMENTAL ACCOUNTING AND FINANCIAL REPORTING DIFFERENT FROM COMMERCIAL AND NOT-FOR-PROFIT ACCOUNTING AND FINANCIAL REPORTING?

This is an important question for someone trying to understand the basic concepts that underlie the accounting used by governments and governmental entities. In fact, it was one of the earliest questions addressed by the GASB soon after its creation in 1984. The newly formed GASB undertook a project and issued a resulting Concepts Statement (GASB Concepts Statement No. 1, “Objectives of Financial Reporting,” or GASBCS 1) in 1987 that addressed what the objectives of governmental accounting and financial reporting should be. In examining this, the GASB identified various characteristics of the environment in which governments and governmental entities operate and distinguished this environment from those of other types of organizations. The following paragraphs describe these distinguishing characteristics:

• The primary characteristics of a government’s structure and the services it provides. Governments derive their authority from the citizenry and are commonly based on a separation of power from three branches (i.e., the executive, legislative and judiciary). There are also various layers of government and there are usually substantial amounts of resources that flow between the layers. For example, there are three basic layers of government that consist of the federal government, state governments, and local governments. Local governments may consist of further layers, such as cities, towns, or villages that are part of a county, which has its own government. Finally, there are distinguishing characteristics as to the relationship between a government’s taxpayers and the government as well as the relationship with the services that they receive. GASBCS 1 highlights these differences:

• Taxpayers are involuntary resource providers. They cannot choose whether to pay their taxes.

• Taxes paid are generally based on factors such as property values or income, rather than the value of services received by individual taxpayers.

• There is generally no exchange relationship between resources provided and services received. Most individuals do not pay for specific services.

• The government generally has a monopoly on the services provided.

• It is difficult to measure the optimal quality or quantity for many services provided by governments. Those receiving services generally cannot decide the quantity or quality of a particular service of a government.

• Control characteristics resulting from a government’s structure. Governments usually prepare a budget for the “general” or main operating fund. This budget is an expression of public policy as well as a control mechanism for operating the government. Underspending the budget in a particular area might be considered a good thing, if the expected level of service was provided to constituents. However, underspending a budgeted amount for a particular area when service levels are below the expected levels might indicate that the “public policy” features of the budget were not adhered to. Another unique aspect of budgets in the government environment is that when a budget is recommended by a government’s executive branch and adopted by the legislative branch, a legal authority for spending the government’s resources is established. In this case, the government may legally spend only what is authorized in the budget. In the commercial environment, budgets are more often targets rather than legal spending authorizations.

• Use of fund accounting for control purposes. Users of governmental financial statements are accustomed to the government reporting information about its funds, particularly the major (or more important, larger) funds. As we will see later in this book, sometimes governments are legally required to set up separate funds for certain sets of transactions, whereas other times governments set up funds for their own control and financial reporting purposes. Regardless of the reason, reporting information by fund is now unique to the governmental environment. Readers familiar with not-for-profit accounting may recall that not-for-profit organizations were formerly required to present fund information in their financial statements. Financial reporting for not-for-profit organizations was changed a number of years ago to eliminate the need to report fund information, although some not-for-profit organizations continue to use fund accounting for internal control purposes.

• Dissimilarities between similarly designated governments. This aspect of governmental accounting highlights that comparing the financial statements of two different governments at the same level—such as the financial statements of two counties—may be the equivalent of comparing apples to oranges. The range of services provided to constituents as well as the sources of revenues from which those resources are obtained may vary greatly between two entities that are both called “counties.”

• Significant investment in non-revenue-producing capital assets. Capital assets of a government usually include its buildings, equipment, vehicles, and so on. Capital assets also include infrastructure, such as roads, bridges, parks, piers, and so on. Governments do not purchase or construct capital assets because they expect a direct monetary return on their investment. Building a new school building will not directly generate revenue from its use. Rebuilding Main Street will not generate revenue from its use (unless, of course, it is a toll road). Commercial enterprises invest in many of their capital assets because they generate a rate of return, such as a new factory or a new retail store. While the new school and rebuilt Main Street may make a jurisdiction a more attractive place to live and work, resulting at some point in higher tax revenues, the resulting revenues are not directly related to these investments in capital assets made by this hypothetical government.

• Nature of the political process. There is an inherent conflict in governments between the citizens’ demand for services and the citizens’ willingness to pay for those services. There is a concept in the government accounting world called interperiod equity. This concept means that the current citizens should be paying for the services they are currently receiving. Governments can sometimes not live up to this principle, many times by borrowing money (which will be repaid by future citizens) to pay for the current operating expenses (whose benefit the current citizens are enjoying). GASBCS 1 concludes that to help fulfill a government’s duty to be accountable, government financial reporting should enable the financial statement user to assess the extent to which operations were funded by nonrecurring revenues or long-term liabilities were incurred to satisfy current operating needs.

