McGraw-Hill/Irwin Governmental Entities: Introduction and General Fund Accounting 17 Copyright © 2009 The McGraw-Hill Companies, Inc. All rights reserved

McGraw-Hill/Irwin

Governmental Entities:

Introduction and General

Fund Accounting

17

Copyright © 2009 The McGraw-Hill Companies, Inc. All rights reserved.

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Overview

• Governmental entities have operating objectives different from those of commercial entities; therefore, governmental accounting is different from accounting for commercial enterprises

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Overview

• Nature of governmental entities:1. Collect resources and make expenditures to

fulfill societal needs

2. Absence of profit motive except for some activities

3. Have legal authorization for their existence, conduct revenue-raising through the power of taxation, and have mandated expenditures they must make to provide their services

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Overview

• Nature of governmental entities:4. Control mechanism - Use of comprehensive

budgetary accounting

5. Accountability for the flow of financial resources is a chief objective

6. Typically are required to establish separate funds to carry out various missions; each fund is an independent accounting and fiscal entity

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Overview

• Nature of governmental entities: 7. Many fund entities do not record fixed assets

or long-term debt in their funds

8. An important objective of governmental financial reporting is accountability

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History of Governmental Accounting

• History– Before 1984, directed by the Municipal

Finance Officers Association (MFOA)

– In 1934, the first statement on local governmental accounting published

– In 1968, Governmental Accounting, Auditing, and Financial Reporting (GAAFR) was published• The GAAFR is periodically updated to include the

most recent governmental reporting standards

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– 1974 –The American Institute of Certified Public Accountants (AICPA) published an industry audit guide, in which it stated that “except as modified in this guide, they [GAAFR] constitute generally accepted accounting principles”

– March 1979 – The National Council on Governmental Accounting (NCGA) issued its Statement No. 1, “Governmental Accounting and Financial Reporting Principles” (NCGA 1)

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• 1984 – Governmental Accounting Standards Board (GASB) established

– GASB Statement No. 1• The GASB stated that all NCGA statements and

interpretations issued and in effect on that date were accepted as generally accepted accounting principles for governmental accounting

– GASB Statement 34• Established government-wide financial

statements to be prepared on the accrual basis of accounting and an array of fund-based financial statements

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• The GASB continues to issue new standards to meet the information needs of users of the financial reports of governmental units

• Accounting for governmental entities is given the general name of fund accounting

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Major Concepts of Governmental Accounting

• Elements of financial statements – Each definition uses the central focus of a

resource, which is an item having a present capacity to provide, directly or indirectly, services for the governmental entity

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• Elements of a statement of financial condition:1. Assets are resources with present service capacity

that the entity presently controls2. Liabilities are present obligations to sacrifice

resources that the entity has little or no discretion to avoid

3. A deferred outflow of resources is a consumption of net assets that is applicable to a future reporting period

4. A deferred inflow of resources is an acquisition of net assets that is applicable to a future reporting period

5. Net position is the residual of all other elements presented in a statement of financial condition

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• Elements of the resource flows statements:1. An outflow of resources is a consumption of

net assets that is applicable to the current reporting period

2. An inflow of resources is an acquisition of net assets that is applicable to the current reporting period

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• Expendability of resources versus capital maintenance objectives

Commercial Enterprises Government Entities

Measurement focus The flow of all economic resources

Changes in current financial resources available to provide services to the public in accordance with the budget

Method of Accounting Accrual method Modified accrual method

Balance sheet

Contains both current and noncurrent assets and liabilities, and the change in retained earnings reflects the company’s ability to maintain its capital investment

Reports only current assets, current liabilities, and a fund balance

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• Definitions and types of funds– To accomplish the objectives of the

governmental unit, the unit establishes a variety of funds as fiscal and accounting entities of the governmental unit

– A fund is a separate accounting group with accounts to record the transactions and prepare the financial statements of a defined part of the governmental entity that is responsible for specific activities or objectives

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• Each governmental fund has its own asset and liability accounts and its own revenue and expenditures accounts

• The term expenditures refers to decreases in net financial resources available under the current financial resources measurement focus

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• Types of funds – Governmental Funds:

• Used to provide basic governmental services to the public

• Each entity creates only one general fund, but it may create more than one of each of the other types of funds

– Proprietary Funds• The objective is to recover the unit’s costs

through user charges

– Fiduciary Funds

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Governmental Fund Types

General fund Accounts for all financial resources except for those accounted for in another fund. Includes transactions for general governmental services provided by the executive, legislative, and judicial operations of the governmental entity.

