certified municipal finance officer
CERTIFIED MUNICIPAL FINANCE OFFICER Study Guide Chapter Two Governmental Accounting II
Table of Contents Introduction.................................................................................................................. 5 Learning Objectives ...................................................................................................... 5 Proprietary Funds ......................................................................................................... 6 Distinctive Transactions .................................................................................................. 7 Discounts and Allowances .......................................................................................... 8 Fees ............................................................................................................................. 8 In‐lieu of tax payments ............................................................................................... 9 Changes in Accounting Principle or Prior Period Adjustments ................................... 9 Capitalization of Interest ........................................................................................... 10 Landfill Closure and Postclosure Care ...................................................................... 10 Impact or Developer Fees ......................................................................................... 11 Transfer of capital asset ............................................................................................ 11 Issuance of Debt ........................................................................................................ 12 State Statutes ................................................................................................................ 13 Utilities ...................................................................................................................... 13 Telecommunications and Cable TV, Internet and Related Services ......................... 14 Solid Waste Operations ............................................................................................ 15 Enterprise Funds ........................................................................................................... 15 Illustrative Entries ..................................................................................................... 15 Internal Service Funds................................................................................................... 18 Illustrative Entries ..................................................................................................... 19 Fiduciary Funds ........................................................................................................... 20 Pension (and other Employee Benefit) Trust Funds ..................................................... 21 Investment Trust Funds ................................................................................................ 21 Private Purpose Trust Funds ......................................................................................... 21 Agency Funds ................................................................................................................ 21 Illustrative Entries ..................................................................................................... 22 Multiparty Arrangements ........................................................................................... 23 ii
Capital Assets and Liabilities ....................................................................................... 23 Capital Assets ................................................................................................................ 23 Liabilities ....................................................................................................................... 26 Year‐End Analysis and Adjustments ............................................................................ 27 Conversion, Eliminations and Reclassifications for Government‐wide Reporting ........ 36 Interfund Activity .......................................................................................................... 37 Capital Outlay and Capital Assets ................................................................................. 39 Debt Activities ............................................................................................................... 42 Revenue and Expenditure Adjustments ....................................................................... 43 Summary .................................................................................................................... 45 Appendix A ................................................................................................................. 46 Appendix B ................................................................................................................. 47 Appendix C ................................................................................................................. 50
iii
iv
Chapter Two Governmental Accounting II Introduction In the previous chapter, Governmental Accounting I, the discussion focused on the governmental funds which use the modified accrual basis of accounting. This chapter will focus on the proprietary and fiduciary funds which use accrual accounting. It will also present an overview on the conversion process mandated by the Government Accounting Standards Board (GASB) Statement 34 requiring governmental funds to report activity in government‐wide financial statements using the same economic resources measurement focus and accrual basis of accounting as proprietary funds. The move to full‐accrual used in government‐wide reporting was brought about to fulfill the need for better operational accountability. GASB defines operational accountability as “governments’ responsibility to report the extent to which they have met their operating objectives efficiently and effectively, using all resources available for that purpose, and whether they can continue to meet their objectives for the foreseeable future.” However, GASB realized that government‐wide reporting could not replace fund financial reporting because of its essential focus on fiscal accountability. A municipality’s day to day operations are centered around fiscal accountability. How much is budgeted for public safety? Is the budget meeting the needs of our citizens? Is the municipality spending within its budget? The city’s governing body also must concentrate on the “big picture” – beyond just the day to day operations and the budget. How much debt is outstanding, what other long‐term liabilities does the city have, and what revenues are available for long term needs? Government‐wide reporting helps to answer some of these questions.
Learning Objectives Upon completion of this class, learners should be able to: • Describe proprietary funds and their accounting • Demonstrate the financial transactions of proprietary funds 5
• • • • •
Describe fiduciary funds and their accounting Define capital assets and their proper reporting Define long‐term liabilities and their proper reporting Demonstrate the various year end adjustment processes Recognize steps in the conversion from fund financial statements to government‐wide financial statements
Proprietary Funds Proprietary funds match revenues with expenses, just like private sector accounting. Revenues in the proprietary fund are generated by fees and charges for services to cover all of its costs. Since proprietary funds use the economic resources measurement focus and the accrual basis of accounting, no conversion of the financial information is necessary for inclusion in the government‐wide statements. We will see later that governmental funds have to be converted from the modified accrual basis to the accrual basis of accounting to produce the year‐end government wide financial statements. The proprietary fund accounting equation is: Current + Capital + Other Noncurrent = Current + Long Term + Net Assets Assets Assets Liabilities Liabilities Assets Note that capital assets and long term liabilities are accounted for in proprietary funds, as are depreciation and amortization. Depreciation and amortization are allocation methods that spread the expense of a long‐term asset or liability over the estimated life of the asset or the term of the liability. These allocations employ the matching principle where expenses are evenly matched to revenues, costs or benefits within the same accounting period. The required financial statements for proprietary funds are: • Statement of net assets (or balance sheet) • Statement of revenues, expenses and changes in fund net assets or fund equity • Statement of cash flows Finance officers with a background in private sector (business enterprises) accounting will see the similarity between the three private sector statements: the balance sheet, the income statement and the statement of cash flows. There is an important difference between the balance sheet of a private company and a municipal government, which involves the presentation of equity. The net assets of a proprietary fund are classified into three categories: 6
• • •
Invested in capital assets, net of related debt Restricted (either by creditors or by law and distinguished by major categories of restrictions) Unrestricted (may be designated or undesignated, just like governmental funds ‐ designations should not be reported on the face of the statement of net assets)
There are two types of proprietary funds: enterprise funds and internal service funds. As stated in the Blue Book, “there are three important differences between enterprise funds and internal service funds: the identity of those who benefit from the fund’s services, the degree to which the costs of the fund must be recovered through fees and charges, and the application of more recent private‐sector pronouncements.” Both types of funds charge their customers for the services they provide – the difference is who their customers are. Enterprise funds provide services mainly to customers outside the governmental entity, while internal service funds provide services mainly to other departments within the governmental entity. If both types of customers exist, the type of customer predominantly served would determine the type of fund to be used. If a fund is legally required to cover all of its costs through fees and charges, GAAP require that an enterprise fund be used. Tennessee law normally requires municipal utilities to be self sufficient. Due to this legal requirement, GAAP require them to be reported as enterprise funds. This is discussed in detail later in this chapter. Both enterprise and internal service funds are required to follow all Financial Accounting Standards Board (FASB) guidance issued prior to December 1, 1989 that do not conflict with GASB standards. Only enterprise funds may follow more recent FASB guidance, as long as it does not conflict with GASB. For financial reporting, operating revenues and expenses are set apart from non‐ operating. The transactions shown throughout this chapter do not distinguish between operating and non‐operating revenues and expenses, as they are for accounting purposes rather than for reporting purposes. The financial reporting chapters will cover the distinctions in detail.
Distinctive Transactions Although proprietary funds are very similar to private‐sector business enterprises, there are several financial transactions that are handled differently. The following focuses on some of those differences.
7
Discounts and Allowances In the private‐sector, revenue would be reported at gross with discounts and allowances reported as a separate expense. In governmental accounting, discounts and allowances are normally netted against revenue. Bad debt expense is only used for non‐revenue accounts. Town of Anywhere’s water fund estimates their uncollectible accounts receivable to be 1% of annual sales. Annual sales for fiscal year 20X9 are $87,000. The current balance in the allowance account is $300. The calculation to determine the journal entry amount is as follows. Annual sales $87,000 Uncollectible % .01 Required allowance account balance $870 Less current allowance account balance $300 Increase to allowance account balance $570 Account Description Type/effect Debit Credit Water sales Contra revenue/ $570 decrease Allowance for uncollectible Contra asset/increase $570 accounts Fees It is very common for a utility to charge new customers a fee to connect to the system. These fees, commonly called tap fees or connection fees, may exceed the utility’s cost to hook‐up the new customer. The excess is usually a means for customers to pay for their part of the existing capital costs. The portion of these fees that are in excess of the actual cost for connection should not be classified as operating revenues, but rather as capital contributions or non‐operating revenues. Town of Anywhere’s water tap fee is $250. The water department estimates that their cost to connect a new customer to the water system is $100. In May 2009, the water department received $1,500 in tap fees.
8
Account Description Cash in bank Tap fees Capital contributions
Type/effect
Debit
Credit
Asset/increase Revenue/increase Revenue/increase
$1,500
$600 900
Inlieu of tax payments Since enterprise funds are not normally subject to taxation, they may be required by the local governing body to make in‐lieu of tax payments to the general government. Because for Tennessee municipalities the in‐lieu of tax payment is not for services provided and is not reasonably equivalent in value to services provided, the payment should be reported as a transfer. Town of Anywhere requested its water department to pay an in‐lieu of tax payment to the municipality’s general fund. Town of Anywhere Water paid the in‐lieu of tax payment that was calculated to be $25,800. Water Fund Entry: Account Description Transfer out ‐ General Fund Cash in bank General Fund Entry: Account Description Cash in bank Transfer in – Water Dept.
