Chapter Two: Principles of Accounting and Financial Reporting For State and Local Government

Chapter Two
Principles of accounting and financial

reporting for state and local
government
reporting for state and local government
Governmental entities provide:
1. Governmental Activities
2. Business type Activities
3. Fiduciary Activities
1. Core government services together with
general administrative support is to as
government activity
2. Gov’t also engage in business type of activities which
includes
Transportation, Public utility (water, electricity, gas),
Sometimes production e. t. c
3. Fiduciary – Government often act in a fiduciary
capacity, either as an agent, or trustee for parties out
side the government unit
 E.g. pension and other benefits.
The accounting and financial reporting principles for
governmental activities evolved to meet the legal budgetary
and financial compliance needs of government.
The accounting and financial reporting principles for business
type and for fiduciary activity of government is quite similar
to those commercial business entities.
There are different types of principles in relation to these
governmental activities:
PRINCIPLE 1: Accounting and reporting capability
The financial statement of a governmental unit must provide
information fully and present fairly to users in conformity
with GAAP
PRINCIPLE 1: Accounting and reporting Con
t’d
capability
Adherence to GAAP is essential to ensure a
reasonable comparability among the general
purpose financial statement of governmental
entities
There is a case in which law requires the state and
local governmental to follow practice not
consistent with GAAP, in such case the financial
statement prepared in compliance with state law
are considered as special report and they are not of
cont
* Governmental unit may prepare two sets of financial statement
 1) Incompliance with legal requirement (special report)
 2) Incompliance with GAAP (financial statement).
PRINCIPLE 2: Fund and fund accounting
In business accounting, ‘‘funds’’ typically refers
to working capital (current assets less current
liabilities) or selected elements of it (such as
cash and investments). But in government and
not-for-profit accounting the term fund has a
different meaning.
 Fund accounting is a system in which a
government & NFP organizations’ resources
are divided among two or more fiscal and
accounting entities known as funds.
cont
As a fiscal (or financial) entity, each fund accounts for
resources, and the claims against them, that are
segregated in accord with legal or contractual
restrictions or to carry out specific activities.
As an accounting entity, each fund has its own self-
balancing set of accounts from which separate
financial statements can be prepared.
 Funds uses the accounting equation:
Assets = Liabilities + Fund Balance
cont
The term fund balance replaces owners’ equity,
because governments and not-for-profits may not have
owners. Fund balance, like owners’ equity, is a residual
and is often referred to as net assets.
Fund balance, or net assets, is the amount left
to the parties with rights to the assets after all
liabilities have been paid.
PRINCIPLE 2: Fund and fund accounting Con
t’d
BASIS OF ACCOUNTING & MEASUREMENT
FOCUS:
Basis of accounting determines when transactions
and events are given accounting recognition. For
instance, if an entity adopts the full accrual basis of
accounting, a transaction is recognized when it has
its substantive economic impact, irrespective of
when cash is received or paid. If, on the other hand,
it adopts the cash basis, the transaction is
recognized only as the related cash is received or
cont
An entity’s measurement focus
determines what is being reported upon—
which assets and liabilities are given
accounting recognition and reported on
the balance sheet.
Con
t’d
BASIS OF ACCOUNTING &

MEASUREMENT FOCUS:
Governments and NFP organizations may be
primarily concerned with the assets needed to
satisfy current-year obligations,
So, they adopt a modified accrual basis of
accounting and a measurement focus on mainly
short-term financial assets and liabilities for
many of their funds,
Con
t’d
FOCUS:
Under the modified accrual basis, revenues are
recognized on a cash or near-cash basis; other
expenditures are recognized on a full accrual basis.
 capital assets and long-term liabilities are excluded from
their balance sheet, and
 Net changes in short-term financial assets and liabilities
are recognized as revenues or expenditures.
PRINCIPLE 2: Fund and fund accountingCon
t’d
FOCUS:
Eg: A government borrows Br35, 000 issuing a
long-term note, and uses the proceeds to purchase
a vehicle.
Cash……….……………………Br35,000
Proceeds from borrowing ……… Br35,000
(To record the issuance of a long-term
note)
Expenditure for vehicles …… Br35,000
t’d
FOCUS:
 The government reports neither the vehicle nor
the long-term note on its fund balance sheet.
 The vehicle is written-off (expensed) at the time
acquired,
 and the proceeds from the note are recorded as
increase in fund balance that (like revenue) is
closed to fund balance.
Type of Funds Con
t’d
There are three categories of funds based on the
activities the government organizations undertake:
Governmental Funds- for governmental activities
Proprietary Funds- for business type activities
Fiduciary Funds- for fiduciary activities
Con
t’d
I. Governmental Funds- accounts for the

governmental activities of the entity, and use the modified
accrual basis of accounting.
- The accounting equation governmental fund:
Fund Asset = Fund Liability + Fund Balance
Fund Balance = Fund Asset - Fund Liability
Fund balance = Reserved FB + Unreserved
FB
Con
t’d
Con
I. Governmental Funds
t’d
There are five types of funds under Governmental funds:

1) The General Fund
2) Special revenue fund
3) Capital Project Fund
4) Debt Service Fund
5) Permanent fund
t’d
I. Governmental Funds Con
t’d
1) The General Fund
It accounts for all of the general operating
activities (the basic services) provided by a
governmental unit
Includes transactions for general governmental
services provided by legislatives, executives and
judicial operations of governmental entity
t’d
I. Governmental Funds Con
t’d
1) The General Fund
It accounts for all resources that are not required
to be accounted for in other funds.
Governmental unit can establish only one general
fund,
However, the general fund can account for many
different activities.
Con
t’d
I. Governmental Funds
Con
t’d
2) Special Revenue Fund

It accounts for the proceeds from specific
revenue sources that are legally restricted for
specific purpose.
Con
t’d
I. Governmental FundsCon
t’d
3) Capital Project Fund

It is used to account for financial resources
intended for major capital projects
construction & Acquisition of capital asset.
E.g:-Construction of road
-Construction of bridge
-Construction of municipal building
Con
t’d
Governmental Funds Con

t’d
4) Debt Service Fund

to account for the accumulation of resources
for & the payment of general long term debt
principal & interest.
5) Permanent fund
accounts for resources that are legally
restricted, that only the earnings from
Con
t’d
II. Proprietary Funds

Is used to account for business type
activities of government unit.
The accounting equation for proprietary fund
includes fund equity account.
Fund Asset = Fund Liability + Fund Equity
Fund equity =Fund Asset – Fund Liability

Con
t’d

It contains two types of funds:
Enterprise & Internal
Service Fund
6) Enterprise Fund
Accounts for operations of governmental
units that charge for service provided to
general public.
t’d

6) Enterprise Fund
Includes those activities financed in a
manner similar to private business
enterprises where the intent of governing
body is to recover costs by providing goods
or services to the general public through user
charges.
Con
t’d

6) Enterprise Fund
Examples of enterprise fund
Water & sewerage utilities
Electric power utilities
Telecommunication service utilities
Air ports, Museums etc
Con
t’d

Con
t’d
7) Internal Service Fund

accounts for the financing of goods or
services provided by one department or
agency to another department or agency of
the governmental unit, or to the other
governmental units on a cost-reimbursement
basis.
Con
t’d
III. Fiduciary Funds
account for assets held by a government unit in a
trustee or agency capacity for individuals, private
organizations, other governmental units, and/or
other funds.
is about acting as an agent or a trustee for
property of another person/organization.
cannot be used to support government programs.
Con
t’d
III. Fiduciary Funds

Con
t’d
There are four types of fiduciary funds:
1. Pension and other employee benefit trust

fund
2. Investment trust fund
3. Private purpose trust
4. Agency funds
t’d
III. Fiduciary FundsCon
t’d
8) Pension and other employee benefit trust
fund
Are used to account for pension and employee
benefit funds for which the governmental unit is a
trustee
These resources represent money set-aside to
finance future payments for the beneficiaries.
t’d
III. Fiduciary Funds Con
t’d
9) Investment Trust Fund
Accounts for external portion of investment pool
reported by the sponsoring government.
10) Private Purpose Trust Fund
Reports all other trust arrangements under which
principal and income benefit individuals, private
organization or other governments.
t’d
III. Fiduciary Funds Con
t’d
11) Agency Fund
Are used to account for situations in which the
government is acting as a collecting/disbursing
agent.
E.g: Property tax that are collected from
homeowners are recorded in to a county’s
Agency fund and redistributed to the school
district library, city etc
PRINCIPLE 3: Number of Funds Required
Governmental units should establishes and

maintain those funds require by law & exercise
sound financial administration.
Unnecessary funds result in inflexibility, undue
complexity & inefficient financial administration.
But, to the minimum, it should establish the
general fund and exercise sound financial
administration over it (comply with GAAPs).
PRINCIPLE 4: Budget & Budgetary Accounting
Con
t’d
According to GASB;
 An annual budget should be adopted by every
governmental unit.
 The accounting system should provide the basis
for appropriate budgetary control.
 Budgetary comparisons should be included in the
appropriate financial statement.
PRINCIPLE 5: Accounting for Capital asset including
infrastructure
Valuation & depreciation:
 All fixed assets/capital assets should be
recorded at historical cost, or at estimated
cost if the historical cost is not
determinable.
 Donated fixed asset should be recorded at
the estimated fair value at the date of
Donation.
PRINCIPLE 5: Accounting for Fixed t’d Assets
Con

