DEFERRED OUTFLOWS AND INFLOWS OF RESOURCES I. INTRODUCTION

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1 I. INTRODUCTION II. DEFERRED OUTFLOWS AND INFLOWS OF RESOURCES GASB 63 requires that certain defined transactions that do not qualify for treatment as either assets or liabilities be accounted for and reported as either deferred outflows of resources (a separate subheading following assets but before liabilities) or deferred inflows of resources (a separate subheading following liabilities but before equity). PRESENTATION OF STATEMENTS OF FINANCIAL POSITION A. Government Wide Statement of Net Position Governments are encouraged to report net position as the difference between assets plus deferred outflows and resources and liabilities plus deferred inflows of resources. Assets Deferred Outflows of Resources - Liabilities Deferred Inflows of Resources = Net Position B. Governmental Fund Balance Sheet Governmental funds should present financial position in a balance sheet format that displays assets plus deferred outflows of resources equal to liabilities plus deferred inflows of resources plus fund balance. Assets Deferred Outflows of Resources Optional subtotal = Liabilities Deferred Inflows of Resources Optional subtotal + Fund Balance Total Liabilities, Deferred Inflows of Resources and Fund Balance C. Proprietary and Fiduciary Statement of Net Position Proprietary funds are encouraged and fiduciary funds are required to report net position as the difference between assets plus deferred outflows and resources and liabilities plus deferred inflows of resources. Proprietary funds can also use a balance sheet format [(Assets + deferred outflows of resources) =(Liabilities + deferred inflows of resources) + Net position].

2 Assets Deferred Outflows of Resources - Liabilities Deferred Inflows of Resources = Net Position III. TYPES OF TRANSACTIONS CLASSIFIED AS DEFERRED OUTFLOWS OF RESOURCES AND DEFERRED INFLOWS OF RESOURCES A. Service Concession Arrangements (GASB #60) 1. Definition Service concession arrangements (SCAs) include payments by an operator (often a private vendor) to a government (transferor) for the right to operate and collect user fees from third parties on infrastructure or other public assets. SCAs may provide for revenue sharing between the government and the operator during the term of the arrangement. The state Department of Transportation (DOT) owns the Progressive Throughway, a toll road that connects numerous cities in a region. The state engages Roadway Management, Inc. to manage the operation of the toll road for three years. Roadway management pays the State a $1,000,000 flat fee for the rights to operate the road and retains the collected tolls as their compensation. Ownership of the Throughway resides with the DOT and management responsibility for the road reverts back to the state DOT at the end of the third year unless a contract is renewed. Roadway Management establishes toll rates for the Throughway, subject to DOT approval. The DOT is the government (transferor) and Roadway Management, Inc. is the operator. The infrastructure is the Progressive Throughway. Drivers paying tolls (user fees) represent the third parties. 2. Criteria for Qualifying for Deferred Outflow or Deferred Inflow Treatment a. The transferor conveys to the operator the right and related obligation to provide public services through the use and operation of a capital asset in exchange for significant consideration, such as: (1) An upfront payment (2) Installment payments (3) A new facility or improvements to an existing facility b. The operator collects and is compensated by fees from third parties. c. The transferor determines or has the ability to modify or approve what services the operator is required to provide, the population to be served, and the prices or rates that can be charged for the services. d. The transferor is entitled to significant residual interest in the serviceutility of the facility at the end of the arrangement. 3. Transferor accounting a. The transferor continues to show the managed facility as a capital asset. b. The transferor displays a liability for significant contractual obligations (e.g. capital improvements, etc.).

3 c. Upfront or installment payments are displayed as an asset at their present value along with a deferred inflow of resources. d. Deferred inflows should be recognized in a systematic and rational manner. The Progressive Throughway described above would receive the following accounting and reporting treatment. 1, The toll road itself (the Progressive Throughway) will remain on the books of the State as a capital asset. 2. The $1,000,000 fee paid by Roadway Management, Inc. will be recognized as a deferred inflow of resources on the balance sheet and recognized as revenue on a rational basis over the life of the agreement: Dr. Cash $1,000,000 Cr. Deferred inflow of resources $1,000, Roadway Management would recognize the tolls collected from Throughway users (drivers) as their own revenue. B. DERIVATIVES INSTRUMENTS AND HEDGE ACCOUNTING (GASB #53 AND 64) 1. Definition Derivative instruments are used by state and local governments to manage specific risks or to make investments. Common types of derivative instruments used by governments include the following (the specific mechanics of the use of various derivative instruments are described with examples in greater detail in F10): a. Interest rate and commodity swaps b. Interest rate locks c. Options d. Swaptions (embedded derivatives) e. Forward contracts f. Futures contracts 2. Accounting Treatment a. Derivatives are reported at fair value b. Changes in value of derivatives used as investments are displayed within the investment revenue classification. c. Changes in value of derivative used for hedging activities are reported as either deferred outflows or deferred inflows of resources. d. Derivative disclosures include: (1) Objectives, (2) Terms and risk of hedging derivative instruments, (3) Summary of instrument activity and (4) Location of fair value amount reported on the financial statements.

