1. Unique Aspects of Accounting Local Governments – Part I:
Chapter Twelve
Lecture Notes
Unique Aspects of Accounting
for State and
Local Governments – Part I:
The Recording Process

2. A Third Basis of Accounting:
Modified Accrual
Cash Accounting recognizes revenues when cash is received and
expenses when bills are paid (focus on cash movement).
Accrual Accounting recognizes revenue when goods or services have
been provided and recognizes expenses when resources have been
used (focus on when revenues are earned or resources are consumed).
Governmental funds use Modified Accrual Accounting. Expenditures
are recognized when resources are received. Revenues are recognized when they are measurable and available within the accounting period or shortly afterwards (focus on financial resources).
Financial resources are cash or assets that can be translated
to cash, less current liabilities.

3. Inflow (Revenue) Recognition
Measurable and Available
Earned
Collected
Payment has been
received or will be
received soon.
Payment has
been received.
Service has
been provided.
Accrual
Basis
emphasize that the three conditions do not have to be in the exact time order shown. For example, it is possible to collect revenue before it is earned.
Modified
Accrual Basis
Cash
Basis
Note: Governmental resource inflows are available if they are deemed to be
collectable during or shortly after the end of the accounting period. This may
happen before cash is received.

4. Outflow (Expense or Expenditure) Recognition
Payment
Encumbrance
Delivery
Use
Appropriation
Authorization
to spend money.
Order has
been placed.
Order has
been received by buyer.
Payment is
made.
Item is
consumed.
the order or events may also be different with resource outflows. For example, a resource might be used before it is paid for.
Accrual
Basis
Expense
now.
No expense
at this time -
any basis.
No expense
at this time -
any basis.
Modified
Accrual
Basis -
Expenditure
now.
Cash
Basis
Expense
now.

5. Implications of Modified Accrual Accounting
No long-term assets.
- Long-term acquisitions such as buildings and equipment are recognized as expenditures when acquired.
- There is no recognition of depreciation.
No long-term liabilities.
- Principal (repayment of debt) and interest are recognized
as expenditures when paid.
Proceeds from borrowing are treated as a nonrevenue source of fund balance rather than as a liability.

6. Differences Between Bases of Accounting
Accrual
Modified Accrual
Outflows
(Expenses or Expenditures)
When resource
is used
When resource is acquired, legal obligation to pay exists and payment will come from available resources
Inflows
(Revenues)
is earned
When resource is legally owed, measurable and
available
Assets
Current and long term
Current
Liabilities
Current and
long term

7. Governments and Fund Accounting
Governments use funds to account for separate sub-entities.
Governments have three major classes of funds:
- Governmental funds account for the operating activities
of governments (Modified Accrual Accounting).
- Proprietary funds account for activities that are run on
a business-like basis (Accrual Accounting).
- Fiduciary funds account for the government's activities
as trustee and agent (Accrual Accounting).

8. The Governmental Funds
Governmental funds include:
- General Fund used for the bulk of the day-to-day revenues
and expenditures of the government.
- Special Revenue Funds for the revenues and expenditures
of specific activities that are subject to legal or management-imposed restrictions.
- Capital Project Funds to account for major acquisitions of
plant or equipment.
Debt Service Funds to account for the accumulation of
resources to pay for principal and interest on long-term debt.
- Permanent Funds, which are similar to endowment funds.

9. Proprietary Funds
Proprietary Funds are used for activities that are run on a
business-like basis. Revenues come from fees, tolls, and
other charges:
- Internal Service Funds are established to account for
elements of the government that provide services to other governmental units.
- Enterprise Funds are established to track the activities of governmental units which provide goods and services to
individuals and organizations outside of the government.

10. Fiduciary Funds Fiduciary funds are held for another. They are not the
resources of the government.
- Trust Funds are established whenever money is given to
a government under the terms of a trust agreement such as
for an employee pension plan or an unemployment
compensation fund.
- Agency Funds are used to account for money that a
government is holding for some other operating entity like a
volunteer fire department or another level of government.

11. Modified Accrual Transactions
The Town of Millbridge buys and receives some fireworks on January 15th that it intends to use on July 4th. It receives a bill from the manufacturer for $50,000. How would the transaction be recorded by the Town under modified accrual accounting?
Modified accrual accounting (purchase approach)
Assets = Liabilities Fund Balance No Change = A/P + $50, Expenditure $50,000
Governments generally record transactions using modified accrual, but have the option of using modified accrual or accrual for prepayments, materials, and supplies.

