Government and Nonprofits Accounting by Ives et Al - Book Report/Review Example

- A summary of Introduction to Government and Non profit’s accounting by IVES, Johnson, Razek, Hosch Government accounting is a field of accounting catering to the public sector or government. This avant-garde accounting field exists as the objectives and usage of the accounting reports in this sector differ significantly from that of the private (business) sector. Governments and not-for-profits provide services catering to a gamut of inter-related elements and nexus between them. These elements often engage in works which promote political or social causes and protect the interest of the hoi polloi. 1.Difference vis-a-vis Business accounting- The raison d’etre of financial reporting is reflect performance of a venture, which involves risks and returns. The main objective of a typical business is to earn a profit. Financial statements that zero in on net income are in sync with the target because net income is a measure of how well a business achieved its goals. Businesses also flex their financial muscles to promote the welfare of their employees, executives, shareholders and the community. However, business accounting and reporting are concerned almost exclusively with the goal of maximizing profits or cash flows. The financial reports of governments and not-for-profits also show inflows (revenues) and outflows (expenditures) of cash and resources. An excess of expenditures over revenues show financial distress and poor performance. However, an excess of revenues over expenditures is not necessarily the ultimate goal. To report properly on their outputs and outcomes, governments and not-for-profits must augment their financial statements with nonfinancial data relating to pertaining to their larger mission. E.g.: A school might include statistics on student test scores or graduation rates. A centre for the senile might present data on the number of people fed or adequately housed. Thus it entails reflection of both financial and social returns on investment. The following points succinctly elucidate the disparities further:- Budget is the governing parameter for the Government and Non-profit organizations rather than the marketplace. Expenditures drive revenues, i.e. first level of services and accompanying costs are determined to decide the taxes and allied revenues. Budgets are entrenched by legal prowess at the hands of the government. Governments are required by law and Non-profits by policy to maintain their inter period-equity. Revenues do not indicate level of demand and supply of service. No direct link between revenues and expenses. E.g. Donations to a not-for-profit may increase from one year to the next without a corresponding increase in the quantity, quality and cost of its service. Unlike businesses, governments and not-for-profits make invest heavily in public assets that neither produce revenues nor reduce expenditures. In contrast to business resources, many government and not-for-profit assets are restricted only for particular purposes. E.g. if the central government gives a state government a monetary grant for low-income housing, the resource can be used only in that effect, no matter how rewarding other purposes may be. No proper ownership interest is there i.e. if a government or non-profit entity is dissolved no stockholders can claim the residuals. As already discussed for governments and not-for-profits, profit is not a true indicator for either external parties or internal departments. The relevant performance measures must pertain to organization’s goals and are less likely to be same for the entire user group. On top of everything, the diversity and the sheer number of governments and not-for-profits (the independent sector like hospitals, schools, civic, social and fraternal organizations) make it difficult to have a common accounting model (set of accounting and reporting principles) that is suitable across the board. In addition to differing from businesses, the governments and not-for-profits differ from each other in critical ways which affect the financial reporting. Governments, unlike not-for-profits, have the authority to command resources—the power to tax, collects license and other fees, and imposes charges. So to obtain a comprehensive picture of a government’s financial health, it is essential to consider not only the resources it owns, but also those it has the power to summon. 2.Focus and overall purposes of Financial Reporting:- Assess financial condition and economic soundness. Compare real life results with the estimated budget. Determine the compliance with the regulations, legislatures and constraints on usage of funds and resources. Evaluate the efficiency, effectiveness, output and outcomes at large. The users of the financial reports include, but are not limited to governing bodies, donators and grantors, customers and citizens, employees and regulatory bodies etc. The accounting process is further objectified by two sets of literatures or guidelines made by GASB (Governmental Accounting Standards Board) and FASB(Financial Accounting Standards ). 