4 PASS KEY Changes in value of derivatives used for hedging activities are reported as either deferred outflows or deferred inflows of resources. Changes in the value of investment derivatives are reported in earnings. 3. Classification Classification of hedging derivative instruments depends upon the effectiveness of the hedge. Effectiveness is determined by evaluating whether the changes in cash flows or fair values of the hedging instrument substantially offset the changes in cash flows or fair values of the hedged item. 4. Changes in Hedge Accounting a. Effective derivative instruments are reported as if they were effective from their inception. b. Ineffective derivative instruments are evaluated as of the end of the prior reporting period. c. Termination of hedge accounting occurs when: (1) Hedging instruments are no longer effective. (2) Expected transactions (to be hedged) are no longer probable. (3) Hedged transactions are executed. (4) Hedged assets or liabilities are removed from the balance sheet. d. Termination of hedge accounting eliminates the use of deferral classifications and results in recognition of changes in derivative values in income. Fair Value Hedge Interest Rate Swap A fair value hedge protects against the risk of either total changes in fair value or adverse changes in fair value caused by fixed terms, rates or prices. Progressive Township enters into a pay-variable, receive-fixed interest rate swap to hedge the risk of changes in the fair value of the city's outstanding bonds. The derivative is deemed to effective and qualifies for hedge accounting. At inception, the fair value of the swap is zero. Changes in market conditions increase the value of the swap by $40,000 Progressive Township would make the following entry to record the change in value of the swap and record the change in value as a deferred inflow of resources as follows: Dr. Derivative Interest Rate Swap Cr. Deferred Inflows of Resources 40,000 - Cash Flow Hedge Forward Contract A cash flow hedge protects against the risk of either changes in total variable cash flows or adverse changes in cash flows caused by variable prices, costs, rates or terms. Progressive Township plans to purchase fuel for the operation of both its vehicles and its emergency generators for lift station operations in Year 2. The Township secures a forward contract to purchase fuel at a specific price in the future. By year end, however, the price of fuel had fallen below the guaranteed price of the contract thereby reducing the value of the forward contract by $35,000. The entry to record the decline in value of the hedge would be as follows:

5 Dr. Deferred Outflows of Resources 35,000 Cr. Forward contract 35,000 C. OTHER DEFERRRED OUTFLOWS/INFLOWS OF RESOURCES (GASB #65) 1. Definition GASB 65, "Items Previously Reported as Assets and Liabilities", revisses the treatment of a variety of transactions previously reported as either assets or liabilities on the statement of financial position to classification as either deferred outflows/inflows of resources or recognition as revenue or expense. Pass Key The use of the term deferred is limited to items reported as deferred outflows of resources or deferred inflows of resources and should not be used in connection with any other account title. a. Imposed Non-Exchange Revenue Transactions Imposed non exchange revenue transactions that are reported as receivable prior to their formal levy (such as property taxes recorded in December but not fully levied until January) or transactions recorded as a receivable prior the period when resources are required to be used (such as occupational licenses billed in November for business license valid in the following year beginning in January) should be reported as deferred inflows. b. Government-Mandated Non-Exchange Transactions and Voluntary Non- Exchange Transactions Although multi-year government mandated non-exchange transactions or voluntary non-exchange transactions may be entirely recognized as revenue, formal time restrictions create the possibility of deferred inflow/outflow treatment. Resources received before time requirements are met, but after all other eligibility requirements are met, should be reported as deferred outflows of resources by the provider and deferred inflows of resources by the recipient. c. Refunding of Debt The difference between the reacquisition price and the net carrying amount of the old debt should be reported as a deferred outflow (loss) or deferred inflow (gain) and recognized as a component of interest expense over the remaining life of the old or new debt, whichever is shorter. d. Sales and Intra-Entity Transfers of Future Revenues Sales and intra entity transfers of future revenues should generally be reported as deferred inflows of resources. Governments that factor their receivables initially record the proceeds from the sale as a deferred inflow that is recognized over time. The Progressive Township elects to sell it delinquent tax receivables to a state agency specifically established to assist local governments with cash flow issues. The Township would receive net proceeds from the State and record deferred inflows of resources. e. Debt Issuance Costs Debt issuance costs (similar to bond issue costs) are immediately expensed in the government wide financial statements in addition to proprietary and fiduciary fund financial statements.

6 f. Leases Gains or losses arising from sale and leaseback transactions result in a deferred inflow or deferred outflow of resources that are recognized systematically over the life of the lease. g. Regulated Operations Deferred inflows of resources may result from rate actions by a regulator that impose limitations on the assets of a government including a. Establishment of current rates at a level adequate to recover costs that expected to be incurred in the future b. Refund of gains or reductions of net allowable costs be given to customers over future periods. The State-regulated Progressive Township Electrical Authority has secured approval from the state to increase electric rates in the coming year. The increase is intended to fund system improvements. The incremental increase associated with the approved rate adjustment would be accounted for as an asset and as a deferred inflow. h. Assets Associated with Unavailable Revenues When an asset is recorded in governmental fund financial statements, but the revenue is not available (e.g. measurable but not collected until more than 60 days after year end), the government should report a deferred inflow of resources. Pass Key The use of deferred inflows and deferred outflows in governmental accounting is similar to the use of accumulated other comprehensive income in commercial accounting. For example, changes in the fair value of derivatives that qualify for hedge treatment and certain components of the change in pension liability receive deferred treatment on the statement of financial position through deferred inflow and outflow accounts rather than immediate recognition on the income statement.