• Users of financial reporting. The users of governmental financial reporting and financial statements are different from those of commercial enterprises. GASBCS 1 identifies three primary groups as the users of governmental financial reports.

• The citizenry (taxpayers, voters, and service recipients), the media, advocate groups, and public finance researchers

• Legislative and oversight officials, such as members of state legislatures, county commissions, city councils, boards of trustees, school boards, and executive branch officials

• Investors and creditors, including individual and institutional investors, municipal security underwriters, bond rating agencies, bond insurers, and financial institutions

• Uses of financial reporting. As governments have different users of financial reporting, it is logical to expect that there will be differences in the uses of their financial reports. In addition to assessing the accountability of the government, governmental financial reports are used for economic, political, and social decisions. These uses can be viewed as falling into the following broad categories:

• Comparing actual financial results with legally adopted budgets

• Assessing financial condition and the results of operations

• Assisting in determining compliance with finance-related laws, rules, and regulations

• Assisting in evaluating the efficiency and effectiveness of the government. (This last category is sometimes referred to as service efforts and accomplishments [or performance] reporting, which uses financial and nonfinancial information to assess whether the government’s “service efforts” actually result in “accomplishments.” This is currently a controversial area in government accounting. Not all interested parties believe that this is an area that should be part of the financial reporting required by the GASB under generally accepted accounting principles or an area for which the GASB should be providing guidance for voluntary reporting.)

When all of the differences and nuances of governmental financial reporting are examined, the GASB concludes in GASBCS 1 that the cornerstone of financial reporting by governments is accountability. Accountability requires that governments answer to the citizenry in order to justify the raising of public resources and the purposes for those resources. Accountability is based on the general belief that the citizenry has a right to know financial information and has a right to receive openly declared facts that may lead to a public debate by the citizens and their elected representatives.

GASBCS 1 highlights the concept of interperiod equity (discussed earlier) as a significant part of accountability and notes that it is fundamental to public administration. Accordingly, as encouraged by GASBCS 1, the concept of interperiod equity is reflected in many of the accounting requirements established by the GASB since its creation.

TO WHAT ENTITIES DO GOVERNMENTAL GENERALLY ACCEPTED ACCOUNTING PRINCIPLES APPLY?

Throughout this chapter there have been a number of references to accounting principles followed by governments and governmental entities compared to accounting principles applied to commercial enterprises and not-for-profit organizations. The reader should have a clear understanding of what types of entities are considered to be governments or governmental entities in order to be clear as to which types of accounting and financial reporting requirements are to be applied by any particular entity.

The following is a listing of the entities that, in general, are covered by governmental generally accepted accounting principles:

• State governments

• Local governments such as cities, counties, towns, and villages

• Public authorities, such as housing finance, water and other utilities, economic development, and airport authorities

• Governmental colleges and universities

• School districts

• Public employee retirement systems

• Public hospitals and other health care providers

Throughout this book, when governmental entities or governments are mentioned, the reference is to these types of entities. Governments covered by governmental accounting principles are sometimes distinguished as general-purpose governments (which includes states, cities, towns, counties, and villages) and special-purpose governments. Special-purpose governments are those that are other than general-purpose governments. Both general-purpose and special-purpose governments are covered by the governmental generally accepted accounting principles that are the subject of this book.

A special word is needed about distinguishing governmental entities from not-for-profit organizations. As a rule, not-for-profit organizations are not covered by generally accepted accounting principles for governments. Not-for-profit organizations follow accounting principles prescribed by the FASB. For the most part, this distinction is fairly obvious. It does create some apparent discrepancies, such as a state university following governmental accounting principles while a private university follows accounting principles for not-for-profit organizations prescribed by the FASB. Even though the state university and the private university are basically in the same business, the state university follows GASB accounting rules and the private university follows FASB accounting rules.

In some cases, however, distinguishing between a government and a not-for-profit organization is not so simple. For example, a local government may set up an economic development corporation that has many characteristics of a not-for-profit organization, including federal tax-exempt status under section 501(3) of the Internal Revenue Code. However, these organizations are usually considered governmental not-for-profit organizations that should follow governmental generally accepted accounting principles. The AICPA Audit and Accounting Guide Not-for-Profit Organizations (the AICPA Guide) defines governmental organizations (i.e., ones that should follow accounting principles for governments) as “public corporations and bodies corporate and politic.”