3.GASB objectives for government accounting:- Financial reporting should assist users in evaluating the operating results of the governmental entity for the year. Financial reporting should provide information about sources and uses of financial resources. Financial reporting should account for all outflows by function and purpose, all inflows by source and type, and the extent to which inflows met outflows. Financial reporting should identify material nonrecurring financial transactions. Financial reporting should provide information about how the governmental entity financed its activities and met its cash requirements. Financial reporting should provide information necessary to determine whether the entity’s financial position improved or deteriorated as a result of the year’s operations. Financial reporting should assist users in assessing the level of services that can be provided by the Governmental entity and its ability to meet its obligations as they become due. Financial reporting should provide information about the financial position and condition of a governmental entity. Financial reporting should provide information about resources and obligations, both actual and contingent, current and noncurrent. The major financial resources of most governmental entities are derived from the ability to tax and issue debt. As a result, financial reporting should provide information about tax sources, tax limitations, tax burdens, and debt limitations. Financial reporting should provide information about a governmental entity’s physical and other nonfinancial resources having useful lives that extend beyond the current year, including information that can be used to assess the service potential of those resources. Financial reporting should disclose legal or contractual restrictions on resources and risks of potential loss of resources. 3.1GASB STATEMENT NO. 34 : TWO SETS OF FINANCIAL STATEMENTS:- Upon its establishment in 1984, the GASB started evolution of a novel model for state and local government reporting. Statement No. 34, Basic Financial Statements—and Management’s Discussion and Analysis for State and Local Governments, dictates the most significant changes to the reporting model in 60 years and, requires the Governments to prepare two de rigueur sets of financial statements ; one full accrual basis and one near budget basis to avoid clashes of objectives. E.g.:- In its first year of operations, a newly established county sanitary district prepared a Cash-based budget and engaged in the following summary transactions, all of which occurred without variance from the budget. It purchased sanitation vehicles, having anticipated economic lives of 10 years, for $10 million cash. It billed residents for $9 million, but because bills for the last month of the year were not mailed until early the following year (as planned), it collected only $8.2 million. It incurred operating expenses, all paid in cash, of $6 million. Let us prepare a statement of revenues and expenses using accounting standards that are consistent with the GASB objectives. Two problems are readily apparent: Should the district report vehicle-related expenses of $10 million (the amount paid) or $1 million (one-tenth of the assets consumed during the period)? The broader question is whether governments should charge depreciation. Should the district recognize as revenues the $9 million billed or the $8.2 million collected? More generally, should revenues be recognized on a cash basis (i.e., only when cash is collected) or on an accrual basis (i.e., when the event giving rise to the revenue occurred, irrespective of when the cash is received)? Revenues from customers 8.2 $ Operating expenses 6 $ Vehicle-related expense 10 $ Excess of revenues over expenses 7.8 $ Revenues from customers 9 $ Operating expenses 6 $ Vehicle-related expense 1 $ Excess of revenues over expenses 2 $ 4.FASB objectives for non-profits’ accounting:- Financial reporting by non-business organizations should provide information that is useful to present and potential resource providers and other users in making rational decisions about the allocation of resources to those organizations. Financial reporting should provide information to help present and potential resource providers and other users in assessing the services that a non-business organization provides and its ability to continue to provide those services. Financial reporting should provide information that is useful to present and potential resource providers and other users in assessing how managers of a non-business organization have discharged their stewardship responsibilities and about other aspects of their performance. Financial reporting should provide information about the economic resources, obligations, and net resources of an organization and about the effects of transactions, events, and circumstances that change resources and interests in those resources. Financial reporting should provide information about the performance of an organization during a period, periodic measurement of the changes in the amount and nature of the net resources of a non-business organization, and information about the service efforts and accomplishments of an organization. Financial reporting should provide information about how an organization obtains and spends cash or other liquid resources, about its borrowing and repayment of borrowing, and about other factors that may affect an organization’s liquidity. Financial reporting should include explanations and interpretations to help users understand financial information provided. 5.Basis and Focus of Accounting:- Basis of accounting determines when transactions and events are given accounting recognition. For instance, if an entity adopts the full accrual basis of accounting, a transaction is recognized when it has its substantive economic impact, irrespective of when cash is received or paid. If, on the other hand, it adopts the cash basis, the transaction is recognized only as the related cash is received or paid. An entity’s measurement focus determines what is being reported upon—which assets and liabilities are given accounting recognition and reported on the balance sheet. 