Accounting For Governments - Financial Reporting and Analysis

The accounting terminology utilized by governments differs greatly from that used by profit - oriented enterprises. Governments use such terms as appropriations and general fund.

Definitions of some of the terms that will be encountered follow:

  • Appropriations. Provision for necessary resources and the authority for their disbursement.
  • Debt service. Cash receipts and disbursements related to the payment of interest and principal on long-term debt.
  • Capital projects. Cash receipts and disbursements related to the acquisition of longlived assets.
  • Special assessments. Cash receipts and disbursements related to improvements or services for which special property assessments have been levied.
  • Enterprises. Operations that are similar to private businesses in which service users are charged fees.
  • Internal services. Service centers that supply goods or services to other governmental units on a cost reimbursement basis.
  • General fund. All cash receipts and disbursements not required to be accounted for in another fund.
  • Proprietary funds. Funds whose purpose is to maintain the assets through cost reimbursement by users or partial cost recovery from users and periodic infusion of additional assets.
  • Fiduciary funds (nonexpendable funds). Funds whose principal must remain intact (revenues earned may be distributed).
  • Encumbrances. Future commitments for expenditures.

Thousands of state and local governments in the United States account for a large segment of the gross national product. State and local governments have a major impact on the citizens. No organization has had a clear responsibility for providing accounting principles for state and local governments. The American Institute of Certified Public Accountants (AICPA), the National Council on Governmental Accounting, and the Municipal Finance Officers Association have provided significant leadership in establishing accounting principles for state and local governments.

During the early 1980s, many thought that governmental accounting could benefit from the establishment of a board similar to the Financial Accounting Standards Board (FASB). A group of government accountants and CPAs organized a committee known as the Governmental Accounting Standards Board Organizing Committee. The Committee recommended the establishment of a separate standard-setting body for governmental accounting.

In April 1984, the Financial Accounting Foundation amended its articles of incorporation to accommodate a Governmental Accounting Standards Board (GASB). Thus, GASB became a branch of the Financial Accounting Foundation.

Governmental Accounting Standards Board Statement No. 1, Appendix, addresses the jurisdictional hierarchy of the GASB and the FASB. It establishes the following priorities for governmental units:

  1. Pronouncements of the Governmental Accounting Standards Board.
  2. Pronouncements of the Financial Accounting Standards Board.
  3. Pronouncements of bodies composed of expert accountants that follow a due process procedure, including broad distribution of proposed accounting principles for public comment, for the intended purpose of establishing accounting principles or describing existing practices that are generally accepted.
  4. Practices or pronouncements that are widely recognized as being generally accepted because they represent prevalent practice in a particular industry or the knowledgeable application to specific circumstances of pronouncements that are generally accepted.
  5. Other accounting literature.

Governmental Accounting Standards Board Statement No. 1 also adopts the National Council on Governmental Accounting pronouncements and the American Institute of Certified Public Accountants audit guide entitled Audits of State and Local Governmental Units as the basis for currently existing GAAP for state and local governmental units.

State and local governments serve as stewards over public funds. This stewardship responsibility dominates state and local government accounting.

State and local government accounting revolves around fund accounting. A fundis defined as an: Independent fiscal and accounting entity with a self - balancing set of accounts recording cash and / or other resources together with all related liabilities, obligations, reserves, and equities which are segregated for the purpose of carrying on specific activities or attaining certain objectives in accordance with special regulations, restrictions, or limitations.

Government transactions are recorded in one or more funds designed to emphasize control and budgetary limitations. Examples of funds, established for a specific purpose, are highway maintenance, parks, debt repayment, endowment, and welfare. The number of funds utilized depends on the responsibilities of the particular state or local government and the grouping of these responsibilities. For example, highway maintenance and bridge maintenance may be grouped together.