Type/effect
Debit
Credit
Expense/increase Asset/decrease
Type/effect
$25,800
$25,800
Debit
Credit
Asset/increase Other financing source/ increase
$25,800
$25,800
Changes in Accounting Principle or Prior Period Adjustments Changes in accounting principle or changes in the application of them are reported cumulatively as a separate item on the operating statement for the private sector. Instead of a separate cumulative item, GAAP require that the beginning net assets (fund equity) be restated. This also applies to prior period adjustments that are the result of a correction of errors. For example, if water sales were overstated in the previous fiscal year, an adjustment to the beginning net assets would be necessary. 9
Capitalization of Interest Capital assets are generally recorded at historical cost. However, if debt proceeds are used to finance a capital project for an enterprise fund, the interest on that debt should be considered part of the capitalized cost for that asset. FASB Statement No. 62, Capitalization of Interest Cost in Situations Involving Certain Tax‐Exempt Borrowings and Certain Gifts and Grants, requires enterprise funds to calculate total interest on the indebtedness over the capitalized period and then offset that amount with interest revenue earned on the reinvested debt proceeds during that same period. For example, let’s assume city A issues 5 % bonds for $4,000,000 to build a new wastewater treatment facility. Let’s also assume that city A invests the bond proceeds at 4% during the construction project. During construction of the project, the city paid $100,000 in interest costs and received $40,000 in interest revenue from the invested proceeds. The capitalized cost of the facility to be recorded in the enterprise fund would be: Construction Costs $ 4,000,000 Plus: Interest Costs 100,000 Less: Interest Revenue 40,000 Total Facility Cost $ 4,060,000 There are many factors that affect the calculation of capitalized interest costs that are beyond the scope of this course. Further information and detailed calculations can be found in FASB Statement No. 34, Capitalization of Interest Costs and FASB Statement No. 62. The Blue Book (GFOA) also has a thorough discussion of this topic and Exhibit 6‐ 1 on page 103 provides an excellent summary of the requirements. Landfill Closure and Postclosure Care Governments that operate landfills are financially responsible by law for closing the site properly at the end of its useful life. They must also monitor and maintain it for a certain period of time after closure (usually 30 years). GAAP require that landfill closure and postclosure costs be recognized over the landfill’s useful life. An estimate of the total costs necessary for the closure and postclosure of the landfill should be completed using current costs. This estimate must be adjusted annually to reflect any changes to the original estimate, including inflation and regulation changes. A current period expense will be calculated every year during the life of the landfill based on an established formula. Any changes to the total cost estimate will be recognized in the current and future periods, prior periods are not affected. All costs related to a landfill’s operations, closure, and postclosure should be expensed by the time the landfill ceases operations. Any cost estimate changes that occur after the landfill closes should be expensed as soon as they are probable and measurable. 10
Additional information, along with the current expense formula can be found in the Blue Book on pages 107 and 108. Impact or Developer Fees It is not uncommon for municipalities to require developers or home owners to pay a fee to assist in covering costs associated with a new development. For example, a municipality may impose a fee to assist in covering the utility’s cost of installing a new pump station and additional water lines to service a new subdivision being developed. The full amount of this impact fee should be recorded as a receivable and revenue when the municipality has an enforceable legal claim to it. If the use of the revenues is restricted (e.g. capital acquisition), a restricted net assets should be reported. The passage of the County Powers Relief Act (T.C.A. 67‐4‐2913) and its interpretation by the recent attorney general opinion (Opinion No. 07‐06) has restricted a municipality’s ability to levy any new or increase any existing adequate facilities taxes to cover the costs that Tennessee municipalities incur in relation to new developments. Municipalities may levy new and increase any existing impact fees with proper legislative authorization for general government activities directly related to providing new services (e.g. infrastructure construction). This should not affect the ability of water and sewer systems to assess connection fees. These connection fees provide an equitable means for new customers to contribute to the cost of existing infrastructure. Transfer of capital asset Capital assets may be transferred from a governmental activity to a proprietary fund or vice versa. A capital asset received by a proprietary fund should be reported at the same historical cost along with accumulated depreciation as maintained in the governmental fund’s capital asset records. The net book value (unless it is zero) would be reported as a capital contribution (revenue) in the proprietary fund’s operating statement. For the government‐wide statement of activities, this revenue will be reclassified as a transfer from governmental activities to business‐types activities. Since fund financial statements do not include capital assets, no entry for this capital asset transaction would be made in the general fund financial records. However, the capital asset records should be updated for the removal of the asset. In order to prepare the government‐wide financial statements, a reconciling entry must be made. For governmental activities, the capital asset will be removed from the statement of net assets and a corresponding transfer out will be recorded on the statement of activities. At the government‐wide level of reporting, the transfer in (proprietary fund) and the transfer out (governmental fund) will balance. 11
Town of Anywhere transfers a vehicle from its public works department (general fund) to its electric department. The vehicle was purchased for $25,000 and has accumulated depreciation of $5,000. Electric Department Entry: Account Description Type/effect Debit Credit Machinery and equipment Asset/increase $25,000 Accumulated depreciation‐ Contra asset/increase $5,000 machinery and equipment Capital contributions Revenue/increase $20,000 Town of Anywhere transfers a tractor from its water department to its public works department (general fund). The tractor was purchased for $8,000 and has accumulated depreciation of $2,000. Water Department Entry: Account Description Type/effect Debit Credit Transfer to general fund Expense/increase $6,000 Accumulated depreciation‐ Contra asset/decrease $2,000 machinery and equipment Machinery and equipment Asset/decrease $8,000 Issuance of Debt GAAP require that proprietary funds report all liabilities, which would include any debt that “is directly related to the proprietary fund” and “is expected to be paid from the proprietary fund.” A municipality could issue debt to be repaid from the general fund for water line construction. Since this debt is not to be repaid from the proprietary fund, it would not be reported as a liability in the proprietary fund statements. Town of Anywhere’s Water Department closes on a bond issue of $1,000,000 (face value) on January 10, 2009 and the funds are deposited into their bank. This bond issue is to construct water lines and will be repaid from the water fund. January 15, 2009 Entry: Account Description Type/effect Debit Credit Cash in bank Asset/increase $1,000,000 Bonds payable Liability/increase $1,000,000 12
There are several other transactions that require special attention in proprietary funds. The Blue Book can be used for guidance on specialized transactions. The following is a list of some of those transactions. • Cost of pension and other postemployment benefits • Passenger facility charges • Regulated enterprises • Risk financing premiums received from other funds
State Statutes There are several Tennessee state statutes that impact the accounting for proprietary funds. These statutes are in place to enhance the operations and reporting for proprietary funds. Utilities T.C.A. 7‐34‐102(3) defines public works as “any one (1) or combination of two (2) or more of the following: water, sewerage, gas or electric heat, light or power works, plants and systems or parking facilities, …”. Tennessee law does not allow a municipality to operate any public works for gain or profit and it cannot be a revenue source for the municipality. Any municipal utility system is to be operated for the use and benefit of its customers only. [T.C.A. 7‐34‐103(b); T.C.A. 7‐34‐115(a)] Based on these laws, municipal utilities are prohibited from transferring monies to subsidize other entities within the municipality (e.g. the general fund). While a municipal utility is directed not to operate for profit, T.C.A. 7‐34‐114(a) requires that it be self‐supporting and that reasonable rates and fees be charged to cover all expenses of the utility. The Water and Wastewater Financing Board (WWFB) was established pursuant to T.C.A. 68‐221‐1008 to ensure that water and wastewater systems operate on a sound financial basis. The WWFB is given the authority to intervene into the financial affairs of a system that is determined to be financially distressed. T.C.A. 68‐221‐1010 identifies a financially distressed water or wastewater system as a system having: 1) two consecutive years of a negative change in net assets, or 2) a deficit total net assets, or 3) defaulted on any of its debt
13
Once a system is determined to be “financially distressed”, the WWFB requires the municipality to submit a plan to eliminate the deficits and allow for the operation of the system in a positive manner. The WWFB is also tasked with defining excessive unaccounted for water losses and enforcing compliance. Any system with unaccounted for water loss above the acceptable level established by the WWFB will be required to take actions to reduce their water loss. All municipalities with water systems are required to include in their annual audit a “Schedule of Unaccounted for Water”. An example of this schedule can be found in Appendix A. As mentioned earlier, it is very common for utilities to make in‐lieu of tax payments to the general government. Section 7‐34‐115(a)(3) of T.C.A. authorizes a municipality to request in‐lieu of tax payments from their utilities. TCA sections 7‐34‐115(a)(9), 7‐39‐ 404 and 7‐52‐304 provide the formulas or methods that must be used to calculate the in‐lieu of tax payments. Article II, Section 28 of the Constitution of the State of Tennessee provides for utility property classification at 55 percent. In‐lieu of tax payments in excess of the amount prescribed by law are considered illegal transfers and must be repaid by the municipality to the utility. Calculation worksheets are provided in Appendix B. Telecommunications and Cable TV, Internet and Related Services T.C.A. 7‐52‐401 authorizes any municipality operating an electric utility plant, acting through the authorization of the electric plant board, to provide telephone, telegraph, and telecommunications services to its customers. A municipality providing these services cannot provide a subsidy for these services. A municipality may dedicate a reasonable portion of the electric plant to providing these services and the associated costs must be allocated to such. Any municipality providing these services must also make tax equivalent payments for such services in the same manner as established for electric systems. T.C.A. 7‐52‐601 authorizes any municipality operating an electric utility plant, subject to the procedures as outlined in T.C.A. 7‐52‐602, to provide additional services for cable television, internet and related services to its customers. These services must be accounted for in a separate division of the utility and cannot be subsidized from the utility’s other revenue sources. Any municipal electric system providing any of these services must make tax equivalent payments for such services in the same manner as established for electric systems.
