Essentials of Accounting for Governmental and Not-for-Profit Organizations Chapter 5 Accounting for Other Government Fund Types Capital Projects, Debt Service, and Permanent Funds McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.

5-2 Overview of Chapter 5 Review of common characteristics of governmental type funds Representative Transactions Capital Projects Funds Debt Service Funds Permanent Fund Review of Fund statements—Government type funds

5-3 Review of Governmental Type Funds Use Modified Accrual Basis and Current Financial Resources measurement focus If an annual budget is used, may be recorded in the fund but is not required If control of purchase orders is relevant to the fund, can use encumbrance accounting. Typically done with capital projects. Generally do not report long-term assets or long- term liabilities on fund balance sheet Long-term asset purchases are treated as expenditures, no depreciation. Long-term debt proceeds are treated as other financing sources.

5-4 Capital Projects Funds: Account for and report financial resources that are restricted, committed or assigned to expenditure for capital outlays. GASB 54 – Fund Definitions Capital Projects Funds

5-5 Capital Project Funds Used for construction or acquisition of major long-term assets such as buildings, bridges, etc. for government funds Proprietary type funds account for construction activities in proprietary funds. They do not require use of a capital project fund. Sources: Accounts for issuance of bonds and receipt of other financing sources Uses: Accounts for construction or acquisition expenditures Does not report the long-term asset in the CP fund—Treated as expenditure in the fund Long-term asset is listed in government-wide Statement of Net Assets(Position)

5-6 Primary Sources of Funds for Capital Projects Issuance of bonds Grants from other government units Dedicated taxes Transfers from other funds Other Donations Interest earned on funds held

5-7 Bond Issues Long-term bonds are not fund liabilities in governmental type funds Assume $12,000,000 of bonds are issued to fund a capital project: Cash$12,000,000 Other financing sources: Bond Proceeds$12,000,000 Bond proceeds are considered an Other Financing Source on the Statement of Revenues, Expenditures and Changes in Fund Balance Bond proceeds is not a revenue per se, but is considered a current inflow on the activity statement

5-8 Number of Capital Project Funds to Use Some jurisdictions may require a separate fund for each building project Otherwise, governments may account for all, or at least related construction projects, in a single fund using the ‘fund within a fund’ approach In that case a government will use separate accounts for: Expenditures - Project 1, Expenditures - Project 2, etc. General rule—make sure you can demonstrate the funds intended to be used on a specific project are traceable to the project

5-9 Lease Accounting for State and Local Governments Operating leases — true rental situation Capital leases — these are ‘in-substance’ purchases of long-term assets on time with interest The classification criteria to be treated as capital lease are the same as for commercial businesses: o Transfers ownership o Contains bargain purchase option o Life greater than 75% of asset’s life o Present value of minimum lease payments greater than 90% of fair value of asset

5-10 Lease Issues cont’d At the inception (beginning) of a capital lease, the present value of minimum lease payments is recorded as follows: Expenditure Dr = PV of payments Other Fin. Source – Lease Cr = PV of payments

5-11 Lease Issues cont’d At the inception of the lease the present value of lease payments is reported as an asset and liability in the government-wide statements Over time, the net asset value in the government-wide statement of net assets(position) is decreased by its accumulated depreciation Over time, the liability is decreased by the amount of the principal retired through each lease payment

5-12 Special Assessments “Special” Assessments are similar to property tax assessments, but are limited to taxpayers receiving direct benefits Citizens in a limited area may vote or petition the government to provide a service or capital project and the government may then assess taxes for these benefits

5-13 Special Assessment Types Service type: Example, downtown merchants want enhanced police protection and are willing to pay for it through extra assessments Construction type: Example, residents want their street paved and are willing to have the cost charged to them over a period of time

5-14 Accounting for Service Assessments The government will use whatever fund they normally use for that service to record the special assessment tax revenue For example, if the assessment is for extra policing and police costs are in the General Fund, then the assessments will be treated as General Fund revenues If the assessment were for service normally accounted for in a special revenue or enterprise fund, then use those funds

5-15 Special Assessments for Debt Financed Capital Assets The accounting treatment depends on the extent to which the government is liable for the debt. Types: The government is primarily or secondarily liable to pay off the special assessment construction loan in the event that taxpayer revenues are insufficient The government is NOT liable, either legally or by choice, even in the event that taxpayer payments are insufficient to pay the debt

5-16 Construction Special Assessment Issues Government liable on the debt Record construction in Capital Project fund as usual Record repayment of debt (i.e. special assessment tax collections) in Debt Service fund as usual Report the assets constructed and the special assessment debt in the government-wide statement of Net Assets(Position) The effect is to treat the debt and related project as if it were undertaken by the government

