Government and Not-for-Profit Accounting

Government and Not-for-Profit Accounting Concepts and Practices Sixth Edition Michael H. Granpf University of Texas, Austin Saleha B. Khumawala University of Houston WILEY

ER 1 THE GOVERNMENT AND NOT-FOR-PROFIT ENVIRONMENT 1 How Do Governments and Not-for-Profits Compare with Businesses? 2 IN PRACTICE: Why Is State and Local Government Accounting Important? 5 What Other Characteristics of Governments and Not-for-Profits Have Accounting Implications? 9 What Are the Overall Purposes of Financial Reporting? 13 Who Are the Users and What Are the Uses of Financial Reports? 14 What Are the Specific Objectives of Financial Reporting as Set Forth by the GASB and FASB? 17 EXAMPLE: Clash among Reporting Objectives 18 Do Differences in Accounting Principles Really Matter? 21 IN PRACTICE: Will Accounting Changes Make a Difference? 23 Who Establishes Generally Accepted Accounting Principles? 23, IN PRACTICE: Assessing the Profitability of a Football Program 24 - IN PRACTICE: Governments and Not-for-Profits May Also Be Aggressive in Their Accounting 25 Summary 28 Key Terms in This Chapter 28 Questions for Review and Discussion 28 Exercises 29, Continuing Problem 31 Problems 31 x Discussion 35 CHAPTER 2 FUND ACCOUNTING 36 What Is a Fund? 37 What Are the Key Elements of Government Financial Statements? 37 What Characterizes Funds? 39 EXAMPLE: Fund Accounting in a School District 45 How Can Funds Be Combined and Consolidated? 47 v What Are the Main Types of a Government's Funds? 53 What's Notable about Each Type of Governmental Fund? 55 What's Notable about Each Type of Proprietary * Fund? 58 What's Notable about Each Type of Fiduciary Fund?.60 What Is Included in a Government's Comprehensive Annual Financial Report (CAFR)? 65 EXAMPLE: Government-Wide Statement of Activities 67 How Do the Funds and Annual Reports of Not-for-Profits Differ from Those of Governments? 69 Summary 72 Key Terms in This Chapter 73 Exercise for Review and Self-Study 74 Questions for Review and Discussion 75 Exercises 75 Continuing Problem 79 Problems 79 Discussion 85 Self-Study 85 CHAPTER 3 jii ISSUES OF BUDGETING AND CONTROL 89 What Are the Key Purposes of Budgets? 90 Why Is More Than One Type of Budget Necessary? 91 How Are Expenditures and Revenues Classified? 92 Why Are Performance Budgets Necessary? 93 What Are the Key Phases for the Budget Cycle? 96

IN PRACTICE: Budgeting and Legislative Constraints 97 IN PRACTICE: Misestimating Revenues and '^Expenditures 98 On What Basis of Accounting Are Budgets Prepared? 99 IN PRACTICE: States Balance Their Budgets the Painless Way 100 IN PRACTICE: Recession Presents Cities and States with Major Fiscal Challenges 101 IN PRACTICE: Balancing the Budget by Selling Assets to Yourself 102 What Cautions Must Be Taken in Budget-to-Actual Comparisons? 102 How Does Budgeting in Not-for-Profit Organizations Compare with That in Governments? 105 How Do Budgets Enhance Control? 106 ' What Are the Distinctive Ways Governments Record Their Budgets? 108 EXAMPLE: Budgetary Entries 109 How Does Encumbrance Accounting Prevent Overspending? Ill EXAMPLE: The Encumbrance Cycle Year 1 112 EXAMPLE: The Encumbrance Cycle Year 2 114 EXAMPLE: Impact of Encumbrances on Fund Balance 115 Are Budgetary and Encumbrance Entries Really Needed? 118 Summary 118 Key Terms in This Chapter 119 Exercise for Review and Self-Study 119 Questions for Review and Discussion 119 Exercises 120 Continuing Problem 123 Problems 124 V Discussion 131 Self-Study 131 CHAPTER 4 RECOGNIZING REVENUES IN GOVERNMENTAL FUNDS 133 Why and How Do Governments Use the Modified Accrual Basis? 