14
Solid Waste Operations T.C.A. 68‐211‐874 requires any municipality that operates a solid waste disposal site to account for its operations in an enterprise fund. If a municipality has a solid waste operation, but does NOT operate a landfill and/or incinerator, it must account for its operations in either an enterprise fund or a special revenue fund.
Enterprise Funds Enterprise funds, a class of proprietary funds, are used to report the business‐type activities of municipal governments. The GASB defines enterprise funds this way: Enterprise funds may be used to report any activity for which a fee is charged to external users of goods and services. An enterprise fund must be used if: • The activity is financed with debt that is secured solely by the stream of revenues flowing from the activity • Laws or regulations require that the activity's cost be recovered through fees and/or charges for goods or services • The activity is structured so that fees and/or charges for services are intended to recover all of the costs, including capital costs (such as depreciation) Because accounting for business‐type activities is similar to private sector accounting, municipalities that use proprietary funds must apply all FASB standards adopted before December 1, 1989 unless they conflict with GASB guidance. After the 1989 date, the municipality may choose to follow GASB standards exclusively or to apply all subsequent FASB standards that do not conflict with GASB guidance. The one exception is accounting for pensions, which must follow GASB guidance. The most common use of enterprise funds is for public utilities such as water and sewer, natural gas, and electric. They may also be used for municipal golf courses, airports, recreation centers and transit systems. Illustrative Entries Assume that Town of Anywhere operates a water utility as an enterprise fund. Each month they bill customers for the water they used: Account Description Type/effect Debit Credit Accounts receivable Asset/increase $17,000 Water sales Revenue/increase $17,000 15
Of the amount receivable, at due date $16,000 had been paid Account Description Type/effect Debit Credit Cash in bank Asset/increase $16,000 Accounts receivable Asset/decrease $16,000 The utility paid its employees. Account Description Type/effect Debit Credit Salaries and wages expense Expense/increase $10,000 Cash in bank Asset/decrease $10,000 It also purchased materials and supplies from a private vendor. Account Description Type/effect Debit Credit Materials and supplies Asset/increase $3,800 inventory Accounts payable Liability/increase $3,800 The water utility received a $50,000 grant payment from the State of Tennessee for a project to upgrade the water plant. Account Description Type/effect Debit Credit Cash in bank Asset/increase $50,000 Capital contributions Revenue/increase $50,000 The board approves writing off $475 of uncollectible accounts receivable. The current balance in allowance for uncollectible accounts receivable is $790. Account Description Type/effect Debit Credit Allowance for uncollectible Contra asset/decrease $475 accounts receivable Accounts receivable Asset/decrease $475 16
On December 31, the water utility made its semi‐annual bond payment of principal and interest. (If monthly financial statements are prepared, interest should be accrued on a monthly basis for accurate reporting.) Account Description Type/effect Debit Credit Serial bonds payable Liability/decrease $100,000 Interest expense Expense/increase 20,000 Cash in bank Asset/decrease $120,000 During the month, the water utility collects $250 of deposits from new customers. Account Description Type/effect Debit Credit Restricted cash‐customer Asset/increase $250 deposits Customer deposits payable Liability/increase $250 At the end of the reporting period, depreciation expense was recorded. Account Description Type/effect Debit Credit Depreciation expense‐ Expense/increase $ 800 buildings Depreciation expense‐ Expense/increase 1,250 transmission system Depreciation expense‐ Expense/increase 2,265 machinery and equipment Accumulated depreciation‐ Contra asset/increase $ 800 buildings Accumulated depreciation‐ Contra asset/increase 1,250 transmission system Accumulated depreciation‐ Contra asset/increase 2,265 machinery and equipment Note that repayment of long term obligations is reported in the enterprise fund. The obligation itself is carried as a long‐term liability on the balance sheet. Similarly, capital assets of the enterprise fund are carried as land, property, plant and equipment on the balance sheet. With the exception of land, they are depreciated according to the 17
depreciation method adopted by management. Land is not depreciated because it is not exhausted over time. Depreciation is almost always done using the straight line method. The calculation is simple. Determine the useful life of the capital asset and estimate its salvage or scrap value at the end of its useful life. Subtract the scrap value from the cost of the capital asset (acquisition cost including any costs to place the asset in service) and divide by the number of years of its useful life. The result will be the amount to be depreciated each year until the capital asset’s value has been fully depreciated. Depreciation for a partial year should be prorated based on the number of months the capital asset is in service during the year.
Internal Service Funds Internal service funds, like enterprise funds, reflect the sale of goods or services to customers for a fee or charge. However, for an internal service fund, the customer is the government itself or another government. The reason municipalities use internal service funds is to share the cost of centralized services with the departments that use them. Some common examples of internal service funds are print shops and fleet maintenance. Rather than assume the costs of these activities under the “general administration” umbrella, the fleet maintenance department maintains records of which departments request services and what kind of services are provided (preventative maintenance, repair, etc.). Fleet maintenance “bills” the departments for the amount that approximates the full cost of providing the service. Internal service funds are designed to operate on a cost reimbursement basis. Pricing is an issue for internal service funds because they should not undercharge or overcharge their customers. Over or undercharging results in the participating funds or governments reporting incorrect costs for the goods or services they receive from the internal service fund. Regular deficits in an internal service fund indicate that the service prices are too low, while regular surpluses indicate that service prices are too high. For government‐wide financial statement presentation, the operating results of internal service funds are eliminated and the assets and liabilities are reclassified based on the predominant user of the services. If the predominant user is an enterprise fund, it should be consolidated as part of business‐type activities. Conversely, if the predominant user is governmental funds, it should be consolidated as part of governmental activities. An internal service fund must be consolidated entirely within either governmental activities or business‐type activities.
18
Illustrative Entries Town of Anywhere maintains an internal service fund for fleet maintenance activities. Fleet Maintenance billed $50,000 for services to general fund departments and $25,000 to the water utility. Account Description Type/effect Debit Credit Due from other funds‐General Asset/increase $50,000 Fund Due from other funds‐Water Asset/increase 25,000 Fund Charges for services Revenue/increase $75,000 The general fund and enterprise funds paid their fleet maintenance bills. Account Description Type/effect Debit Credit Cash in bank Asset/increase $75,000 Due from other funds‐ Asset/decrease $50,000 General Fund Due from other funds‐ Asset/decrease 25,000 Water Fund Salaries and wages of the fleet maintenance staff were paid. Account Description Type/effect Debit Credit Salary expense‐mechanics Expense/increase $9,000 Salary expense‐office Expense/increase 3,000 Cash in bank Asset/decrease $12,000 Fleet maintenance purchased $60,000 of materials and supplies on credit. Account Description Type/effect Debit Credit Inventory of materials and Asset/increase $60,000 supplies Accounts payable Liability/increase $60,000 19
However, they only used $10,000 of the materials and supplies by the end of the period. Account Description Type/effect Debit Credit Materials and supplies Expense/increase $10,000 expense Inventory of materials and Asset/decrease $10,000 supplies At the end of the reporting period, the finance officer would prepare a trial balance summarizing all the expenses and revenues of fleet maintenance. Any net profit or loss of the current fiscal year must be eliminated from the government‐wide statement of activities by an adjustment to the amounts reported as functional expenses.