5-17 Construction Special Assessment Issues cont’d Government is not liable on debt Debt/bonds are not reported in the government-wide Statement of Net Assets(Position) since it not an obligation of the government Collections of special assessment taxes from the taxpayers and remittance to debtholders are handled in an agency fund

5-18 Debt Service Funds: Account for and report financial resources that are restricted, committed or assigned to expenditure for principal and interest. GASB 54 – Fund Definitions Debt Service Funds

5-19 Uses of Debt Service Funds Sinking fund and payments on bonds Payments on long-term notes Payments on capital lease

5-20 Purpose of Debt Service Fund The debt service fund accumulates resources to pay principal and interest on long-term debts of the overall government Debt service funds are not used for proprietary fund debts, those funds carry their own long-term debt While the debt service accumulates money and makes principal and interest payments, bonds payable is not a liability of the fund because the Debt Service Fund uses the modified accrual basis/ current resources measurement focus The Bond Liability is in the government-wide statement of Net Assets(Position)

5-21 Sources of Debt Service Financing Transfers Typically from the General fund, but also: Premiums or accrued interest at the time of issuance are often transfer to DSF from Capital Project fund (CPF) Residual equity transferred from CPF Taxes earmarked for debt service (including special assessments) Refinancing bond proceeds

5-22 Modified Accrual Basis & Debt Service Funds Exception to expenditure recognition under the modified accrual basis: Most expenditures are recorded when the liability is incurred EXCEPT for interest and principal on long term debt: Interest and principal on long term debt is record in the DSF as an expenditure when DUE But, there is an exception to the exception:  Example: When year ends December 31, 20X1 bond payments is due January 1, 20X2 ( or within a month), and the money for the payment was provided in the 20X1 budget—then an expenditure and liability for the upcoming payment may be recorded in fiscal year 20X1  Key issue—put expenditure in the year it was budgeted

5-23 Types of Debt For serial bonds, money is transferred in, payments are made, and little or no balance exists at year end Because of this simplicity, some governments may actually handle Debt service in General Fund if allowed by law Term bonds: All the principal of the bond comes due at end of the term (perhaps after 30 years). Interest may be paid over time, or all at the end as well Deferred serial bonds: these may not start the payments for 2 to 5 years after the bonds are used Allows time for property taxes to begin coming in before payments start

5-24 Types of Debt cont’d In term bond and deferred serial bond situations, the Debt Service Fund acts as a sinking fund: Money is moved into the fund and invested in revenue generating investments Present value techniques and amortization tables are used to plan the amount of money that must be invested so that original money plus revenue earned over time equals required bond principal and interest payments

5-25 DSF and Lease Payments Debt Service Funds are commonly used for capital lease payments, although the General Fund may sometimes be used In governmental funds, both the payment of principal and payment of interest result in an EXPENDITURE However, journal entries should keep the amounts separate, because only the principal portion reduces the net liability on the government-wide Statement of Net Assets(Position)

5-26 Permanent funds should be used to account for and report resources that are restricted to the extent that only earning, and not principal, may be used for purposes that support the reporting government’s programs. GASB 54 – Fund Definitions Permanent Funds

5-27 Permanent Funds Permanent fund characteristics: Contribution of a principal amount from a donor which is to be invested in perpetuity Earnings in the fund are designated to a purpose that benefits the government or its citizens

5-28 Summary: Accounting for Trusts Purpose of TrustTrust DescriptionAppropriate Fund Trust is to be used to benefit the government or its citizenry. Examples: Cemetery perpetual care or funds established to support libraries, museums or zoos. Expendable: Trust does not distinguish between earnings and principal. Both may be expended for the purpose provided. Special Revenue Fund Non-expendable: Trust stipulates that earnings only (not principal) may be expended for the purpose provided Permanent Fund Trust is to benefit individuals, private organizations, or other governments. Examples: Scholarship funds or funds intended to benefit families of police or firemen killed on duty. Although these are most commonly non- expendable, there is no requirement that they be so. Private Purpose Trust Fund

5-29 Review of Fund Financial Statements for Government Type Funds Balance Sheet Must present separate columns for the General Fund, each major fund, and a single column for nonmajor funds Governments may show nonmajor funds separately, if it does not make the reports too cumbersome The difference between assets and liabilities is termed Fund Balance and is reported as Nonspendable, Restricted, Committed or Assigned. Only the General Fund reports Unassigned fund balance.

5-30 Statement of Revenues, Expenditures, and Changes in Fund Balance The Statement will have columns for the same GF, Major, and Nonmajor funds used in the Balance Sheet Format : Revenues - Expenditures + or - Other Finance Sources/Uses + or - Special Items = Change in Fund Balance + Beginning Bal = Ending Fund Balance

5-31 Statement of Revenues, Expenditures, and Changes in Fund Balance, cont’d Expenditures are displayed by Character Classifications: Current, Debt Service, Capital Outlay