MODULE 1

Basics of Governmental & Nonprofit Accounting: Chapters 1-5

Module 1 Content

• Government, NFP Basics

• Fund Accounting

• Budgeting

• Modified Accrual vs. Full Accrual

• Financial Reporting & GASB 34

• Revenues

• Expenditures

Chapter 1

The Government and Not-for-Profit Environment

Basics

• Describing governments & nonprofits

• Governmental characteristics

• Nonprofit characteristics

• Standard-setting: GASB & FASB

• Financial Reporting

• Users

Describing Governments & Nonprofits

• US governments: federal, state & local• Branches: legislative, executive & judicial• Constitution: federal vs. state jurisdiction• Nonprofits: over 1.5 million organizations, $1.3

trillion in assets• Nonprofits: colleges & universities, hospitals,

voluntary health & welfare organizations, other• Nonprofits: importance of IRS & tax-exempt

status

Characteristics of Governments & Nonprofits

• No profit motive• Ownership interests are nontransferable (& usually not

defined)• Fund accounting recommended• Differential GAAP• Emphasis of accountability of resources & flow of

these resources• Unique revenue sources• Often lack of direct cost/benefit relationships• Importance of budgeting

Government Characteristics

• Federal Government: Broad jurisdiction, 2000 receipts $1,958 billion; 2000 outlays $1,781 billion

• 50 states: jurisdiction defined in Constitution, establishes legal roles of local governments

• 87,453 local governments: 3,043 counties; 36,001 cities; 13,726 school districts; 34,683 special districts

Other Governmental Financial Characteristics

• Ability of governments to levy taxes• Use of modified accrual; revenues & expenditures; budget

entries• Financial operations may be restricted—one reason for

fund accounting• Power to issue tax-exempt debt (e.g, municipal bonds)• Intergovernmental financial relationships (importance of

intergovernmental revenues)• Overlapping jurisdictions & overlapping debt• GASB 34: addition of government-wide statements (full

accrual) & other reporting requirements

Nonprofit Characteristics

• Importance of IRS & tax-exempt status• Nonprofits must file for tax-exempt status:

charities are recognized as 501(c)(3) organizations, based on filing Form 1023

• Annual report, Form 990, must be followed using IRS format

• Other nonprofit categories also exist• See www.irs.ustreas.gov/

Purpose of Financial Reporting

• Assess financial condition (operating results & financial resources)

• Compare actual results with the budget

• Legal compliance

• Evaluate performance (especially efficiency and effectiveness; service effort & accomplishment)

Governmental Financial Reports

• Comprehensive Annual Financial Report (CAFR)--two levels of reporting: (1) government-wide (full accrual), (2) fund accounting (modified accrual for governmental funds)

• Annual Operating Budget(s)• Other documents: for citizens or media;

specialized reports, etc. • Most governments have well-developed web

pages• Note importance of interperiod equity

Users of Governmental Financial Reports

• Executives & employees

• Governing Boards (legislative function)

• Investors & Creditors (importance of municipal bonds; credit-rating agencies)

• Taxpayers & voters

• Regulatory agencies (e.g., Texas Education Agency for Texas ISDs)

Standard Setting

Financial Accounting Foundation

Financial Accounting Standards Board

(1973) [Non-profits]

Governmental AccountingStandards Board

(1984) [Governments]

Standard Setting History

• Government GAAP initially established by National Council of Governmental Accounting (NCGA); GASB established in 1984

• Nonprofit GAAP initially established by “industry”: (1) colleges & universities, (2) NP hospitals, (3) other—AICPA would write two audit guides (voluntary health & welfare organizations & “other”); FASB took over jurisdiction in the 1980s.

• Federal government establishes its own standards, through the Federal Accounting Standards Advisory Board (FASAB)

Chapter 2

Fund Accounting

Fund Accounting

• What is a Fund? The government or nonprofit is the economic entity. The fund is the fiscal & accounting entity. Each organization usually has several funds. Each fund is a separate self-balancing set of accounts. A major reason for funds is control purposes, both legal & fiscal

Funds Used by State & Local Governments

• Governmental Funds: also called source & disposition funds or expendable funds. Most governmental activities are financed through these funds.

• Proprietary Funds: also called business-type funds, which handle most activities financed through user charges.