Fiduciary Funds The word fiduciary essentially means to act “on behalf of” some other individual or entity. Therefore fiduciary assets are held by the municipality as a trustee or agent, and may not be used by the municipality to support its activities or to satisfy its debt. An example would be a self‐funded pension program for municipal employees. This is not common in the State of Tennessee as most municipalities are participants in the Tennessee Consolidated Retirement System (TCRS). A fiduciary responsibility does not in itself make the governmental entity a trustee or agent. The government must actually hold assets in connection with those fiduciary responsibilities. The Blue Book states that “A government is considered to be holding any assets: 1) for which it performs the investment function; or 2) with which the government has significant administrative involvement (for example, involvement that goes beyond the remittance of predetermined amounts to a third party).” Fiduciary funds do not appear in the budget per se, but any portion currently due from the employer is recorded as an obligation. Special financial reporting requirements pertain to different types of fiduciary funds described below. All fiduciary funds use the accrual basis of accounting and with the exception of agency funds, apply the economic resources measurement focus. Fiduciary fund reporting is limited to presentation of net assets and changes in net assets. Fiduciary funds do not appear in the government‐wide financial statements, however to ensure fiscal accountability they are reported as part of the basic fund financial statements. There are four types of fiduciary funds: pension (and other employee benefit) trust funds, investment trust funds, private‐purpose trust funds, and agency funds. As 20
fiduciary funds are uncommon for most Tennessee municipalities, our discussion of them will be very limited. Additional guidance can be found in the Blue Book.
Pension (and other Employee Benefit) Trust Funds Pension trust funds are used to report resources for certain types of employee benefit and pension plans. A pension trust fund would only be used if a municipality is holding resources in trust for employees. As in the case of municipalities who participate in TCRS, the State of Tennessee, not the municipality, would report a pension trust fund. Deferred compensation plans (Internal Revenue Code Section 457) have become popular with state and local governments as an additional benefit offered to employees. In most cases, the governmental entity uses a third‐party administrator to provide the benefit. Since the government’s responsibility is relatively limited to remitting employee deductions to the third‐party administrator, a fiduciary fund would not be appropriate. The third party administrator agreement should be carefully reviewed to determine the extent of the municipality’s responsibilities.
Investment Trust Funds An example of an investment trust fund is the Tennessee Local Government Investment Pool (LGIP). Local governments contribute principal and are returned that principal and any interest earnings. The LGIP is professionally administered by the State, and the State has the obligation for conforming to GASB Statement 31, Accounting and Financial Reporting for Certain Investments and for External Investment Pools. However, should a municipality desire to create an investment pool and take on this responsibility, it would fall subject to the same GASB standard.
Private Purpose Trust Funds Private purpose trust funds are rare. They are required when a donation or bequest is made to a municipality to administer for the benefit of an individual or organization outside the municipality. In some cases, the beneficiary may be another government. An example would be where a municipal school system received a bequest to provide benefits to students, such as for college scholarships. The scholarships would be provided using the interest on the bequest.
Agency Funds Most municipalities do not have agency funds. Agency funds are used to account for resources held on behalf of another government, organization or individual. Agency 21
funds are commonly used at the county government level to account for taxes it collects on behalf of municipalities. GAAP require the use of an agency fund when the municipality is the recipient of a pass‐through grant, all the proceeds of which will be distributed to other entities or individuals. The municipality receiving the pass‐through money is simply a cash conduit for the benefit of another entity. If the municipality has some control over who receives the money or how the money is spent once received, it is not simply a cash conduit and things get complicated beyond the scope of this course. GASB Statement 24, Accounting and Financial Reporting for Certain Grants and Other Finance Assistance, provides the necessary guidance for municipalities acting in a custodial capacity. As the Blue Book states, “agency funds are used to account for situations where the government’s role is purely custodial, such as the receipt, temporary investment, and remittance of fiduciary resources to individuals, private organizations, or other governments. Accordingly, all assets reported in an agency fund are offset by a liability to the party on whose behalf they are held.” Illustrative Entries Town of Anywhere receives a state grant, all of which will be disbursed to nonprofit organizations (NPO) within the municipality. The benefiting NPOs and the grant amount have been determined by the state without the participation of Town of Anywhere officials. Account Description Type/effect Debit Credit Cash in bank Asset/increase $10,000 Due to Others Liability/increase $10,000 Town of Anywhere disburses the grant money. Account Description Type/effect Debit Credit Due to Others Liability/decrease $10,000 Cash in bank Asset/decrease $10,000 All agency fund assets are owed to some other individual or organization. The municipality cannot have an equity balance in an agency fund.
22
Multiparty Arrangements It has become more and more common for governmental entities to enter into arrangements with each other to obtain and provide the services they need. Some of the most common examples of these multiparty arrangements are: • Joint venture – A multiparty arrangement that meets all of these criteria – 1) contractual arrangement, 2) separate activity, 3) joint control between at least two parties, and 4) ongoing financial interest or responsibility. • Jointly governed organization – Contracts used to establish separate activities for governments’ mutual benefit where no single government has control. • Cost‐sharing agreements – Agreement between two or more governments to share costs. T.C.A. 12‐9‐104 (interlocal agreements) establishes the authority for municipalities in Tennessee to enter into multiparty arrangements and outlines the content of such agreements. Any local government joint venture entities must file their interlocal agreement with the Comptroller of the Treasury (T.C.A. 12‐9‐111) as well as an annual report (T.C.A. 12‐9‐112).
Capital Assets and Liabilities General capital assets and general long‐term liabilities for governmental funds are treated differently than those in business‐type or fiduciary funds. The reason has to do with the measurement focus of current financial resources used for governmental funds. That is, capital assets (city hall, public parks) cannot be liquidated to satisfy current liabilities. Similarly, long‐term liabilities are just that, and in the current financial resources focus the only portion of long term liabilities that is recorded is the portion due in the reporting period. The capital assets and long‐term liabilities will only appear in the government‐wide financial statements which have an accrual basis of accounting with an economic resources measurement focus.
Capital Assets Prior to GASB 34, municipalities were required to maintain fixed asset records but the fixed assets were not part of the general ledger structure for governmental funds. Instead, they were tracked in the General Fixed Asset Account Group (GFAAG), but not recorded in the governmental funds. Capital assets have always been reported and depreciated in proprietary funds. The adoption of GASB 34 brought about considerable 23
change for the reporting of fixed assets in the government funds, requiring municipalities to report “capital assets”, including infrastructure assets, on the new government‐wide statement of net assets. Capital assets are the tangible and intangible assets a government owns and uses in its operations which provide a benefit to more than one fiscal period. Some examples are land, buildings, building improvements, vehicles, machinery and equipment, and infrastructure. Capital assets should be reported at their historical cost or if historical cost is not available it should be estimated. Assets that are donated by outside entities should be reported at their fair value on the date of donation. If an asset is transferred from one fund to another, the fund receiving the asset should report the asset at its historical cost along with any accumulated depreciation as recorded in the capital asset records of the transferring fund. Computer software purchased or developed for internal use should be capitalized as an intangible asset and amortized. Only certain costs should be considered as part of the asset’s cost for capitalization purposes. Those costs would include the direct costs of materials and services associated with the development or purchase, directly related payroll costs, and interest costs incurred during development. Costs that are incurred during the preliminary project stage should be expensed. Capitalization should begin after completion of the preliminary project stage and end upon completion of testing. While many capital assets purchased by a municipality may have a useful life of more than one year, only those with a cost that exceeds a threshold established by the municipality should be capitalized. Municipalities may have different capitalization thresholds for different types of capital assets. For example, a municipality may establish a capitalization threshold of $5,000 for all capital assets except for infrastructure with a threshold of $10,000. The Government Finance Officers Association (GFOA) recommends that a capitalization threshold be no less than $5,000. The capitalization threshold is used to determine which capital purchases will be reported as capital assets in the financial statements. As a good steward of public funds, municipalities should maintain sufficient control over all assets regardless of the cost. Accurate and complete records should be maintained to ensure that all assets are accounted for properly as required by Title 1 Chapter 4 of the Internal Control and Compliance Manual for Tennessee Municipalities. In order to meet the reporting requirements of GASB 34, an asset schedule should be maintained that contains, at a minimum, the following information which will be used to prepare the required footnotes to the financial statements. 1. Asset description 2. Asset classification (e.g. building, vehicle, road) 3. Asset function (e.g. police, recreation, general administration) 4. Purchase date and cost 24
5. Disposal date and proceeds 6. Useful life 7. Current and prior depreciation GASB 34 also requires that depreciation be reported in the government‐wide operating financial statement. Depreciation is the allocation of the cost of a capital asset over its estimated useful life. With the exception of land, capital assets are depreciated according to the depreciation method adopted by management. Land is not depreciated because it is not exhausted over time. Most municipalities use the straight‐line method to depreciate their capital assets. The simplified formula is: (Cost of capital asset – salvage value) ÷ useful life (years) = annual depreciation For example, Town of Anywhere buys a dump truck at a cost of $80,000. The scrap or salvage value is determined to be $3,000 and the useful life for heavy equipment is ten years. The annual depreciation would be calculated as follows: Cost of asset $80,000 Less: Salvage value $3,000 Value to be depreciated $77,000 Divided by useful life 10 Annual depreciation $7,700 Municipalities must consider several factors in order to estimate the useful lives of their capital assets. The asset’s quality, how it will be used, where it will be used, and industry standards should all be considered when establishing a useful life. For example, a road would have a longer life than a vehicle, and an asphalt road would be different than a concrete road. The useful lives established for capital assets should be compared to the municipality’s actual experience to be sure that appropriate useful lives are being used. The carrying value (cost less accumulated depreciation) of capital assets may need to be adjusted in the event that they have been significantly impaired due to any of the following circumstances: • physical damage, • legal or environmental factors changed, • technological changes or obsolescence, • changes in how it is used or the duration of use; and • construction stoppage. An impairment would be reported if 1) the decline in the asset’s service use is significant and 2) the decline is unexpected. Temporary impairments should not be recognized, nor should just a reduced demand for a capital asset be considered an impairment. There are three methods used to calculate an impairment loss and the method used will 25
depend upon the circumstances that caused the impairment. The Blue Book should be consulted for additional information on capital asset impairments and Table 12‐1 in the Blue Book shows the methods available and their intended use. GASB 34 brought about the reporting of a government’s infrastructure assets – roads, bridges, tunnels, etc. These assets have always been in existence, but were not required to be reported and in most cases the historical cost was not maintained. These assets can be expected to have an indefinite life if maintained adequately. GAAP waives the requirement to record depreciation for infrastructure assets provided that the asset is adequately preserved. This is called the modified approach for infrastructure reporting. There are specific requirements that must be met in order to use this method and GFOA recommends careful consideration before adopting this method. Most municipalities do not use the modified approach due to its complexity and monitoring requirements. MTAS’ publication Capital Asset Accounting System provides additional information on capital assets and the requirements of GASB 34.