134 What Are the Main Types of Nonexchange Revenues and the Limitations on How and When They Can Be Used? 137 How Should Property Taxes and Other Imposed Nonexchange Revenues Be Accounted For? 138 IN PRACTICE: Housing Woes Raise New Problems for Accountants and Auditors 139 EXAMPLE: Property Taxes 140 EXAMPLE: Fines 144 How Should Sales Taxes and Other Derived Tax Revenues Be Accounted For? 146 EXAMPLE: Sales Taxes 146 EXAMPLE: Sales Taxes Collected by State 148 EXAMPLE: Income Taxes 149 How Should Grants and Similar Government-Mandated and Voluntary Nonexchange Revenues Be Accounted For? 150 EXAMPLE: Unrestricted Grant with Time «Requirement 152 EXAMPLE: Grant with Purpose Restriction 152 EXAMPLE: Reimbursement (Eligibility Requirement) Grant 153 EXAMPLE: Unrestricted Grant with Contingency Eligibility Requirement 153 EXAMPLE: Endowment Gift 153, EXAMPLE: Pledges 154 EXAMPLE: Donations of Land for Differing Purposes 154 EXAMPLE: On-Behalf Payments 157 How Should Sales of Capital Assets Be Accounted For? 158 EXAMPLE: Sales of Capital Assets 158 How Should Investment Gains and Losses Be Accounted For? 159 EXAMPLE: Investment Income 160 IN PRACTICE: Some Governments May Make Suboptimal Investment Decisions in Order to Avoid Financial Statement Volatility 161 How Should Interest and Dividends Be Accounted For? 162 EXAMPLE: Interest Income 162 How Should Licenses, Permits, and Other Exchange Transactions Be Accounted For? 163 EXAMPLE: License Fees 163 How Should Governments Report Revenues in Their Government-Wide Statements? 164 Summary 165 Key Terms in This Chapter 166 Exercise for Review and Self-Study 166 Questions for Review and Discussion 167 Exercises 168 Continuing Problem 171

XI Problems 171 Discussion 177 Self-Study 178 CHAPTER 5 RECOGNIZING EXPENDITURES IN GOVERNMENTAL FUNDS 180 How Is the Accrual Concept Modified for Expenditures?, 181 How Should Wages and Salaries Be Accounted For? 182 IN PRACTICE: Tax Expenditures That Are Actually Reductions in Revenue 183 EXAMPLE: Wages and Salaries 183 How Should Compensated Absences Be Accounted For? 184 IN PRACTICE: Changing the Pay Date by One Day 184 EXAMPLE: Vacation Leave 185 EXAMPLE: Sick Leave 186 EXAMPLE: Sabbatical Leave 188 How Should Pensions and Other Post-Employment Benefits Be Accounted For? 189 EXAMPLE: Pension Expenditure 189 How Should Claims and Judgments Be Accounted For? 190 EXAMPLE: Claims and Judgments 190 How Should the Acquisition and Use of Materials and Supplies Be Accounted For? 192 EXAMPLE: Supplies 193 How Should Prepayments Be Accounted For? 195 EXAMPLE: Prepayments 195 How Should Capital Assets Be Accounted For? 196 EXAMPLE: Capital Assets 197 EXAMPLE: Installment Notes 198 EXAMPLE: Capital Leases 199 How Should Interest and Principal on Long-Term Debt Be Accounted For? 200 EXAMPLE: Long-Term Debt 201 IN PRACTICE: California School Children May Pay for Their Own Education 202 How Should Nonexchange Expenditures Be Accounted For? 204 EXAMPLE: Unrestricted Grant with Time Requirement 204 EXAMPLE: Grant with Purpose Restriction 204 EXAMPLE: Reimbursement (Eligibility Requirement) Grant 205 How Should Interfund Transactions Be Accounted For? 206 EXAMPLE: Interfund Transfer 206 EXAMPLE: Interfund Purchase/Sale 207 What Constitutes Other Financing Sources and Uses? 208 How Should Revenues, Expenditures, and Other Financing Sources and Uses Be Reported? 