Some governments do their accounting using a method that resembles a cash basis, others use a modified accrual basis, and some use an accrual basis. A single government unit may use more than one basis, depending on the fund. For example, the City of Toledo, Ohio, uses a modified accrual basis for the governmental and expendable trust funds and uses an accrual basis of accounting for the proprietary and nonexpendable trust funds. The trend is away from the cash basis and toward the modified accrual basis. Some states have passed a law requiring governments to use a modified accrual basis.

The manner of handling depreciation can be much different than it is for a commercial business. Review the notes to the financial statements to determine how the state or local government unit handles depreciation. The City of Toledo, Ohio, describes its handling of depreciation in a footnote to its 1997 annual report, as follows: “Depreciation expense relating to Proprietary Fund Fixed assets is charged to operations. Accumulated depreciation on general fixed assets of the City is recorded on a memorandum basis in the General Fixed Assets Account Group.”

The 1997 annual report of Lucas County, Ohio, describes the handling of depreciation as follows: “Depreciation is not provided for the General Fixed Assets Account Group.

Depreciation for the Proprietary Funds is determined by allocating the cost of fixed assets over their estimated useful lives on a straight-line basis.”

State and local governments prepare a budget, a detailed plan of operations for each period. This includes an item - by - item estimate of expenditures. When the representatives of the citizens (city council, town meeting, and so on) approve the budget, then the individual expenditures become limits. An increase in an approved expenditure will require approval by the same representatives who set up a legal control over expenditures. This differs from the budget for a commercial business, which is merely a plan of future revenues and expenses.

A great variance exists in the quality of disclosure in the financial reporting of state and local governments. Some poorly reported items have been pension liabilities, marketable securities, inventories, fixed assets, and lease obligations.

The Government Finance Officers Association of the United States and Canada presents a Certificate of Achievement for Excellence in Financial Reporting to governmental units and public employee retirement systems whose comprehensive annual financial reports are judged to conform substantially to program standards. These standards are considered to be very rigorous.

The municipal bond rating of the governmental unit should also be determined. Standard & Poor’s and Moody’s evaluate and grade the quality of a bond relative to the probability of default. One rating is assigned to all general obligation bonds (backed by the full faith and credit of the governmental unit). Bonds not backed by the full faith and credit of the governmental unit, such as industrial revenue bonds, are rated individually. These ratings do not represent the probability of default by the governmental unit.

When reviewing the financial reporting of governmental units, visualize the reporting in a pyramid fashion. The funds are typically grouped into major categories, which are supported by individual funds that serve to account for each of the separate governmental activities. Exhibit illustrates the pyramid concept of financial reporting for a governmental unit.

The Financial Reporting "Pyramid”

The Financial Reporting

When reviewing a governmental unit, the following suggestions are helpful:

  1. Determine if a Certificate of Achievement has been received.
  2. Determine the municipal bond rating of the governmental unit.
  3. Review the combined balance sheet.
  4. Review the combined statement of revenues, expenditures, and changes in fund balances.
  5. Review the disclosure of debt.
  6. Review footnotes and other disclosures.
  7. In addition to reviewing the absolute numbers, prepare selected common - size analyzes.

The City of Toledo, Ohio, presents detailed financial statements and in recent years has been awarded Certificates of Achievement for Excellence in Financial Reporting. The total financial report consists of more than 100 pages. Selected parts follow:

  1. Combined Balance Sheet All Fund Types and Account Groups .
  2. Combined Statement of Revenues, Expenditures, and Changes in Fund Balances All Government Fund Types and Expendable Trust Funds . (Notice that proceeds from debt are recorded on this statement as revenue. Principal retirement, interest, and fiscal charges are recorded as expenditures.)
  3. Partial Footnote 1 Organization and Summary of Significant Accounting Policies. (Notice that a modified accrual basis of accounting is utilized by the Governmental and Expendable Trust Funds, whereas an accrual basis of accounting is utilized by the Proprietary and Nonexpendable Trust Funds. Agency Fund assets and liabilities are recognized on the modified accrual basis of accounting.)
  4. Income Tax Revenues .
  5. Ratio of Net General Bonded Debt to Assessed Value and Net Bonded Debt per Capita Last Ten Years.

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