Depreciation of General fixed asset should
not be recorded in the accounts of
governmental fund; rather it should be
recorded in the General Fixed Asset Account
Group (GFAAG).
Depreciation of fixed asset (Depreciation)
expense should be recorded in the account of
PRINCIPLE 5: Accounting for Fixed Assets Con
t’d
E.g. GF purchased a vehicle for birr 360,000.
General Fund Ledger
Expenditure for Vehicle...birr360,000
Cash................................birr360,000
General Fixed Assets Account Group Ledger
Vehicle..............................birr360,000
Investment in FA, GF............birr360,000
PRINCIPLE 6: Accounting for Long-term Debts
 Long term liabilities of proprietary funds & trust funds
are accounted for through those funds.
 All other General Long-term Liabilities of governmental
unit are accounted for through the General Long-term
Debt Account Group (GLTDAG).
 General Long-term Debt are borrowings of the entire
governmental entity rather than by a specific fund.
 They are to be paid from general tax levies, specific debt
service tax levies, or special assessments, through DSF.
PRINCIPLE 6: Accounting for Long-term Debts Con
t’d
E.g. General Fund issued a bond of birr 500,000 that
matures in 5 year to finance its activities.
General Fund Ledger
Cash………………….……500,000
Other Financing Source (Bond proceeds)
………………………….500,000
GLTDAG Ledger
Bonds Payable……………………..500,000
Amount to be provided ……………500,000
PRINCIPLE 7: Basis of Accounting
The financial statements (Stt of net asset &
Sff of operation) are prepared by the
modified accrual or accrual basis of
accounting as appropriate.
The financial statements of gov’tal fund
should be presented using the modified
accrual basis of accounting.
Modified accrual basis recognizes revenue
PRINCIPLE 8: Financial Reporting
Con
t’d
The basic financial statements of

governmental unit are:
1. Government Wide (General Purpose)

Financial Statement
2. Fund Financial Statement
3. Comprehensive Annual Financial
Report/CAFR
Con
t’d
1. General purpose Financial Statements

may be used differently from
Comprehensive Annual Financial Report.
Such statements should include the basic
Financial Statements & notes to the financial
statement that are essential to fair
presentation of financial position and
operating results.
Con
t’d
2. Fund financial statements: are prepared

for Governmental funds & include Balance
Sheet, Statement of revenue, expenditure &
change in fund balance, including
reconciliation to government wide
statements.
PRINCIPLE 8: Financial Reporting Con
t’d
3. Comprehensive Annual Financial Report is
government’s official annual report prepared and
published as a matter of public report, contains:
 CAFR covering all funds & account groups of
the governmental unit including appropriate
combined, combining & individual fund
statements, notes to the FSs, schedules, narrative
explanations & statistical tables should be
prepared & published.
t’d
a. Combined statement is the operations of the
entire governmental entity constituting all the
individual funds into one statement.
b. Combining statement would consolidate the
results of all funds of same type; e.g. all special
revenue funds.
c. Individual fund statement would be prepared
for each individual fund, separately.
t’d
• In Government Financial Reporting,
Comprehensive annual financial report (CAFR) is
prepared in 3 sections:-
I. An introductory section
II. A Financial section
III. A statistical section
Introductory section includes such items as title

page and contents page, the letter of transmittal and
other material deemed appropriate by management.
Con
t’d
The financial section of a comprehensive
annual financial report (CAFR) should include:
Auditor’s Report
General purpose financial Statement (GPFS)
Combining and individual fund and account
group statements and schedules.
Management’s Discussion and Analysis:
Con
t’d
The End

Chapter Two: Principles of Accounting and Financial Reporting For State and Local Government

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Chapter Two: Principles of Accounting and Financial Reporting For State and Local Government

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Chapter Two

Principles of accounting and financial

BASIS OF ACCOUNTING &

I. Governmental Funds- accounts for the

There are five types of funds under Governmental funds:

2) Special Revenue Fund

3) Capital Project Fund

Governmental Funds Con

4) Debt Service Fund

II. Proprietary Funds

Fund equity =Fund Asset – Fund Liability

II. Proprietary Funds

II. Proprietary Funds

II. Proprietary Funds

II. Proprietary Funds

7) Internal Service Fund

III. Fiduciary Funds

There are four types of fiduciary funds:

1. Pension and other employee benefit trust

Governmental units should establishes and

Valuation & depreciation:

The basic financial statements of

1. Government Wide (General Purpose)

1. General purpose Financial Statements

2. Fund financial statements: are prepared

Introductory section includes such items as title

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