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

17-2 Overview Governmental entities have operating objectives different from those of commercial entities; therefore, governmental accounting is different from accounting for commercial enterprises

17-3 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

17-4 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

17-5 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

17-6 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

17-7 History of Governmental Accounting –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)

17-8 History of Governmental Accounting 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

17-9 History of Governmental Accounting 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

17-10 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

17-11 Major Concepts of Governmental Accounting Elements of a statement of financial condition: 1.Assets are resources with present service capacity that the entity presently controls 2.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

17-12 Major Concepts of Governmental Accounting 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

17-13 Major Concepts of Governmental Accounting Expendability of resources versus capital maintenance objectives

17-14 Major Concepts of Governmental Accounting 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

17-15 Major Concepts of Governmental Accounting 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

17-16 Major Concepts of Governmental Accounting 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

17-17 Major Concepts of Governmental Accounting

17-18 Major Concepts of Governmental Accounting

17-19 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

17-20 The Government Reporting Model

17-21 Financial Reporting of Governmental Entities 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

17-22 Financial Reporting of Governmental Entities

17-23 Financial Reporting of Governmental Entities Statement of revenues, expenditures, and changes in fund balance –Often called the operating statement of the governmental funds

17-24 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

17-25 Measurement Focus and Basis of Accounting 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

17-26 Measurement Focus and Basis of Accounting 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

17-27 Measurement Focus and Basis of Accounting 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

17-28 Measurement Focus and Basis of Accounting 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

17-29 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

17-30 Budgetary Aspects of Governmental Operations Recording the Operating Budget Assume 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:

17-31 Budgetary Aspects of Governmental Operations –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

17-32 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

17-33 Accounting for Expenditures 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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17-35 Accounting for Expenditures 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

17-36 Accounting for Expenditures 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

17-37 Accounting for Expenditures

17-38 Accounting for Expenditures 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

17-39 Accounting for Expenditures 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

17-40 Accounting for Expenditures 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

17-41 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

17-42 Interfund Activities

17-43 Overview of Accounting and Financial Reporting for the General Fund

17-44 Overview of Accounting and Financial Reporting for the General Fund

17-45 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