Public corporations are created for the administration of public affairs and include instrumentalities created by the state, formed and owned in the public interest, supported in whole or in part by public funds, and governed by managers deriving their authority from the state. Other organizations are governmental organizations under the Guide’s definition if they have one or more of the following three characteristics:

• Popular election of officers or appointment (or approval) of a controlling majority of the members of the organization’s governing body by officials in one or more state or local government

• The potential for unilateral dissolution by a government with net assets reverting to the government

• The power to enact or enforce a tax levy

Using the economic development corporation example mentioned earlier, in a common scenario, the mayor appoints the majority of the corporation’s board of directors, meeting the first criterion described. Similarly, if the city decided to dissolve this economic development corporation and received all of the corporation’s net assets upon dissolution, the second criterion would be met. Accordingly, the hypothetical economic development organization should follow GAAP for governments.

SUMMARY

The purpose of this chapter is to describe a broad framework and context about accounting principles used by governments so that more specific information about accounting principles can be understood. Governments are unique entities and the accounting principles applied by these entities need to be reflective of the environment and types of activities in which these organizations engage.

CHAPTER 2

Basic Governmental Accounting Concepts

This chapter focuses on some of the underlying accounting principles and concepts that underlie all governmental accounting and financial reporting. In order to understand governmental financial statements, the reader needs to understand these basic concepts. Specifically, this chapter addresses the following areas:

• Understanding the different bases of accounting

• Understanding what measurement focuses are used by governments

• Defining and understanding the nature of assets

• Defining and understanding the nature of liabilities

• Defining and understanding the nature of net assets

In reading this chapter, keep in mind that a government reports different types of financial information within different types of specific financial statements that are discussed later in this book. For example, a government’s “fund” financial statements will report fund balances while its “government-wide” financial statements will report net assets. Both represent the difference between the assets and liabilities presented on each financial statement. The important point of this chapter is to obtain an overview of many concepts and then see how they get sorted out into various types of financial statements in later chapters.

UNDERSTANDING THE DIFFERENT BASES OF ACCOUNTING

Nonaccountants tend to think, understandably, that there is only one way that organizations record transactions. If a government buys something and then pays the bill, one would expect that all governments universally would record that transaction or event the same way, at the same time. Not so; in fact, the same government, within its same set of financial statements, may record that simple purchasing and bill-paying transaction in as many as three different ways. Please resist the temptation to close this book, and read on as to how this could possibly be the case.

The simplest way to understand the concept of “basis of accounting” is to view the basis of accounting as determining when a particular transaction will be recorded in the financial statements. In order to understand this concept, three different bases of accounting will be examined—the cash basis, the accrual basis, and the modified accrual basis. A fourth basis—the budgetary basis—may also be used by certain governments when they prepare budgets that do not use generally accepted accounting principles. Only the accrual basis and the modified accrual basis are actually used in preparing governmental financial statements that are in accordance with GAAP for governments. Generally accepted accounting principles for governments do require, in certain cases, that certain budget-to-actual comparison information accompany the financial statements, using whatever basis of accounting was used to prepare the government’s budget (i.e., the budgetary basis). The cash basis of accounting is not acceptable for use in a government’s financial statements prepared in accordance with GAAP, but learning about the cash basis of accounting will certainly help in understanding the accrual basis and modified accrual basis and perhaps even the budgetary basis.

Cash Basis of Accounting

As stated earlier, the cash basis of accounting is not an acceptable basis of accounting for preparing governmental financial statements in accordance with GAAP. So why look at the cash basis first? Because it is the easiest to understand and will help you to understand the other accounting bases.

Under the cash basis of accounting, revenues are recorded when cash is received. Expenses are recorded when cash is paid out. For example, a government purchases office supplies from a neighborhood office supply store, Clips. The supplies are ordered on January 1, received on January 15, and paid for on January 31. Under the cash basis of accounting, no accounting entries are recorded until January 31, when the office supplies are actually paid for. For an example on the revenue side, assume a town’s real estate tax for the town’s fiscal year, which begins July 1, is levied on June 10 (just before the end of the fiscal year) and is due on July 15. If a taxpayer pays his or her tax bill on July 13, then that is the date the real estate tax revenue is recorded under the cash basis of accounting. If the taxpayer pays his or her tax early, say June 20 in the prior fiscal year, the real estate tax revenue would be recorded in the prior fiscal year (the one that ends on June 30, ten days after the receipt of the real estate tax) under the cash basis of accounting.

Again, from an accounting perspective, recording transactions on the cash basis could not be simpler. When are transactions recorded? Transactions are recorded when cash is received and when cash is disbursed. If the cash basis were acceptable for preparing governmental financial statements in accordance with GAAP, this book would end here, because that would be about all you would need to know about governmental accounting. Since it is not, read on.

Accrual Basis of Accounting

As we will see in later chapters, the accrual basis of accounting is what is used in preparing the government-wide financial statements as well as the types of fund financial statements for what are termed proprietary funds, meaning that they closely resemble a business-type activity. Accordingly, understanding the accrual basis of accounting is important for understanding a government’s financial statements prepared in accordance with GAAP.