• Fiduciary Funds or trust & agency funds, where government acts as trustee or agent

Governmental Funds

• General Fund: primary operating fund; by definition it accounts for all activities not required for another fund. The General Fund is used for unrestricted operations.

• Special Revenue Fund: specific revenue source used for a specific purpose. This is an operating fund.

• Capital Projects Fund: Used specifically for the acquisition & construction of capital assets.

• Debt Service Fund: Used for funding & payment of interest & principal on long-term debt.

• Permanent Fund: New-required by GASB 34—Trust Funds to support government programs.

Proprietary Funds

• Enterprise Funds: provide services to the public on a user-fee basis. The most common category is government-owned utilities; also, mass transit, airport, housing authorities, government-owned hospitals, etc.

• Internal Service Fund: provide services to other departments in the same government, such as motor pool, data processing, or supplies purchasing.

Fiduciary Funds

• Pension Trust Funds: provide retirement benefits to governmental employees

• Permanent private-purpose trust funds: endowments to benefit the government (accounted for as Permanent Funds), other organizations or individuals

• Agency Funds: temporary accounting for assets held for other governments or organizations.

Financial Reports

• The complete annual report is the Comprehensive Annual Financial Report (CAFR).

• The three sections are: Introductory Section, Financial Section, & Statistical Section.

• Governments also prepare annual operating budgets & may have capital budgets & other statements.

CAFR (“Old Format”)

• Introductory Section: includes transmittal letter & may include Certificate of Achievement, organization chart, table of contents, etc.

• Financial Section: includes Auditors’ Report; Combined Financial Statements, Notes; & statements by fund category.

• Statistical Section: various tables & other information on economic, demographic & supplementary fiscal data.

CAFR (GASB 34 Format)

• Same basic format with the following additions:

• Management Discussion & Analysis (MD&A) added to Introductory Section.

• Government-wide Financial Statements added, based on full accrual accounting—(1) statement of net assets & (2) statement of activities.

Chapter 3

Issues of Budgeting & Control

Budgeting

• The Current Operating Budget (also called an appropriation budget): a plan of financial operations for the period. The annual budget authorizes, and provides the basis for control of, financial operations during the year (NCGA Statement #1).

• The Budget is a formal expression of public policy on objectives & priorities & how the resources will be provided to meet them (NCGA Statement #1).

Functions of Budgets

• Planning: type, quantity & quality of services to be provided & how to pay for these services.

• Control: budgets insure that resources are available & are used to monitor compliance with legislative spending authority.

• Review: budgets can be compared to actual results to evaluate whether legislative & other legal mandates were carried out, as well as effectiveness & efficiency.

Types of Annual Operating Budgets

• Traditional Budget: classifies spending by line item (object classification), which focuses on control. Appropriations specifically limits spending on each line item.

• Performance Budget: use measurable units of SEA.

• Program Budgets: budgets are defined by programs, based on specific objectives for each identified program.

The Budget Cycle

• Budget Preparation (several months before the start of the fiscal year)

• Legislative Approval (before the start of the fiscal year)

• Fiscal Year Operations (Budget Execution) • Feedback & Review (after the end of the fiscal

year)

Budget Preparation

• Chief financial officer (CFO) accumulates budget requests based on chief executive officer (CEO) & City Council objectives, along with revenue forecasts to develop a proposed budget.

• Inputs: revenue forecasts, expenditure requests & priorities

• Outcome: proposed (executive) budget

Legislative Approval

• Legislature must approve the budget before taxes can be levied & appropriations spent.

• Considerations: tax levy(ies), bond (& other borrowing) initiatives, budget authorization & mandate

• Outcome: annual operating budget (this process & the budget is publicly available)

Fiscal Year Operations (Execution)

• Budget journal entries begin the new fiscal year accounting & operations depend on these budget entries.

• Actual revenues & expenditures

• Budget revisions & transfers

• Adjusting & closing process

Feedback & Review

• Reporting & auditing: financial reports are prepared & audited

• CAFR is issued

• Other analysis conducted: budget to actual comparisons, service effort & accomplishment, etc.

Budget Entries

• Revenue-related: Debit estimated revenues & Credit fund balance.

• Expenditure-related: Debit fund balance & credit Appropriations.

• Operations: revenues are credited when “measurable & available” & expenditure debited when corresponding liability is recorded.

• Both budget & actual entries are closed out at year-end.