209 What Is the Significance of the Current Financial Governmental Fund Statements? An ~ J Overview 210 Summary 211 Key Terms in This Chapter 212 Exercise for Review and Self-Study 212 Questions for Review and Discussion 213 Exercises 214 Continuing Problem 218 Problems 218 Discussion 224 Self-Study 225 CHAPTER 6 ACCOUNTING FOR CAPITAL PROJECTS AND DEBT SERVICE 228 How Do Governments Account for Capital Projects Funds? 229 EXAMPLE: Bond Issue Costs 231 EXAMPLE: Bond Premiums and Discounts 232 COMPREHENSIVE EXAMPLE: Main Types of Transactions Accounted for in Capital Projects Funds 2 33 How Do Governments Account for Resources Dedicated to Debt Service? 237 COMPREHENSIVE EXAMPLE: Main Types of Transactions Accounted for in Debt Service Funds 238 - How Do Governments Handle Special Assessments? 241 IN PRACTICE: Use and Abuse of Special Assessments 243 Accounting for Special Assessments in Proprietary Funds 246 IN PRACTICE: What We Might Learn from "Net Investment in Capital Assets" 248

XII CONTENTS How Can Governments Benefit from Debt Refundings? 249 EXAMPLE: Debt Refundings 250 EXAMPLE: In-Substance Defeasance 251 rt Summary 254 Key Terms in This Chapter 255 Exercise for Review and Self-Study 255 Questions for Review and Discussion 256 Exercises 256 Continuing Problem 261 Problems 261 Discussion 269 Self-Study 269 CHAPTER 7 CAPITAL ASSETS AND INVESTMENTS IN MARKETABLE SECURITIES 272 What Accounting Practices Do Governments Follow for General Capital Assets? 273 EXAMPLE: Trade-ins 277 Why and How Should Governments Report Infrastructure? 278 IN PRACTICE: Nation's Infrastructure Earns a Cumulative Grade of "D" for the Second Time 279 IN PRACTICE: Why Governments May Need Information on Fair Values 282 How Should Governments Account for Assets That Are Impaired? 2 86 EXAMPLE: Restoration Approach 287 EXAMPLE: Service Units Approach 287 EXAMPLE: Deflated Depreciated Replacement Cost Approach 288 What Issues Are Critical as to Investments in Marketable Securities and Other Financial Instruments? 289 \ IN PRACTICE: An Investment of Dubious Suitability 290 IN PRACTICE: One Common-Type Derivative 291 IN PRACTICE: Increasing Risk and Courting Disaster: A Classic Case 292 IN PRACTICE: Governments Get Bitten by Subprime Mortgages But Only Because They Abandon. Common Sense Practices 295 Summary 296 Key Terms in This Chapter 296 Exercise for Review and Self-Study 297 Questions for Review and Discussion 297 Exercises 298 Continuing Problem 301 Problems 301 Discussion 307 Self-Study 308 LONG-TERM OBLIGATIONS 309 Why Is Information on Long-Term Debt Important to Statement Users? 310 Can Governments and Not-for-Profits Go Bankrupt? 310 IN PRACTICE: It Is Not So Easy to Declare Municipal Bankruptcy 311 How Do Governments Account for Long-Term Obligations? 312 EXAMPLE: Accounting for Bonds in Government-Wide Statements 314 IN PRACTICE: Valuing a Lottery Prize 316 What Constitutes a Government's Long-Term Debt? 316 EXAMPLE: Demand Bonds 318 EXAMPLE : Bond Anticipation Notes 319 EXAMPLE: Tax Anticipation Notes 320 EXAMPLE: Capital Leases 323 EXAMPLE: Overlapping Debt 326 IN PRACTICE: 49ers Score Big in the Financial Arena 328 IN PRACTICE: Tobacco Bonds are Both Risky and Inconsistent with Government Policies 329 What Other Information Do Users Want to Know about Outstanding Debt? 329 EXAMPLE: Debt Margin 331 What Are Bond Ratings and Why Are They Important? 332 Summary 334 Key Terms in This Chapter 334 Exercise for Review and Self-Study 335 Questions for Review and Discussion 335 Exercises 335 Continuing Problem 340 Problems 340