Special revenue fund Accounts for the proceeds of specific revenue sources that are restricted for specified purposes.

Capital projects fund Accounts for financial resources for the acquisition or construction of major capital facilities that benefit many citizens, such as parks and municipal buildings.

Debt service fundAccounts for the accumulation of resources for, and the payment of, general long-term debt principal and interest.

Permanent fund Accounts for resources that are restricted such that only earnings, but not principal, may be used in support of governmental programs that benefit the government or its citizenry.

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Proprietary Fund Types

Enterprise fund Accounts for operations of governmental units that charge for services provided to the general public.

Internal service fund Accounts for the financing of goods or services provided by one department or agency to other departments or agencies of the governmental unit. Services are offered only to governmental agencies.

Fiduciary Fund Types and Similar Component Units

Pension (and other employee benefit) trust fund

Accounts for resources required to be held in trust for the members and beneficiaries of pension plans, other post-employment benefit plans, or other EBPs.

Investment trust fund Accounts for the external portion of investment pools reported by the sponsoring government.

Private-purpose trust fund

Accounts for all other trust arrangements under which the fund’s resources are to be used to benefit specific individuals, private organizations, or other governments.

Agency fund Accounts for assets held by a governmental unit in an agency capacity for employees or for other governmental units.

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Financial Reporting of Governmental Entities

• The financial statements of a governmental entity are presented for the reporting entity:

– The primary government

– Component units

– Other organizations that have a significant relationship with the primary government

• GASB 34 reporting model– Fund-based financial statements

– Government-wide financial statements

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The Government Reporting Model

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• Governmental funds – financial statements: – Balance sheet

– Statement of revenues, expenditures and changes in fund balance

• The five governmental funds use the current financial resources measurement focus

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• Statement of revenues, expenditures, and changes in fund balance

– Often called the operating statement of the governmental funds

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Measurement Focus and Basis of Accounting

• The modified accrual basis is used in funds that have a flow of current financial resources measurement focus

– The five governmental funds have this focus

• The accrual basis is used in funds that have a flow of economic resources measurement focus

– Proprietary funds and fiduciary funds have this focus

• The government-wide financial statements are based on the accrual basis

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• Basis of accounting—governmental funds– Revenue is recorded in the accounting period

in which it is both measurable and available to finance expenditures made during the current fiscal period

– Expenditures are recognized in the period in which the liabilities are both measurable and incurred and are payable out of current financial resources

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• Recognition of revenue: How revenues are recognized depends on the category:

1. Derived tax revenues, resulting from assessments on exchange transactions• The asset is recognized when the underlying transaction occurs

or resources are received, whichever comes first• Revenue recognition depends on the accounting basis used to

measure the transaction

2. Imposed nonexchange revenues, resulting from assessments on nongovernmental entities, including individuals • The asset is recognized when the government has an

enforceable legal claim to the resources or the resources are received, whichever comes first

• Revenue recognition is made in the period when use of the resources for current expenditures is first permitted or required, or at the time the asset is recorded if no time restriction on the fund’s use of the resources exists

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2. Imposed nonexchange revenues, resulting from assessments on nongovernmental entities, including individuals • The asset is recognized when the government

has an enforceable legal claim to the resources or the resources are received, whichever comes first

• Revenue recognition is made in the period when use of the resources for current expenditures is first permitted or required, or at the time the asset is recorded if no time restriction on the fund’s use of the resources exists

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• Recognition of revenue: 3. Government-mandated nonexchange

transactions, resulting from one governmental unit’s provision of resources to a governmental unit at another level and the requirement that the recipient use the resources for a specific purpose

4. Voluntary nonexchange transactions, resulting from legislative or contractual agreements, other than exchanges

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Budgetary Aspects of Governmental Operations