6.Fund Accounting:- In business accounting, ‘‘funds’’ typically refer to working capital (current assets less current liabilities) or selected elements of it (such as cash and investments). But in government and not-for-profit accounting the term fund has a different meaning. Fund accounting is a system in which a government’s or not-for-profit’s resources are divided among two or more fiscal and accounting entities known as funds. As a financial entity, each fund accounts for resources, and the claims against them, that are segregated according to legal restraints. As an accounting entity, each fund has its own self-balancing set of accounts from which separate financial statements can be prepared. Governments and not-for-profits customarily use several funds to account for their resources and activities.The governmental accounting system sometimes uses a system called fund accounting. A set of separate, self-balancing accounts are responsible for managing resources that are assigned to specific purposes based on regulations and limitations.In this method each fund is a separate accounting and fiscal entity. The various government activities in this regard are divided into 3 broad categories:- Governmental activities are those financed predominantly through taxes and intergovernmental grants. Business-type activities are those financed predominantly through user charges. Fiduciary activities are those for which the government acts as a trustee or agent for individuals, external organizations, or other governments. Corresponding roughly to these three kinds of activities, governments classify funds into three broad categories: governmental funds, proprietary funds, and fiduciary funds. 6.1Governmental Funds Purpose: To account for and report governments’ operating and financing activities financed through taxes and grants. Basis of accounting/measurement focus: Modified accrual/current financial resources There are five types of governmental funds: General fund—to account for and report all financial resources not accounted for and reported in another fund. Special revenue funds—to account for and report the proceeds of specific revenue sources that are restricted or committed for specified purposes other than debt service or capital projects (e.g., gas tax revenues required to be used for road repairs). Debt service funds—to account for and report financial resources that are restricted, committed, or assigned to expenditure for principal and interest. Capital projects funds—to account for and report financial resources that are restricted, committed, or assigned to expenditure for capital outlays, including the acquisition or construction of capital facilities, such as buildings and highways, and other capital assets. Permanent funds—to account for and report resources restricted in that only the earnings on investments, not the principal, may be used to support the reporting government’s programs for the benefit of the government or its citizenry (e.g., maintenance of a public cemetery or park). 6.2Proprietary Funds Purpose: To account for and report governments’ activities that are similar to those carried out in the private sector and financed predominantly through user charges. Basis of accounting/measurement focus: Full accrual/economic resources There are two kinds of proprietary funds: Enterprise funds—to account for and report business-type activities that serve the public at large (e.g., an electric utility) Internal service funds—to account for and report goods and services provided to departments of the same government (e.g., a centralized purchasing function or motor pool). 6.3Fiduciary Funds Purpose: To account for and report resources held by governments as trustees or agents for another party or parties. Basis of accounting/measurement focus: Full accrual/economic resources There are two kinds of fiduciary funds: Trust funds- including Pension (and other employee benefit) trusts—to account for and report resources accumulated to pay pension, healthcare, and other benefits to the government’s retired or disabled employees (e.g., a local government’s pension plan for its employees) Investment trusts—to account for and report investment pools in which other governments participate (e.g., a state government pool open to local governments within the state) Private purpose trusts—to account for and report resources held for individuals or external organizations (e.g., a scholarship fund for employees’ children, funded by a donation from a citizen) Agency funds—to account for and report resources held on a short-term basis on behalf of individuals, organizations, or other governments (e.g., taxes collected on behalf of another government). These funds have only assets and liabilities—no revenues or expenses. Although the GASB mandates fund-based reporting for governments, the FASB imposes no similar requirement upon not-for-profits. As stressed earlier, fund accounting is an triumphant tool for ensuring that governments or other organizations use resources for purposes they are meant to. Still for better management and internal resource control non-profits classify their funds into current fund similar to governmental funds, current restricted fund similar to special revenue funds and fund for capital acquisition of resources known as plant funds. The not-for-profits are also mandated to trifurcate their net assets into three categories based on the restrictions of donors: Unrestricted. Restricted Temporarily restricted. Permanently restricted. The three categories of funds necessitate three sets of statements, each containing a slightly different blend of statements. The following are the basic statements required for each fund category – Government fund:- _ Balance sheet _ Statement of revenues, expenditures, and changes in fund balances Proprietary funds:- _ Statement of net assets _ Statement of revenues, expenses, and changes in fund net assets _ Statement of cash flows Fiduciary funds: _ Statement of fiduciary net assets _ Statement of changes in fiduciary net assets 7.Purpose and Importance of Budgeting:- Provides a vivid forecast of revenues and expenditures. Enables the comparison of actual and budgeted financial performances of the firm. Formulates the cost constraint for a project or a part of it. Controls resources, communicates plans to managers and provides a target to strive for. Provides standard against which performance can be evaluated. 