Liabilities While governmental funds only recognize liabilities that are expected to be liquidated with current available financial resources, all liabilities must be recognized on the government‐wide statement of net assets. Unmatured portions of long‐term debt (bonds, notes, capital leases, etc.), accrued interest on long‐term debt, accrued leave, and claims and judgments are some examples of liabilities that are reported on the government‐wide statement of net assets. Prior to GASB 34, governmental fund liabilities were recorded in the General Long‐Term Debt Account Group (GLTDAG). It is very important to maintain a current record of the unmatured portion of long‐term debt, including the scheduled payments for each fiscal year. This schedule can also be very useful for planning how best to manage future debt issues. A sample schedule can be found in Appendix C. Some long‐term liabilities are not as easily identifiable as others. GASB 16 requires that accrued leave only be reported if it is 1) attributable to services already rendered and 2) not contingent on a specific event that is outside the control of the employer and employee. Claims and judgments should be recognized when it appears probable that a loss has been incurred and the amount can be reasonably estimated. As previously discussed, GAAP require landfill closure and postclosure costs be recognized over the landfill’s useful life. In a proprietary fund the calculated current period expense is recorded and offset by a long‐term liability during the operating life of the landfill. However, in a governmental fund, only the costs that will be paid from current expendable resources will be expensed. The governmental entity will still report 26
the total amount of the current period expense and the cumulative long‐term liability in the government‐wide financial statements. A liability that is somewhat unique to governmental accounting is deferred revenue. There are two types of deferred revenue – unearned and unavailable. For both the accrual and modified accrual bases of accounting, revenue should only be recognized when is has been earned. In the event that assets are reported prior to the revenue being earned, they must be offset by a liability – deferred revenue. Those funds that used the modified accrual basis of accounting must also report a liability for revenues that are not available to finance current expenditures. For instance when revenues that are earned are received past the period of availability, they must be reported as deferred revenues. There are other issues related to reporting of liabilities that the Blue Book can provide guidance on. The following is a list of some of those transactions. • Termination benefits • Conduit debt • Debt refunding • Leases payable • Pension/other postemployment benefits obligation
YearEnd Analysis and Adjustments Year end analysis is a very crucial role of the finance officer. It presents an opportunity to verify that transactions and balances accurately reflect the financial activities of the municipality. This process involves a detailed review of the general ledger, subsidiary ledgers, and trial balance. Generally this process will involve final reconciliations of subsidiary ledgers to the general ledger, reconciliations of cash accounts with bank statements, and various journal entries to adjust and reclassify accounts. Reconciliation of bank accounts and subsidiary ledgers should be done on a monthly basis thus making the year‐end process much less complicated. It is also very important to reconcile “due to” and “due from” accounts to be sure that they are in balance between funds. The following examples will illustrate some of the more common journal entries necessary at year end. All examples are for June 30, 2009. Example 1: Payroll Accrual The Town of Anywhere pays its employees on the first day of the month. The wages for the month of June 2009 payroll will not be payable until the beginning of the new fiscal 27
year on July 1, 2009. However, the employees earned the wages in June. The wages earned for June consist of $12,000 for the general fund, $500 for the sanitation fund, and $15,000 for the water fund. General Fund Entry: Account Description Type/effect Debit Credit Wages Expenditure/increase $12,000 Accrued payroll Liability/increase $12,000 Sanitation Fund Entry: Debit Credit Account Description Type/effect Wages Expenditure/increase $500 Accrued payroll Liability/increase $500 Water Fund Entry: Account Description Type/effect Debit Credit Wages Expense/increase $15,000 Accrued payroll Liability/increase $15,000 Example 2: Property Taxes Receivable – Current Year Town of Anywhere does not record an accounts receivable for its property taxes until the end of the fiscal year. When property taxes are receipted during the year they are posted directly to property tax revenues. The 2008 property tax bills were sent to all residents in October 2008. The uncollectible rate is determined to be 1.5% ‐ based on the 2007 taxes that were uncollected divided by the 2007 adjusted total tax assessment. The Town’s period of availability is 60 days. At June 30, 2009, the property tax detail was as follows: Tax assessment October 2008 $ 385,000 Tax adjustments and corrections $ (2,100) Adjusted tax assessment at June 30, 2009 $ 382,900 Property tax collections thru June 30, 2009 $ (361,800) Property tax receivable June 30, 2009 $ 21,100 Property tax collections the month of July $ (5,700) (current revenues) and August 2009 Allowance for uncollectible at June 30, 2009 $ (5,744) ($382,900 X .015) Deferred revenues $ 9,656 28
Account Description
Type/effect
Debit
Credit
Property tax receivable Asset/increase $21,100 Allowance for uncollectible Contra asset/increase $5,744 property taxes Property taxes Revenue/increase 5,700 Deferred revenues‐property Liability/increase 9,656 taxes Example 3: Property Taxes Receivable – Subsequent Year Accounting standards require that property taxes receivable be recorded when there is an enforceable legal claim. The State of Tennessee interprets this date to be the lien date, which is January 1. This is when the municipality has a legal claim to the taxable property. An accounts receivable for this lien should be recognized at June 30. Since the property taxes are not intended to fund current period spending, the entire amount must be recorded as deferred revenues. January 1, 2009 Property is valued by Property Assessor and legal claim is established June 30, 2009 Accounts receivable and deferred revenue is recorded based on most current property tax rate On July 15, 2009 Town of Anywhere increased its property tax rate and estimated its property tax levy for 2009 taxes (property valued January 2009 – tax statements will be issued October 2009) will be $465,000. Using the uncollectible allowance rate of 1.5% the allowance for uncollectible taxes would be $6,975. The entry at June 30, 2009 would be as follows. Account Description Type/effect Debit Credit Property Tax Receivable Asset/increase $465,000 (subsequent year) Estimated uncollectible taxes‐ Contra asset/increase $ 6,975 subsequent year Deferred revenues‐ Liability/increase 458,025 subsequent year taxes The entry does not affect any operating accounts, it only affects balance sheet accounts. If the tax rate had not been established for the 2009 taxes, the rate in effect for the 2008 taxes would have been used for the estimate. 29
Example 4: Due To/Due From A very important part of the year end process is a reconciliation of due to/due from in order to ensure they balance between funds. As detailed balances of the due to/due from accounts must be disclosed in the footnotes to the financial statements, the finance officer must maintain accurate and complete accounting records. Town of Anywhere’s sanitation fund (special revenue) does not generate enough revenue to cover its expenses. The general fund provides the needed subsidy for the sanitation fund. The sanitation fund needs $19,570 to cover its fiscal year 2009 expenses (previously budgeted) and the general fund transferred the money on July 15, 2009. The June 30, 2009 entry would be as follows: General Fund Entry: Account Description Type/effect Debit Credit Transfer to Sanitation Fund Other financing use/ $19,570 increase Due to Other Funds Liability/increase $19,570 Sanitation Fund Entry: Account Description Type/effect Debit Credit Due from other funds Asset/increase $19,570 Transfer from General Fund Other financing $19,570 source/increase The state street aid fund owes the general fund $5,000 for street repairs paid for in June by the general fund. State Street Aid Fund Entry: Account Description Type/effect Debit Credit Street repairs Expenditure/increase $5,000 Due to other funds Liability/increase $5,000 30
General Fund Entry: Account Description Type/effect Debit Credit Due from other funds Asset/increase $5,000 Street repairs Expenditure/decrease $5,000 On July 15, 2009, the general fund paid the drug fund the fines collected in June by the general fund in the amount of $3,000. General Fund Entry: Account Description Type/effect Debit Credit Drug fines Revenue/decrease $3,000 Due to other funds Liability/increase $3,000 Drug Fund Entry: Account Description Type/effect Debit Credit Due from other funds Asset/increase $3,000 Drug fines Revenue/increase $3,000 Town of Anywhere’s Water Utility owes the general fund for May’s payroll paid June 1, 2009 in the amount of $15,000. Water Fund Entry: Account Description Type/effect Debit Credit Wages Expense/increase $15,000 Due to other funds Liability/increase $15,000 General Fund Entry: Account Description Type/effect Debit Credit Due from other funds Asset/increase $15,000 Wages Expenditure/decrease $15,000 Example 5: Prepaid expenses On June 15, 2009, Town of Anywhere paid $25,000 for its workmans’ compensation insurance for July 1, 2009 coverage and posted it as insurance expenditure. 31