XIII Discussion 346 Self-Study 346 Self-Study 401 CHAPTER 9 BUSINESS-TYPE ACTMTIES 348 What Types of Funds Involve Business-Type Activities? 349 Why Do Governments and Not-for-Profits Engage in Business-Type Activities? 350 Should Business-Type Activities Be Accounted for Differently Than Governmental Activities? 351 What Are the Three Basic Statements of Proprietary Fund Accounting? 353 What Accounting Issues Are Unique to Enterprise Funds of Governments? 357 EXAMPLE: Revenue Bond Proceeds as Restricted Assets 363 EXAMPLE: Landfill Costs in an Enterprise Fund 365 EXAMPLE: Pollution Remediation Costs in an Enterprise Fund 368 What Are Internal Service Funds and How Are They Accounted For? 368 EXAMPLE: Internal Service,Fund Accounting 3 72 IN PRACTICE: Full-Cost Pricing May Encourage Dysfunctional Decisions 373 - What Special Problems Are Created When an Internal Service Fund or the General Fund Accounts for "Self-Insurance"? 375 EXAMPLE: Insurance Premiums Yll EXAMPLE: Self-Insurance in a General Fund 378 How Are Proprietary Funds Reported? 3 79 EXAMPLE: Eliminating Interfund Balances and Transactions 381 IN PRACTICE: Want to Own a Bridge? 383 What Do Users Want to Know about Revenue - Debt? 384, " Summary 386 Key Terms in This Chapter 387 Exercise for Review and Self-Study 387 Questions for Review and Discussion 387 Exercises 390 Continuing Problem 393 Problems 394 Discussion 400 CHAPTER 10 FIDUCIARY FUNDS AND PERMANENT FUNDS 402 What Is an Endowment? 403 What Are Permanent Funds and How Are They > Distinguished from Fiduciary Funds? 404 Should Investment Income Be Reported in an Expendable or a nonexpendable Fund? 405 EXAMPLE: Expendable Investment Income 406 Why Should All Nonexpendable Funds Be Accounted for on a Full Accrual Basis And Why Aren't They? 407 EXAMPLE: Charging Depreciation 407 Should Investment Gains Be Considered Net Additions to Principal or Expendable Income? 409 EXAMPLE: Investment Gains 409 EXAMPLE: Investment Losses 411 IN PRACTICE: Disconnect between Fasb and Legal Provisions 413 How Can Institutions Protect against Inflation, Yet Reap the Benefits of Current Income? 414 EXAMPLE: Fixed Rate of Return Approach 414 How Are the Main Types of Transactions Recorded in Nonexpendable Trust Funds? 415 EXAMPLE: Recording Transactions in a Permanent Fund 415 Why Is Pension Accounting So Important? 420 IN PRACTICE: The Fiscal Status of Pension Funds Continues to Worsen 421 How Does a Defined Contribution Plan Differ from a Defined Benefit Plan? 422 IN PRACTICE: Can Defined Benefit Plans Be Saved? 424 What Is the Distinction between an Agent Multiple Employer Plan and a Cost-Sharing Plan? 425 What Is the Relationship between an Employer and Its Pension Trust Fund? 426 EXAMPLE: Unfunded Actuarial Accrued Liability 429 EXAMPLE: Reporting Pension Costs 430 How Should the Pension Plan Be Accounted For? 432

XIV CONTENTS Limitatio.ns of Pension Accounting and Reporting As Currently Required 435 How Should Postemployment Benefits Other Than Pensions (OPEB) Be Accounted For? 43 9 IN PRACTICE: A Texas Tale 443 What Accounting Issues Do Agency Funds Present? 444 EXAMPLE: Agency Funds 444 What Accounting Issues Do Investment Trust Funds Present? 447 Summary 448.. Key Terms in This Chapter 449 Exercise for Review and Self-Study 450 Questions for Review and Discussion 451 Exercises 452 Continuing Problem 456 Problems 456 Discussion 462 Self-Study 462 CHAPTER 11 ISSUES OF REPORTING, DISCLOSURE, AND FINANCIAL ANALYSIS 464 How Can a Government Prepare Government-Wide Statements from Fund Statements? 465 Why Is the Reporting Entity an Issue for Governments? 467 EXAMPLE: The Reporting Entity 467 What Criteria Have Been Established for Government Reporting Entities? 