12. Property Tax Transactions
Millbridge issues $611,000 in property tax bills this year. Total collections for
the year are $600,000 made up of $575,000 of this year's taxes and $25,000 from
last year's tax bills. The remaining $36,000 from this year is expected to be collected within 60 days of year-end. It is "available." How would these financial events be recorded? Assets = Liabilities Fund Balance Recording the property taxes billed this year Taxes Tax
Receivable + $611, = No Change Revenue $611,000 Recording the receipt of $600,000 in collected taxes Cash + $600,000
Taxes Receivable - $600, = No Change No Change
Where are the $25,000 in last year’s collected taxes and the $36,000 in uncollected taxes from this year in these transactions?
the $25,000 in last years taxes are included in the taxes collected as a reduction in taxes receivable. They were reflected in last years revenue.
the $36,000 in this years taxes have been reflected in revenue because they meet the definition of "available funds" and are part of the year end property taxes receivable.

13. Long-Term Liabilities Modified Accrual Accounting
When a government borrows money on a long-term basis:
- no liability is created on the balance sheet.
- cash is increased and the fund balance is increased.
This is how a $1,000,000 loan would be recorded: Assets = Liabilities + Fund Balance Other Financing
Cash + $1,000,000 = No Change + Sources $1,000,000
Note that the increase in the fund balance is not referred
to as revenue.

14. An Interfund Transaction
During the fiscal year the general fund was legally required to transfer
$100,000 to the debt service fund. Only $97,000 was transferred.
How would this transaction be recorded?
Assets = Liabilities Fund Balance
General Fund
Due to Other Financing Use Cash - $97, = DSF + $3, Transfer to DSF
$100,000 Debt Service Fund Cash + $97, No Other Financing Source Due from GF + $3,000 = Change Transfer from GF $100,000

15. Debt Repayment Transaction
The interest and principal due on Millbridge's debt during the year were $15,000 and $50,000, respectively. Payments were made from the debt service fund. How were the payments recorded? Debt Service Fund
Assets = Liabilities Fund Balance Interest Principal Cash = No expenditure - expenditure
- $65, Change $15, $50,000
Both the interest and the principal were recorded as expenditures. Would the transaction have been recorded in the same way under accrual accounting?
Why was there no change in any liability account?
No. Under accrual accounting, only the interest payment would have been shown as an expense.
The principal repayment would have been recorded ion the balance sheet as a reduction in the long-term debt liability

16. Acquiring a Building
Assume that a building is purchased for $270,000, with full payment in cash.
What if the Town issued a bond for $270,000 to pay for the building?
Question 1
Under accrual accounting, the organization would have recorded a fixed asset and depreciated it over its useful life. the expense would have reflected use not resource acquisition.
Question 2
the proceeds of the bond issue would have resulted in an increase in cash and an increase in the liability for bonds payable

17. Transactions for Acquiring a Building
Capital Projects Fund
Assets = Liabilities Fund Balance
Acquisition Using Available Cash Building acquisition
Cash - $270,000 = No Change expenditure $270,000
Purchase of the Building by Issuing Bond
Other sources of
Cash + $270,000 = No Change financing $270, Building acquisition
Cash - $270,000 = No Change expenditure $270,000

18. Budgetary Accounting
Government budgets are recorded in their accounting systems.
Aids compliance with legal spending restrictions.
Aids budget control.
Uses system of appropriations and encumbrances.

19. Budgetary Accounting Example – Supplies Budget
Appropriation $ 130,000
Less: Expenditures
Less: Encumbrances
Amount Available for Spending $ 130,000
Supply order for $60,000 is placed. If someone wanted to place another order they would find that the balance available to spend is:
Less: Encumbrances ,000
Amount Available for Spending $ 70,000

20. Budgetary Accounting Example, continued
When the supplies are received, the encumbrance transaction
is reversed, and an expenditure transaction is recorded:
Appropriation $ 130,000
Less: Expenditures ,000
Less: Encumbrances
Amount Available for Spending $ 70,000
Suppose another order is now placed for $50,000 of supplies.
The supplies account would be encumbered, and the new
balance available to spend would be $20,000, as follows:
Less: Encumbrances ,000
Amount Available for Spending $ 20,000