Encumbrances

• Encumbrances are journal entries used to recognize future commitments (such as purchase orders) & “earmark” these funds for control purposes.

• When commitments are recognized (e.g., for approved purchase orders) debit encumbrances & credit fund balance reserved for encumbrances.

• Encumbrances are reversed when expenditures are recognized for the commitments.

Chapter 4

Recognizing Revenues in Governmental Funds

Revenues

• Basis of Accounting [when transactions/events are recognized]: Modified Accrual Accounting in the Governmental Funds.

• Measurement Focus [what is being measured]: Current (expendable) financial resources.

• Revenues are recognized when measurable & available.

Revenue Recognition

• Revenue must be measurable & available.• Measurable: amount is known or can be

reasonably estimated.• Available: “physically available”: collected in

cash during the fiscal year or shortly thereafter (“60 day rule” for property tax); legally available (e.g., levied or can can be spent based on contract or regulation).

• Note: importance of nonexchange revenues (pp. 123-4).

Resource Inflows

• Revenues are recorded by source:Property Taxes

Sales TaxesLicenses & permits

Fines & ForfeituresIntergovernmental

Grants Other• Other Financing Sources are resource inflows that

include transfers in, bond proceeds, etc.

Nonexchange Revenues

• Imposed nonexchange revenues: assessment on individuals or businesses; e.g., property taxes & fines.

• Derived tax revenues: taxes derived from exchange transactions, such as sales & income taxes.

• Government-mandated, such as a state requiring a city to use resources for specific purposes.

• Voluntary: contractual agreements such as contributions from donors.

• Note time & purpose limitations (these usually must be met before revenues are recognized).

Simplified Budgeting Strategy (Local Governments)

• Estimate spending needs.

• Forecast all revenues except property tax.

• The difference is the amount that has to be collected from property taxes.

• Calculate property tax rates (based on net assessed value & collection estimates) & total tax levy.

Budget Strategy Example (1)—Property Tax

• Anticipated spending needs = $800,000; forecasted revenue, all sources except property tax = $200,000; then revenue collected from property tax = $600,000.

• Assuming that 92% of property tax is collected (assume no delinquent tax collection) then tax levy = 600,000/.92 = $652,174 for a balanced budget.

Budget Strategy Example (2)—Property Tax

• Net assessed value: assume total assessed value of property is $2.3 billion less property exemptions of $300 million—net assessed value = $2 billion.

• Tax rate: property tax required / (collection rate x net assessed value/100) = 600,000 / (.92 x 2 billion) = $0.3261 per $100 NAV.

• Tax levy = $2 billion/100 x 0.326087 = $652,174.

Budget Strategy Example (3)—Journal Entries

• Budget entry (balanced budget):Estimated Revenues 800,000

Fund Balance 800,000• Tax Levy:

Taxes Receivable [Current] 652,174Revenues-Property Tax 600,000Allowance for Uncoll. Tax 52,174

Budget Strategy Example (4)—Closing Entries

• Fund Balance 800,000 Estimated Revenues

800,000 Revenue-Property Tax 600,000 Fund Balance

600,000

Other Revenues

• Fines (pp. 129-130)• Sales Taxes (pp. 130-3)• Income Taxes (pp. 133-5)• Grants (pp. 135-142)

Unrestricted GrantsRestricted Grants (designated purposes)Contingent Grants (based on specific

actions or occurrences)Entitlements (entitled by formula)Shared Revenues (on a predetermined basis)Payments in Lieu of Taxes (replaces property taxes)

• Sale of capital assets (pp. 142-3)• Investment Income: investments recorded at fair value & investment

income includes changes in fair value (pp. 143-7).

Other Financing Sources

• Resource inflows that include transfers in & bond proceeds.

• They are operating inflows, but not considered revenues.

• Monies are often transferred from one fund to another; e.g., the General Fund transfers $10,000 to the Debt Service Fund for an interest payment: this is an other financing sources to the DSF.

• Bond proceeds (usually to a Capital Project Fund) also are other financing sources (the money has to be paid back).

Government-wide Statements

• In addition to fund accounting, state & local governments prepare government-wide statements based on full accrual accounting.

• Generally, the government keeps its books using fund accounting, then makes an additional set of adjusting entries to arrive at the information to prepare government-wide statements.

• Therefore, revenues are recognized on a different basis, similar to commercial accounting.