468 EXAMPLE: Financially Accountable Component Units 470 EXAMPLE: Fiscal Dependency 470 EXAMPLE: A Closely Affiliated Organization 475 EXAMPLE: Application of Current Standards \476 What Other Elements Make Up the Comprehensive Annual Financial Report? 478 What Are the Reporting Requirements for Special-Purpose Governments? 483 How Can a Government's Fiscal Condition Be Assessed? 484 IN PRACTICE: Cities Will Do Anything to Raise Revenues 492 Drawing Conclusions 501 Summary 502 Key Terms in This Chapter 503 Exercise for Review and Self-Study 503 Questions for Review and Discussion 504 Exercises 504 Continuing Problem 508 Problems 508 Discussion 512 Self-Study 513 CHAPTER 12 NOT-FOR-PROFIT ORGANIZATIONS 515 Who's in Charge? 516 What Should Be the Form and Content of Financial Statements? 517 EXAMPLE: Reporting Revenues and Expenses 521 What Are the Main Types of Contributions, and How Should Pledges Be Accounted For? 528 IN PRACTICE: Even the Very Wealthy Sometimes Renege on Their Contributions 529 EXAMPLE: Pledges 530 When Should Use-Restricted (Purpose-Restricted) Contributions Be Recognized? 532 EXAMPLE: Use-Restricted Contributions 532 IN PRACTICE: A Gift with Strings Attached 533 Should Contributions of Services Be Recognized? 534 EXAMPLE: Service Contributions 534 Should Receipts of Collection Items Be Recognized as Revenues? 535 IN PRACTICE: Examples of Contributed Services 535 When Should Conditional Promises Be Recognized? 536 IN PRACTICE: When a Contribution is Not a Contribution 537 EXAMPLE: Conditional Promises 537 How Should "Pass-Through" Contributions Be Accounted For? 538 EXAMPLE: A Federated Fund-Raising Organization 538 EXAMPLE: A Foundation That Transfers Assets to a Specified Organization 538

XV r- EXAMPLE: A Foundation That Supports a Related Organization 539 When Should Gains and Losses on Investments Be Recognized? 540 EXAMPLE: Investment Gains 541 What Are Split Interest Agreements and How Should They Be Accounted For? 543 How Should Depreciation Be Reported? 543 EXAMPLE: Depreciation 544 What Issues Does a Not-for-Profit Face in Establishing Its Reporting Entity? 545 COMPREHENSIVE EXAMPLE: Museum of American Culture.546 How Should the Costs of Fund-Raising Activities Be Determined?' 554 EXAMPLE: Allocating Charitable Costs 556 How Can a Not-for-Profit's Fiscal Condition Be Assessed? 558 Traditional Financial Indicators 559 IN PRACTICE: Not-for-Profits, Like Corporations, Tainted by Scandals 561 Summary 562 Key Terms in This Chapter 563 Exercise for Review and Self-Study 563, Questions for Review and Discussion 566 Exercises 567 Problems 571 x Self-Study 575 f CHAPTER 13 t". ' COLLEGES AND UNIVERSITIES 576 What Unique Issues Do Colleges and Universities Face? 577 Accounting for Revenues 584 IN PRACTICE: Which Set of Standards Do We Follow? 586 IN PRACTICE: Going Private 587 IN PRACTICE: HOW Should a University Classify a Gift That May Not Be a Gift 588 EXAMPLE: Tuition and Fee Revenues 588 Other Issues 590 EXAMPLE: Grants 590 EXAMPLE: Student Loans 591 IN PRACTICE: HOW Auxiliary Enterprises Can Be Misused 592 COMPREHENSIVE EXAMPLE: The Mars University 593 Evaluating the Fiscal Wherewithal of Colleges and Universities 598 Summary 600 Key Terms in This Chapter 600 Exercise for Review and Self-Study 600 Questions for Review and Discussion 602 Exercises 603 Problems 606 > Self-Study 610 CHAPTER 14 HEALTH CARE PROVIDERS 611 IN PRACTICE: Hospitals, Like Other Institutions, Face Tough Economic Challenges 612 What Unique Issues Do Health Care Providers Face? 613 What Are the Key Differences Between Not-for-Profit and Government Health Care Providers? 