June 30, 2009 Entry: Account Description Type/effect Debit Credit Prepaid insurance Asset/increase $25,000 Insurance expenditure Expenditure/decrease $25,000 Example 6: Grant Revenue Town of Anywhere has an active grant in the general fund. Reimbursement of all expenditures through May 2009 has been received. A payment request for reimbursement of June 2009 expenditures was sent to the State of Tennessee in the amount of $7,400 and the monies were received in August 2009. Account Description Type/effect Debit Credit Receivable from State of Asset/increase $7,400 Tennessee State grant revenue Revenue/increase $7,400 Example 7: Accounts Payable Town of Anywhere does not use an accounts payable system, instead it pays all invoices received within ten days and posts the payments directly to the appropriate expenditure account. Upon inspection of various documentation (packing slips, July checks issued, etc.), the following bills were determined to be for expenditures incurred in June 2009. XYZ Vendor Office supplies $500 ABC Communications Telephone $725 123 Cleaning Cleaning services $325 Account Description Type/effect Debit Credit Office supplies Expenditure/increase $500 Telephone Expenditure/increase 725 Contract services Expenditure/increase 325 Accounts payable Liability/increase $1,550 32
Example 8: Contract and Retainage Payable Town of Anywhere is building a new library and has a contract with XYZ Construction Company. On July 15, 2009, the town received an invoice from XYZ for $350,000. This contract allows for the town to hold 10% of total billed cost for retainage. The June 30, 2009 entry would be as follows. Account Description Type/effect Debit Credit Capital outlay‐building Expenditure/increase $350,000 construction Contracts payable Liability/increase $315,000 Retainage payable Liability/increase 35,000 Example 9: Debt Service Payments During the fiscal year, Town of Anywhere’s finance officer posts all debt service payments to principal and does a year‐end journal entry to split the payments between principal and interest. The following payments were made in the general fund during fiscal year 2009. Total Principal Interest Loan #1 $15,000 $12,000 $3,000 Loan #2 $36,000 $31,400 $4,600 Loan #3 $21,000 $18,500 $2,500 Account Description Type/effect Debit Credit Interest on notes Expenditure/increase $10,100 Principal on notes Expenditure/decrease $10,100 Example 10: Correction on Posting of Revenues While reviewing Town of Anywhere’s general ledger for fiscal year 2009, the finance officer realized that $3,415 of state shared beer tax had been posted as excise tax. Account Description Type/effect Debit Credit Excise tax Revenue/decrease $3,415 Beer tax Revenue/increase $3,415 33
Example 11: State Income Tax The state shared Hall Income Tax is received by each municipality annually. This tax is levied on individuals as of December 31 and due to the State of Tennessee by April 15 of the next year. It is not received by the municipality until June or July. On July 10, 2009, Town of Anywhere receives its Hall Income Tax revenue from the State of Tennessee in the amount of $736. This is for individual income taxes assessed on December 31, 2008. The $736 should be recorded as revenues for fiscal year 2009. Account Description Type/effect Debit Credit Receivable from State of Asset/increase $736 Tennessee Income tax revenue Revenue/increase $736 Example 12: Accrued Interest Payable Enterprise funds must report any interest payable on outstanding debt that has accrued through June 30th. Town of Anywhere has prepared the following debt schedule for its water fund: Total Interest Date Pd Interest Due Date Due Revenue Bond #1 $12,000 3/1/09 $12,000 9/1/09 Revenue Bond #2 $27,000 4/15/09 $26,400 10/15/09 Revenue Bond #3 $25,000 6/1/09 $24,000 12/1/09 The amount of interest payable at June 30, 2009 would be calculated as follows: Bond #1 $12,000 ÷ 6 (months) X 4 (months) = $ 8,000 Bond #2 $26,400 ÷ 6 (months) X 2.5 (months) = $11,000 Bond #3 $24,000 ÷ 6 (months) X 1 (month) = $ 4,000 Interest Payable $23,000 Account Description Type/effect Debit Credit Interest expense Expense/Increase $23,000 Accrued interest payable Liability/increase $23,000 34
Example 13: Accrued Leave Many municipalities allow their employees to accumulate various types of leave such as vacation, sick, and personal. GAAP require that a liability for accrued leave be reported for leave that has been earned for services already performed and is not subject to an uncontrollable event (e.g. sickness). The most common type of leave that must be accrued is vacation. Vacation leave should be accrued if it has been earned for services already performed and it is probable that it will be paid. The accrued amount should include payments that are directly and incrementally related to the employee’s salary such as social security and medicare taxes. The accrued amount should not include the municipality’s contribution to TCRS since it is an agent multiple‐employer plan. Sick leave should only be accrued if employees are paid for unused sick leave upon termination. The liability amount can be calculated by using the termination payments method or the vesting method. The Blue Book can be consulted for further explanation. For funds that use modified accrual basis of accounting (general fund, etc.), accrued leave would usually only be reported on the government‐wide financial statements. Accrued leave would only be reported on the fund financial statements, if it (or the portion of it) was expected to be paid using current financial resources. The accrued leave adjustment would be part of the year‐end conversion process for government‐ wide reporting. However, enterprise funds would record accrued leave as a year‐end adjustment to their books. Town of Anywhere’s Water Utility has six employees with the following vacation leave available at June 30, 2009. The vacation leave is earned based on their services. The employees also have sick leave available, but it cannot be paid out except for time taken. Accrual Amount Rate of Pay Vacation Hrs Employee #1 $10.50 45 $472.50 Employee #2 $ 9.00 27 $243.00 Employee #3 $12.00 55 $660.00 Employee #4 $ 8.00 10 $ 80.00 Employee #5 $10.50 40 $420.00 Employee #6 $ 8.50 30 $255.00 Total salary $2,130.50 Social Security & Medicare taxes $162.98 Total accrued leave $2,293.48 35
Account Description
Type/effect
Debit
Credit
Salaries and wages Expense/increase $2,130.50 Payroll taxes Expense/increase $162.98 Accrued leave payable Liability/increase $2,293.48 Example 14: Reserved Fund Balance Town of Anywhere, upon approval by the Comptroller of the Treasury, maintains its State Street Aid funds in the General Fund. The June 30, 2008 credit balance in “Fund Balance – Reserved for State Street Aid” was $15,200. During fiscal year 2009, $41,000 of State Street Aid revenues was received and authorized expenditures of $39,000 were made. Account Description Type/effect Debit Credit Fund balance Equity/decrease $2,000 Fund balance – reserved for Equity/increase $2,000 State Street Aid Town of Anywhere uses the purchases method for its maintenance supplies. At June 30, 2009, a significant amount of inventory was on hand valued at $31,000. At June 30, 2008 the inventory account had a debit balance of $29,000. Account Description Type/effect Debit Credit Inventory – maintenance Asset/increase $2,000 supplies Fund balance – reserved for Equity/increase $2,000 Inventory
Conversion, Eliminations and Reclassifications for Government wide Reporting All activities in the government‐wide financial statements are reported using the accrual basis of accounting. Since governmental funds use the modified accrual basis of accounting, the data reported in the governmental fund financial statements must be converted to the accrual basis. The components of the conversion from fund statements to the government‐wide statements are required to be presented as part of the basic 36
financial statements. The reconciliation can be shown on the face of the fund financial statements or as an accompanying schedule. Since enterprise funds use accrual accounting, no conversion is necessary. However, interfund balances must be eliminated or reclassified to avoid duplicate reporting. Even though internal service funds are proprietary funds just like enterprise funds, they are handled differently. Because internal service funds primarily exist to provide services within the governmental entity, they are consolidated into either the governmental activities or the business‐type activities depending on which is their predominant customer base. This conversion is for reporting purposes only. Entries are not made in the accounting system for the conversion components. Instead a worksheet is used to document this process. As noted above, it is important to ensure that all interfund activity is in balance prior to beginning this process. It is also very important for finance officers to post audit adjustments for the fund financial statements otherwise this process can be very complicated. The current year governmental funds trial balances are adjusted for the following: • Prior year capital asset ending balances • Prior year long‐term liabilities ending balances • Current year capital asset activity • Current year depreciation and amortization • Current year long‐term liability activity • Revenues and expenditures related to prior year • Consolidation of internal service funds • Interfund activity