• Generally, the major difference is that “available” is not a criteria for revenue recognition.

Chapter 5

Recognizing Expenditures in Governmental Funds

Expenditures

• Expenditures are associated with the acquisition of goods & services (usually recognized when the liability is recorded). Expenditures are decreases in net financial resources.

• Expenses are associated with the consumption of goods & services. Expenses are decreases in net economic resources.

• Expenditures are used instead of expenses in the governmental funds. [Expenses are used for government-wide statements.]

• The acquisition of equipment for $10,000 cash in a general fund would be:

Expenditures-Capital Asset 10,000Cash

10,000

Resource Outflows

• Expenditures are usually cross-classified by (1) department or program (e.g., public works, public safety, parks & recreation) & (2) object of expenditures (e.g., salaries, supplies, maintenance, etc.).

• Other financing uses are resource outflows, with transfers out being the most common.

Expenditure Characteristics

• Mainly associated with exchange transactions; e.g., employee compensation, acquisition (or use) of supplies.

• Examples:Wages & Salaries (pp. 164-171)Supplies (pp. 173-5): purchase or consumption methods allowedCapital assets (pp. 176-180)Non-exchange transactions (pp. 183-4)

Spending Entries (1): Budget

• Spending needs: salaries, $650,000; supplies, $150,000.

• Budget entry:Fund Balance 800,000

Appropriations800,000

Spending Journal Entries--Salaries

• Salaries:Expenditures-Salaries 642,000

Salaries Payable 642,000

• Year-end accruals: at year-end, expenditures are recognized for the days works for which they haven’t been paid.Expenditures-Salaries 8,000

Accrued Salaries 8,000

Spending Journal Entries--Supplies

Supplies (Purchase method)Encumbrances 150,000

Reserve for Encumbrances 150,000

Reserve for Encumbrances 150,000 Encumbrances 150,000

Expenditures-Supplies 150,000 Vouchers Payable 150,000 [Note: supplies on hand at year-end total $10,000.]

Spending Closing Entries

• Appropriations 800,000Fund Balance 800,000

• Fund Balance 800,000Expenditures-Salaries 650,000Expenditures-Supplies 150,000

• Inventory-Supplies 10,000Fund Balance Reserved for Supplies 10,000

Other Salary Considerations

• Vacation Pay: recorded in year vacation actually taken [accrued for government-wide reporting].

• Sick Leave: recorded in year sick leave taken [accrued for government-wide reporting.]

• Pension contributions: generally recorded when cash payment made to a pension trust fund [recorded as expenses based on calculated amount for government-wide reporting].

Supplies-Consumption Method

• [Encumbrances, same as above.]• Supplies Inventory 150,000

Vouchers Payable 150,000• Expenditures-Supplies 140,000

Supplies Inventory 140,000• Fund Balance 10,000

Fund Balance Reserved for Supplies 10,000

Prepayments

• Prepayments are common for insurance & certain other spending items; General Fund (& other governmental funds) can use the purchase or consumption method.

• Purchase method:Expenditures-Insurance

10,000 Vouchers Payable10,000

Prepayments-Consumption Method

Prepaid Insurance 10,000Vouchers Payable 10,000

Usage (usually by month):

Expenditures-Insurance 3,000Prepaid Insurance 3,000

Capital Assets

• Expenditures-Capital Assets 20,000Contracts Payable 20,000

• If the money is on a long-term note:Cash 20,000 Other Financing Sources-

Note proceeds 20,000 Expenditures-Capital Assets 20,000

Contracts Payable 20,000

• Capital Lease:Expenditures-Capital Assets 20,000 Other Financing Sources-

Capital Lease 20,000

• [Note: long-term liabilities are serviced in a debt service fund.]

Multiple-fund Transactions

• Many transactions involve more than one fund; therefore, journal entries are required in two or more funds.

• A common example in interfund transfers (classified as other financing sources & uses). Other examples of financing sources & uses include proceeds from long-term debt & proceeds from the sales of capital assets.

• Note that charges for services would be recorded as revenue & expenditures (or expenses).

Interfund Transfer

• The General Funds sends $20,000 in cash to the Debt Service Fund for a future interest payment on long-term notes:

General Fund Transfers Out 20,000

Cash 20,000Debt Service Fund Cash 20,000

Transfers In 20,000