614 What Are the Basic Financial Statements? 614 How Are Key Revenues and Expenses Recognized? 619 EXAMPLE: Patient Care Revenues 619 EXAMPLE: Capitation Fee Revenues 621 EXAMPLE: Charity Care 621 EXAMPLE: Malpractice Claims 622 EXAMPLE: Retrospective Premiums 623 COMPREHENSIVE EXAMPLE: Medical Center Hospital 624 How Can the Fiscal Wherewithal of Health Care Organizations Be Evaluated? 629 Impact of the Affordable Health Care Act 631 Summary 631 Key Terms in This Chapter 631 Exercise for Review and Self-Study 632 Questions for Review and Discussion 632 Exercises 633 Problems 637 Self-Study 640

XVI CONTENTS CHAPTER 15 MANAGING FOR RESULTS 641 What Role Do Accountants Play in the Management Cycle of Governments and Other Not-forrProfits? 642 How Can the Limits of Traditional Budgets Be Overcome? 644 What Are the Characteristics of Sound Operational Objectives? 646 What Are the Perils of Establishing Operational Objectives? 648 IN PRACTICE: A Classic Case of Reliance on Misspedfied Objectives (Two Perspectives of the Vietnam War) 649 How Do Program Budgets Relate Expenditures to Operational Objectives? 650 How Should Service Efforts and Accomplishments. Be Reported? 657 How Are Capital Expenditures Planned and Budgeted within a Framework of Operational Objectives? 664 EXAMPLE: Benefits Are Cash Savings 666 EXAMPLE: Choosing among Options with Similar Benefits 667 IN PRACTICE: September 11 Victim Compensation Fund 669 Summary 671 Key Terms in This Chapter 673 Exercise for Review and Self-Study 673 Questions for Review and Discussion 674 Exercises 674 Problems 676 Self-Study 681 CHAPTER 16 AUDITING GOVERNMENTS AND NOT-FOR-PROFIT ORGANIZATIONS 682 How Do Audits of Governments and Not-for-Profits Differ from Those of Businesses? 683 How Has the Yellow Book Influenced Governmental and Not-for-Profit Auditing? 684 What Types of Audits Do Governments Conduct? 684 What Levels of Standards Are Applicable to All Engagements? 685 What Are the Key Differences between Government and Nongovernment Financial Audit Standards? 688 IN PRACTICE: TO Whom Should a City Auditor Report? 690 IN PRACTICE: The Auditors' Dilemma 691 How Have the Single-Audit Act and Other Pronouncements Influenced Auditing? 692 What Approach Do Auditors Take in Performing Single Audits? 693 What Reports Result from Single Audits? 697 What Are Performance Audits? 699 EXAMPLE: Evidence Gathering 704 IN PRACTICE: Findings Must Relate to Program Objectives 705 EXAMPLE: Ethical Dilemma 709 Summary 711 Key Terms in This Chapter 712 Exercise for Review and Self-Study 712 Questions for Review and Discussion 713 Exercises 713 Problems 715 Cases in Ethics 719 Self-Study 72 T R17 FEDERAL GOVERNMENT ACCOUNTING 722 Which Agencies Are Responsible for Federal Accounting and Reporting? 724 What Constitutes the Federal Budget? 728 What Constitutes the Federal Government for Purposes of Reporting 729 What Are the Form and Content of Government-Wide Federal Statements? 730 What Types of Accounts Are Maintained by Federal Entities? 740 What Statements Are Required of Federal Agencies? 741

XVII What Are Other Key Features of the FASAB Exercises 767 Model? 750 Problems 770 EXAMPLE: Subsidized Loan 759 EXAMPLE: Loan Guarantees 760 Self-Study 774 What Additional Steps Has the Federal Government - ' Taken to Improve Its Fiscal Management? 761 n fl««apv T7K What Are the Key International Trends in WAI&&AKI //t> Governmental Accounting? 762 Summary 764 VALUE TABLES 793 Key Terms in This Chapter 765 Exercise for Review and Self-Study 766 Questions for Review and Discussion 766 INDEX 801