Interfund Activity Interfund activity within the governmental entity must be eliminated or reclassified for government‐wide reporting. The primary government cannot reflect any interfund payables or receivables between governmental activities or any interfund payables or receivables between business‐type activities in the government‐wide reports. They must be eliminated within the governmental activities column and within the business‐type activities column. The only interfund balances shown will be activities between governmental activities and business‐type activities. These balances will be reclassified as an asset called “internal balances” and will zero out in the total column. Activity between the same type of funds such as the general fund and special revenue funds must be eliminated (netted). This process will result in only the activity with other
37
fund types such as enterprise funds remaining. Likewise, this process must occur within the enterprise funds. The following example shows parts of the working trial balances for various funds and the eliminations necessary for government‐wide reporting. Working Trial Adjustments Adjusted Trial Balance (Fund) Balance (Government‐ wide) General Fund: Due from State Street Aid $5,000 ($5,000) (1) $0 Due from Water Fund $15,000 $0 (2) $15,000 Due to Drug Fund ($3,000) $3,000 (3) $0 Due to Sanitation Fund ($19,570) $19,570 (4) $0 Sanitation Fund: Due from General Fund $19,570 ($19,570) (4) $0 Drug Fund: Due from General Fund $3,000 ($3,000) (3) $0 State Street Aid: Due to General Fund (5,000) $5,000 (1) $0 Water Fund: Due from Gas Fund $6,000 ($6,000) (5) $0 Due to General Fund ($15,000) $0 (2) ($15,000) Gas Fund: Due to Water Fund ($6,000) $6,000 (5) $0 The $19,570 transfer between the sanitation fund (revenue) and the general fund (expenditure) must also be eliminated as follows. This is necessary because the original entries were transfers to and from and not reimbursement of revenues or expenditures. Working Trial Adjustments Adjusted Trial Balance (Fund) Balance (Government‐wide) General Fund: Transfer to Sanitation $19,570 ($19,570) $0 Fund Sanitation Fund: Transfer from General ($19,570) $19,570 $0 Fund
38
As a result of the above process, the balances within the governmental funds have been eliminated leaving a due from water fund of $15,000. In the enterprise fund a due to general fund is remaining in the amount of ($15,000). The next step is to reclassify these two balances as an asset called internal balances. These should always net to zero. Working Trial Adjustments Adjusted Trial Balance (Fund) Balance (Government‐wide) General Fund: Due from Water Fund $15,000 ($15,000) $0 Internal balances $0 $15,000 $15,000 Water Fund: Due to General Fund ($15,000) $15,000 $0 Internal balances $0 ($15,000) ($15,000)
Capital Outlay and Capital Assets All expenditures in governmental funds that were incurred for the purchase or construction of capital assets that exceed the established capitalization threshold must be removed and reported as capital assets in the government‐wide statement of net assets. Negative reclassifications indicate credits to expenditure accounts and positive reclassifications are debits to an asset account. The prior year end capital asset balances (maintained on the conversion worksheet) will be adjusted for current period activity as shown in the Current Period Adjustments for Government‐wide column below. Working Trial Reclassifications Current Period Balance (Fund) Adjustments for Government‐wide General Fund: Capital outlay expenditure‐ $5,100 ($5,100) $0 general administration Capital outlay expenditure‐ $15,600 ($15,600) $0 public safety Capital outlay expenditure‐ $7,500 ($7,500) $0 parks Land $0 $7,500 $7,500 Machinery and equipment $0 $20,700 $20,700 39
Working Trial Balance (Fund)
Adjustments
Current Period Adjustments for Government‐wide
Capital Projects Fund: Capital outlay expenditure‐ $376,000 ($376,000) $0 city hall construction Construction in progress $0 $376,000 $376,000 State Street Aid: Capital outlay expenditure‐ $39,000 ($39,000) $0 equipment Machinery and equipment $0 $39,000 $39,000 Any transfer of assets to or from a governmental fund to an enterprise fund must be reclassified. As you recall, earlier in this chapter we transferred a vehicle (original cost $25,000 – book value $20,000) from the general fund to an enterprise fund and a tractor (original cost $8,000 – book value $6,000) from an enterprise fund to the general fund. The transactions were recorded on the books of the enterprise fund, but not in the general fund. The following adjustments would be necessary for government‐wide reporting. Working Trial Adjustments Current Period Balance (Fund) Adjustments for Government‐wide General Fund: Machinery and equipment $0 ($25,000) ($25,000) Accumulated depreciation‐ $0 $5,000 $5,000 machinery and equipment Transfer out – Enterprise $0 $20,000 $20,000 Fund Machinery and equipment $0 $8,000 $8,000 Accumulated depreciation‐ $0 ($2,000) ($2,000) machinery and equipment Transfer in – Enterprise $0 ($6,000) ($6,000) Fund Water Fund: Capital contribution ($20,000) $20,000 $0 Transfer in – General Fund $0 ($20,000) ($20,000) Sales and disposals of capital assets must be reported in the government‐wide statement of net assets. Any gains should be reported as general revenues and any losses should be reported as a function of the general government.
40
A police vehicle was sold at public auction for $3,000. The capital asset record showed an original cost of $10,500 and accumulated depreciation of $9,450. A street cleaner that originally cost $25,000 and was fully depreciated was scrapped. Working Trial Adjustments Current Period Balance (Fund) Adjustments for Government‐wide General Fund: Other financing source‐ ($3,000) $3,000 $0 proceeds from sale of capital asset Accumulated depreciation‐ $0 $9,450 $9,450 machinery and equipment Machinery and equipment $0 ($10,500) ($10,500) Gain on sale of capital $0 ($1,950) ($1,950) asset (See calculation below) Original cost $10,500 Sale price $3,000 Accumulated depreciation 9,450 Book value 1,050 Book value $1,050 Gain on sale $1,950 State Street Aid: Accumulated depreciation‐ $0 $25,000 $25,000 machinery and equipment Machinery and equipment $0 ($25,000) ($25,000) Depreciation expense must also be reported for all depreciable capital assets. It must be reported by governmental function.
Working Trial Balance (Fund)
General Fund: Depreciation expense‐ general admin. Depreciation expense‐ public safety Depreciation expense‐ parks
Adjustments
Current Period Adjustments for Government‐wide
$0
$15,000
$15,000
$0
$29,000
$20,000
$0
$7,500
$7,500
41
Working Trial Balance (Fund)
General Fund: Depreciation expense‐ library Accumulated depreciation‐ general admin. Accumulated depreciation‐ public safety Accumulated depreciation‐ parks Accumulated depreciation‐ library State Street Aid: Depreciation expense‐ streets Accumulated depreciation‐ streets
Adjustments
Current Period Adjustments for Government‐wide
$0
$2,000
$2,000
$0
($15,000)
($15,000)
$0
($29,000)
($29,000)
$0
($7,500)
($7,500)
$0
($2,000)
($2,000)
$0
$55,000
$55,000
$0
($55,000)
($55,000)
Debt Activities Debt principal payments must be removed and the related liability reduced. Town of Anywhere paid $61,900 of principal on general obligation notes. Working Trial Adjustments Current Period Balance (Fund) Adjustments for Government‐wide General Fund: General obligation note $0 $61,900 $61,900 payable Principal paid on notes $61,900 ($61,900) $0 Any new debt issued along with any associated costs reported in the governmental funds must be reclassified to balance sheet accounts for the government‐wide financial statements. Town of Anywhere issued general obligation bonds in the amount of $1,000,000. There was not a premium or discount on the bonds. Issuance costs were $20,000. 42
Working Trial Balance (Fund)
General Fund: Deferred charge‐issuance costs Other financing source‐ bond issuance Expenditure‐bond issuance costs General obligation bond payable
Adjustments
Current Period Adjustments for Government‐wide
$0
$20,000
$20,000
($1,000,000)
$1,000,000
$0
$20,000
($20,000)
$0
$0
($1,000,000)
($1,000,000)
Revenue and Expenditure Adjustments Any governmental fund revenues of the current year that were not recorded because they were unavailable should be recognized. The availability criteria that relates to governmental funds does not apply to the government‐wide statement of activities. And likewise, any governmental fund revenues that relate to prior periods must be eliminated. Revenue that became available during the current fiscal year, but is related to prior fiscal years, must be eliminated – it has already been recognized as revenue in a prior fiscal year.
Based on the previous example on page 29, Town of Anywhere had deferred revenues of $9,656 for 2008 property taxes which was recorded on June 30, 2009. The following adjustment would be necessary June 30, 2009.