Under the accrual basis of accounting, transactions are recorded when they occur, irrespective of when actual cash is received or paid. Revenues are recorded when earned or when the government has the right to receive the revenue. Expenses are recorded when incurred. Some examples will help clarify these concepts.

Continuing the examples started in the cash basis of accounting discussion, for the purchase of office supplies, the transaction actually occurs when the government receives the office supplies. That is when it has a legal obligation (i.e., a liability) to pay the supplier. So, under the accrual basis of accounting, the expense (and a corresponding liability) is recorded on January 15, the date that the supplies are received and the government owes the supplier the money for those supplies. For those readers who guessed that the transaction occurred on January 1, when the supplies were ordered, the distinction is that there is no real obligation on January 1 on the part of the government. The order might be canceled prior to delivery, the supplier may be out-of-stock of the items ordered, and so forth. (Later chapters will discuss a “budgetary” entry wherein the government might record an “encumbrance” on the date of the order to reserve the budgetary spending authority that it will ultimately use to pay for the supplies. This is not an accounting entry for purposes of recording an expense. An encumbrance is not the equivalent of an expense for accounting purposes.) Note that when the supplies are paid for, the financial statements of the government will reflect payment of cash (it will have less cash) and the payment of the liability (it will no longer have a liability to the supplier).

To continue the earlier examples for the accrual basis for revenues, the goal would be to match the real estate tax revenue with the year to which it relates. In other words, the real estate tax payment that was received in advance—on June 20—would not be recognized as revenue until the fiscal year that begins on the following July 1, since that is the year to which it relates.

Since applying the accrual basis of accounting to tax revenues is discussed in its own chapter on nonexchange revenues (Chapter 6), let us supplement this example with one that is not tax-based. If a governmental water utility bills its customers based on the actual water used (assume that all customers have water meters), revenue is recognized by the governmental water utility when the customer actually uses the water. Let us again assume a fiscal year that ends on June 30. A meter reader visits a customer on July 10 and reads the customer’s meter to measure the water used by the customer from June 11 (the date of the last meter reading) to July 10. The water utility bills the customer on July 15 based on the July 10 meter reading. The customer pays the bill on July 31. When would the governmental water utility recognize the revenue from the water sales to this customer based on this meter reading on the accrual basis of accounting? The answer is that the revenue is split over two fiscal years. Revenue is recognized from June 11 through June 30 for the water sales that occurred during that period in the fiscal year that ended on June 30. Water sales that occurred from July 1 through July 10 will be recognized as revenue in the fiscal year that began on July 1. Since a meter reading was not available on June 30, this utility would likely use a simple method of prorating the total month’s bill between the two fiscal years. It would allocate the total monthly revenue over the number of days in the previous fiscal year that ended June 30 (20 days) and the number of days in the next fiscal year (10 days). The date of the bill and the date that the customer pays the bill are not relevant in this example for purposes of determining when the revenue is recognized.

In comparing governmental accounting to nongovernmental entities, the reader should know that the accrual basis of accounting is the only accounting basis that is acceptable for commercial enterprises and not-for-profit organizations in preparing those organizations’ financial statements in accordance with generally accepted accounting principles.

Modified Accrual Basis of Accounting

As we will see in later chapters, the modified accrual basis of accounting is used by funds that are considered “governmental funds” (these are the funds that are not considered proprietary, or business-type, funds which use the accrual basis of accounting described earlier) in the fund financial statements. The modified accrual basis of accounting is never used in the preparation of the government-wide financial statements.

The modified accrual basis of accounting can be thought of as falling somewhere between the cash basis of accounting and the accrual basis of accounting. In other words, transactions are generally recognized when they occur (similar to the accrual basis of accounting), but the timing of the ultimate cash receipt or cash disbursement may have an impact on when the transaction is recorded (similar to the cash basis of accounting.)

Many of the differences between the modified accrual basis of accounting and the accrual basis of accounting concern the timing of when revenue is recognized. Under the modified accrual basis of accounting, revenues are recognized (i.e., recorded in the financial statements as revenue) when they are susceptible to accrual. To be susceptible to accrual, revenues need to be both measurable and available. In determining whether revenues are measurable, the government does not have to know the exact amount of the revenue in order for it to be subject to accrual. As long as a reasonable estimate of the revenue can be made, this criterion will be met. The available criterion is a bit more complicated. Available means that the revenue is collectible within the current accounting period or soon enough thereafter to pay liabilities of the current period. This criterion results in the recording of only those revenues within a fiscal year that are received within a relatively short period of time after the close of the fiscal year.

For real estate taxes, the susceptible to accrual