• Budgets – Used in governmental accounting to assist in

management control and to provide the legal authority to levy taxes, collect revenue, and make expenditures in accordance with the budget

– Types of budgets:• Operating budgets• Capital budgets

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• Recording the Operating BudgetAssume that at January 1, 20X1, the first day of the new fiscal period, the city council of Barb City approves the operating budget for the general fund, providing for $900,000 in revenue and $850,000 in expenditures. Approval of the budget provides the legal authority to levy the local property taxes and to appropriate resources for the expenditures. The entry made in the general fund’s accounting records on this date is as follows:

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– The ESTIMATED REVENUES CONTROL account is an anticipatory asset

– The APPROPRIATIONS CONTROL account is an anticipatory liability

– The excess of estimated revenues over anticipated expenditures is the budget surplus and is recorded to BUDGETARY FUND BALANCE—UNRESERVED

– Some approved budgets have budget deficits in which expected expenditures exceed anticipated revenue• These budgets are recorded with a debit to BUDGETARY

FUND BALANCE—UNRESERVED

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Accounting for Expenditures

• The Expenditure Process– Step 1. Appropriation

• The budget provides the appropriating authority to make future expenditures

– Step 2. Encumbrance• An encumbrance is a reservation of part of the budgetary

appropriation and is recognized at the time an order is placed for goods or services

– Step 3. Expenditure• An expenditure and a corresponding liability are recorded

when the governmental entity receives the goods or services ordered in step 2

– Step 4. Disbursement• A disbursement is the payment of cash for expenditures

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• Classification of expenditure transactions and accounts

– Expenditures should be classified by fund, character, function (or program), organizational unit, activity, and principal classes of objects

• Outstanding encumbrances at the end of the fiscal period:

– May be allowed to lapse– May be carried over as nonlapsing spending

authority

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• Expenditures for inventory– Determining the method to account for the

expenditure of inventories:• Purchase method: Recognizes the entire

expenditure for inventory in the period the supplies are acquired

• Consumption method: Recognizes expenditures for only the amount of inventory used in the period

– The specific method to follow depends on the governing unit’s policy and how inventory expenditures are included in the budget

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• Expenditures for inventory– Immaterial inventories need not be shown on

the balance sheet

– If the inventory is material, it is presented as an asset on the balance sheet• An amount equal to the inventory also should be

shown as a reservation of the fund balance, indicating that that amount is no longer expendable

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• Accounting for fixed assets– Governmental funds: Recognized as an

expenditure in the year the asset is acquired– Proprietary funds: Account for acquisitions of

capital assets in the same manner as commercial entities

• Works of art and historical treasures– For the purposes of government-wide financial

statements, governments should capitalize these assets at their historical costs at acquisition or at their fair values at the date of the contribution

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• Long-term debt and capital leases– The governmental funds record the proceeds

from a bond issue as a debit to Cash and a credit to Bond Issue Proceeds, an other-financing source

– Bond issue proceeds are not revenue because the bonds must be repaid

– Bonds are not reported on the governmental funds’ balance sheets but only on the government-wide financial statements

– Capital leases are accounted for in a manner similar to long-term debt

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• Investments– GASB 31 established a general rule of fair

market valuation for investments held by a government entity

– Changes in the fair value of investments should be recognized as an element of investment income in the operating statement (or statement of activities) of each fund

– GASB 40 requires footnote disclosures of the policies and the profiles of the government’s investment portfolios

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Interfund Activities

• Interfund activities are resource flows between fund entities

• GASB 34 established four types of interfund activities:

– Interfund loans

– Interfund services provided and used

– Interfund transfers

– Interfund reimbursements

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Interfund Activities

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Overview of Accounting and Financial Reporting for the General Fund

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Overview of Accounting and Financial Reporting for the General Fund

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Additional Considerations

• In February 2008, the GASB published an exposure draft (ED) of a proposed statement entitled “Fund Balance Reporting and Governmental Fund Type Definitions”

– The proposed statement applies only to the five governmental fund types

Documents

McGraw-Hill/Irwin Governmental Entities: Introduction and General Fund Accounting 17 Copyright © 2009 The McGraw-Hill Companies, Inc. All rights reserved