Working Trial Balance (Fund)
General Fund: Deferred revenues‐ property taxes Property tax revenues
Adjustments
Current Period Adjustments for Government‐ wide
($9,656)
$9,656
$0
$0
($9,656)
($9,656)
43
The following adjustment would be recorded on June 30, 2010. Working Trial Adjustments Balance (Fund)
Current Period Adjustments for Government‐ wide
General Fund: Property tax revenues ($9,656) $9,656 $0 Just like the revenue, any governmental fund expenditures that are related to prior periods must be eliminated and expenditures that are not associated with current financial resources must be recorded. The two most common are accrued leave and accrued interest. All liabilities must be accrued for government‐wide reporting whether current financial resources are being used or not. Town of Anywhere has calculated its accrued leave balance for general fund employees to be $23,500 at June 30, 2009. The accrued leave balance for the prior fiscal year was $10,000. For fiscal year 2009, the following adjustment would be necessary.
Working Trial Balance (Fund)
Adjustments
Current Period Adjustments for Government‐wide
General Fund: Salaries expenditure $0 $13,500 $13,500 Accrued leave $0 ($13,500) ($13,500) Internal service funds that have governmental funds as their predominant customer must be consolidated with those governmental funds for government‐wide reporting. First, the assets and liabilities of the internal service fund must be included with the assets and liabilities of the governmental funds. An adjustment to the net assets account is necessary for any difference between the assets and liabilities. Any revenues generated and expenses incurred from providing services to customers outside the municipality and any revenues not associated with the internal service fund’s function (e.g. interest earnings) would be consolidated with the governmental funds. Lastly, any profit or loss in the internal service fund is eliminated. This is accomplished by consolidating it into the government‐wide statement of activities as functional expenses. In order to do this, the profit or loss must be separated by function based on the percentage of participation by each governmental function. A detailed example of this can be found in the Blue Book. The conversion process is not an easy one and in many cases the external auditor will perform the conversion for the finance officer. However, at a minimum, the finance officer should have a general understanding of the process and the financial information 44
necessary to complete it. Exhibits 8‐1, 8‐2 and 8‐3 in the Government‐wide Financial Reporting chapter in the Blue Book provide information on the various types of transactions and their conversion process.
Summary This study guide completes the governmental accounting section of this program. To say the subject has been completely covered would be an overstatement. Although it is too vast of a subject to cover in such a limited time, we have tried to briefly cover many of the areas that municipalities deal with. Continuing education classes will be instrumental in expanding and enhancing the CMFO’s knowledge of governmental accounting. Governmental accounting has seen many changes in recent years and continues to evolve as the government environment changes and the standard of accountability continues to increase. GASB continues to update and issue new standards to deal with this ever changing environment.
45
Appendix A Illustrative Schedule of Unaccounted for Water
Town of Anywhere Water Department Schedule of Unaccounted for Water June 30, 2009 (All amounts in gallons) A Water Treated and Purchased: B Water Pumped (potable) 2,000,000 C Water Purchased 500,000 D Total Water Treated and Purchased 2,500,000 (Sum Lines B and C) E Accounted for Water: F Water Sold 1,800,000 G Metered for Consumption (in house usage) 200,000 H Fire Department(s) Usage 50,000 I Flushing 10,000 J Tank Cleaning/Filling 7,200 K Street Cleaning 0 L Bulk Sales 0 M Water Bill Adjustments j 2,000 , N Total Accounted for Water 2,069,200 (Sum Lines F thru M) O Unaccounted for Water 430,800 (Line D minus Line N) P Percent Unaccounted for Water 17.232% (Line O divided by Line D times 100)
Q Other (explain) Explain Other:
See Below Used in horticulture 150,000
All amounts included in this schedule are supported by documentation on file at the water system. If no support is on file for a line item or if the line item is not applicable, a "0" is shown.
46
Appendix B
Illustrative Utilities InLieu of Tax Formulas
47
NATURAL GAS IN‐LIEU OF TAX FORMULA FOR THE FISCAL YEAR ENDING 6‐30‐09 ITEM DESCRIPTION Part A I. City Tax Rate ‐ FYE 6‐30‐09
$ ‐
II. Appraisal Ratio ‐ FYE 6‐30‐09
‐
III. Equalized Tax Rate (Item I time II)
$ ‐
IV. Net Fixed Asset (Book Value 6‐30‐08)
$ ‐
V. Materials and Supplies (Book Value 6‐30‐08)
$ ‐
VI. Net Asst Book Value 6‐30‐08 (Item IV plus V)
$ ‐
VII. Utilities Tax Ratio (55%)
55%
VIII. Taxable Assessed Value (Item VI times VII)
$ ‐
IX. Property Taxes (Item III times VIII divided by 100)
$ ‐ FYE 6‐30‐07
ITEM DESCRIPTION Part B
FYE 6‐30‐08
FYE 6‐30‐09
X. Operating Revenues
$ ‐
$ ‐
$ ‐
XI. Bad Debts and Prior Year Items
$ ‐
$ ‐
$ ‐
XII. Net Operating Revenues (Item X minus XI)
$ ‐
$ ‐
$ ‐
XIII. Gas Purchases
$ ‐
$ ‐
$ ‐
XIV. Rentals and Prior Year Items
$ ‐
$ ‐
$ ‐
XV. Net Gas Purchases (Item XIII minus XIV)
$ ‐
$ ‐
$ ‐
XVI. Gross Profit (Item XII minus XV)
$ ‐
$ ‐
$ ‐
XVII. Average Gross Profit (Sum of Item XVI totals divided by 3)
$ ‐
XVIII. Revenues Taxes (4%) (Item XVII times .04)
$ ‐
XIX. Total In‐Lieu of Taxes (Item IX plus XVIII)
$ ‐
48
WATER AND SEWER IN‐LIEU OF TAX FORMULA FOR THE FISCAL YEAR ENDING 6‐30‐09 ITEM DESCRIPTION I. City Tax Rate ‐ FYE 6‐30‐09
$ ‐
II. Appraisal Ratio ‐ FYE 6‐30‐09
‐
III. Equalized Tax Rate (Item I time II)
$ ‐
IV. Net Fixed Asset (Book Value 6‐30‐08)
$ ‐
V. Materials and Supplies (Book Value 6‐30‐08)
$ ‐
VI. Net Asst Book Value 6‐30‐08 (Item IV plus V)
$ ‐
VII. Utilities Tax Ratio (55%)
55%
VIII. Taxable Assessed Value (Item VI times VII)
$ ‐
IX. In‐Lieu of Taxes (Item III times VIII divided by 100)
49
$ ‐
Appendix C Illustrative Debt Schedule
Town of Anywhere, Tennessee Schedule of Changes in General Long‐Term Notes, Other Loans, Capitalized Leases, and Bonds for the Year Ended June 30, 2009
Original
Bonds
Issued
Matured
Refunded
Amount
Interest
Date of
Maturity
Outstanding
During
During
During
Outstanding
of Issue
Rate
Issue
Date
6‐30‐08
Period
Period
Period
6‐30‐09
Capital outlay‐city hall renovations
$ 600,000
5.3559
6‐1‐95
6‐1‐07 $ 65,000
$ ‐
$ 65,000
$ ‐
$ ‐
Capital outlay‐library renovations
100,000
3.6
6‐12‐03
12‐1‐12 70,000
‐
10,000
‐
$ 60,000
$ 135,000
$ ‐
$ 75,000
$ ‐
$ 60,000
Description of Indebtedness
Last
Paid and/or
NOTES PAYABLE Payable through General Fund
Total Notes Payable
OTHER LOANS PAYABLE Public Building Authority Loan Agreements: Community center construction‐PBA of Tenn City $ 2,100,000
Variable
4‐15‐09
4‐15‐29 $ ‐
$ 2,100,000
$ ‐
$ ‐ $ 2,100,000
$ $ ‐
$ 2, 2,100,000 100,000
$ $ ‐
$ $ ‐
5‐1‐08 $ 160,769
$ ‐
$ 76,821
$ ‐ $ 83,948
$ 160,769
$ ‐
$ 76,821
$ ‐
Total Other Loans Payable
$ 2, 2,100,000 100,000
CAPITALIZED LEASES Police vehicles
$ 160,189
5.059
12‐20‐05
Total Capitalized Leases
$ 83,948
GENERAL BONDED DEBT General obligation refunding
$ 4,145,000
4.5 to 5.2
8‐1‐01
4‐1‐13 $ 2,925,000
$ ‐
$ 275,000
$ ‐
$ 2,650,000
General obligation bonds
4,895,000
3.0 to 5.0
3‐1‐04
3‐1‐18 4,765,000
‐
345,000
‐
$ 4,420,000
$ 7,690,000
$ ‐
$ 620,000
$ ‐
$ 7,070,000
Total General Bonded Debt
50