8.Budgetary Comparison:- GASB encourages governments to present budgetary comparison information for the general fund and major special revenue funds in schedules as a part of RSI (required supplementary information) immediately after the notes to the basic financial statements. Required supplementary information (RSI) is information that the GASB requires to be presented with, but not as part of, the basic financial statements. It includes management’s discussion and analysis (MD&A), which is presented before the basic financial statements, as well as information (such as budgetary comparisons and pension schedules) that is presented after the notes. Governments have the option of reporting budgetary comparison information for these funds in statements as a part of the basic financial statements. The budgetary comparison information is titled a “schedule” if reported as part of RSI, but a “statement” if reported as part of the basic financial statements. Regardless of where it is presented, the content of the schedule or statement remains the same; only the title differs. A carte blanche of an approach is the systemic BFO budgeting. Budgeting for Outcomes (BFO) is a priority based budgeting where spending is linked to overall community results. Using BFO, the government can target its most important priorities for its populace. Services are then ranked according to how well they align with the priorities, and resources are allocated in accordance with the ranking. 9.Balanced Budget Requirements- Requirements that states balance their budgets are often said to be a major difference between state and federal budgeting. State officials certainly take an obligation to balance the budget. All the states except Vermont have a legal requirement of a balanced budget. Some are constitutional, some are statutory, and some have been derived by judicial decision from constitutional provisions about state indebtedness that do not, on their face, call for a balanced budget. The requirements vary in stringency from state to state. In some states the requirement is that the introduced budget be balanced, or that the enacted budget be balanced. In other states policymakers are required to ensure that expenditures in a fiscal year stay within the cash available for that fiscal year. Other states may carry unavoidable deficits into the next fiscal year for resolution. There are three general kinds of state balanced budget requirements: The governor's proposed budget must be balanced. The budget the legislature passes must be balanced. The budget must be balanced at the end of a fiscal year or biennium, so that no deficit can be carried forward . 10.General Fund and Special Revenue Fund:- 10.1General Fund ? Used to account for all financial resources that are not restricted to specific purposes or otherwise required to be accounted for in another fund. ? Only fund that all governments have. 10.2Special Revenue Funds ? Used to account for general government financial resources that are restricted by law or contractual agreement to specific purposes other than debt service or major capital projects. ? Exist as long as the government has resources dedicated to specific purposes. 10.3Measurement Focus (MF) is on current financial resources – what is expendable. 10.4Basis of Accounting (BA) is modified accrual. Recognition occurs for ? Revenues when measurable & available ? Expenditures when underlying liability is incurred, except for long-term debt principal and interest payments (when due). Financial assets – Liabilities = Fund Balance 10.5Reserve for Encumbrances ? Reserves indicate that portion of Fund Balance not available for appropriation ? Reserve for Encumbrances indicates amount that must be appropriated next year for transactions started in current year. 11.General Fund Financial Statements ? Balance Sheet ? Statement of Revenues, Expenditures, and Changes in Fund Balance ? Revenues, Expenditures, and Changes Fund Balance - Budget-to-Actual ? Statement of, if part of the Basic Financial Statements ? Schedule of, if placed in Required Supplementary Information (RSI) Balance Sheet ? Standard Report Format Current Assets = Current Liabilities + Fund Balance 12.Fund Balance presented in two sections:- ? Reserved – with specific reserves identified ? Unreserved – which may be further divided into ? Designated – with specific designations identified ? Undesignated 13.Reserves of Fund Balance:- ? Indicate that some amounts are not available for appropriation or expenditure ? Creation requires action by governing council ? Common reserves ? Encumbrances ? Petty Cash ? Inventories ? Advances 14.Unreserved Fund Balance:- ? Available for appropriation and expenditure ? May be designated for some specific purpose ?Normally done by Finance Director. And are retained earnings. ?Less formal than a reserve Statement of Revenues, Expenditures, & Changes in Fund Balance ? May be referred to as the operating statement ? Format specified by the GASB. References:- http://media.wiley.com/product_data/excerpt/01/EHEP0015/EHEP001501-1.pdf , 12 July 2012. http://media.wiley.com/product_data/excerpt/01/EHEP0015/EHEP001501-2.pdf , 13 July 2012. http://media.wiley.com/product_data/excerpt/01/EHEP0015/EHEP001501-4.pdf , 13 July 2012. http://www.mccc.edu/~horowitk/documents/Chapter03D.pdf , 17 November 2011. Bibliography:- Introduction to Governmental and Not-for-Profit Accounting" by IVES,Johnson, Razek, Hosch Read More