Find more slides, ebooks, solution manual and testbank on www.downloadslide.com CHAPTER 17 ACCOUNTING FOR STATE AND LOCAL GOVERNMENTS, PART II Chapter Outline I Government entities sometimes obtain property by lease rather than by purchase A Leases are recorded as either capital leases or operating leases based upon the criteria first established by FASB Statement 13 B Based on this standard, a lease that meets any one of the following criteria is a capital lease: a The lease transfers ownership of the property to the lessee by the end of the lease term b The lease contains an option to purchase the leased property at a bargain price c The lease term is equal to or greater than 75 percent of the economic life of the leased property d The present value of minimum lease payments equals or exceeds 90 percent of the fair value of the leased property C For a state or local government, a capital lease is recorded as follows: a In the government-wide financial statements, the lease is reported as an asset and liability at the present value of the minimum leases payments and then depreciation (on the asset) and interest (on the liability) are recognized in the same manner as used by for-profit organizations b In the fund-based financial statements for government funds, the present value of the minimum lease payments is recorded as an expenditure and an other financing source with later interest and principal payments recorded as expenditures No depreciation is recognized because the asset is not recognized II Governments often establish solid waste landfills They can be recorded within the proprietary funds, if a user fee is assessed, or as part of the general fund if the landfill is open to the public without a charge A A landfill can eventually create a large liability for the government because of closure costs and post-closure maintenance and monitoring B On government-wide financial statements, recognition of this liability is based on accrual accounting and the economic resource measurement focus Thus, the liability is recognized as the available space becomes filled If the landfill is recorded as an Enterprise Fund, this same reporting is appropriate for fund-based financial statements C If the landfill is reported within the General Fund, the liability is only reported on the fund-based statements when there is a claim to current financial resources III Governments incur a liability for compensated absences earned by government employees such as school teachers and police officers A Government-wide financial statements require recognition of the liability and expense as incurred based on accrual accounting and the economic resource measurement focus B Fund-based financial statements record a liability only if the claim is to be paid from current financial resources McGraw-Hill/Irwin Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e © The McGraw-Hill Companies, Inc., 2009 17-1 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com IV Works of Art and Historical Treasures A Artworks, historical treasures, and similar assets should be capitalized at cost (or fair value at the date of donation) in government-wide financial statements B An expense rather than an asset can be recorded if the item does not generate economic benefits and meets the following criteria a Held for public exhibition, education, or research in furtherance of public service, rather than financial gain b Protected, kept unencumbered, cared for, and preserved c Subject to the policy that revenues generated from sales of items in the collection be used to add to the collection C If capitalized, depreciation is not required if this type of asset is considered to be inexhaustible V Infrastructure Assets and Depreciation A Newly-acquired infrastructure assets (such as roads, bridges, and sidewalks) should be capitalized at historical cost in the government-wide financial statements and recorded as an expenditure in the fund-based financial statements B Major general infrastructure assets put into service since 1980 must also be capitalized although an estimation of current book value may be necessary C Depreciation of all capital assets other than land and inexhaustible artworks is required so that infrastructure items are also subject to depreciation D However, the “modified approach” allows the expensing of maintenance costs in lieu of depreciation for infrastructure assets if certain criteria are met a A minimum acceptable condition level is established for a network of infrastructure assets and documentation is provided to show that this minimum level has been maintained b An asset management system must be in place to monitor the particular system of assets VI The comprehensive annual financial report (CAFR) includes general purpose external financial statements These statements are divided into three distinct sections A Management’s discussion and analysis (MD&A) which provides a broad range of information to help decision-makers evaluate the operations and financial position of the government entities B Financial statements a Government-wide financial statements b Fund-based financial statements c Notes to the financial statements C Required supplementary information VII For governmental accounting, a primary government such as a city or town is a reporting entity that normally produces a comprehensive annual financial report (CAFR) A In addition, a special purpose government (such as a school board or water commission) qualifies as a reporting entity if it meets the following three criteria: a It has a separately elected governing body b It is legally independent c It is fiscally independent of any other state and local governments B Component units that meet either of the following two criteria should be reported within the CAFR of the reporting government even though they are independent operations McGraw-Hill/Irwin 17-2 © The McGraw-Hill Companies, Inc., 2009 Solutions Manual Find more slides, ebooks, solution manual and testbank on www.downloadslide.com a It must be fiscally dependent upon the primary organization or b The primary government must appoint a voting majority of the governing board and either be able to impose its will on the component organization or the component organization provides a financial benefit or imposes a financial burden on the primary government C Once identified, component units can be discretely presented in a separate column to the right of the government-wide statements or blended with the primary government as if it made up a part of the primary organization VIII Public colleges are required to meet GASB standards, whereas private colleges are required to meet FASB standards A Private colleges generally depend more on tuition and usually have greater endowments B Governments provide the major support for public colleges C GASB No 35 requires the application of GASB No 34 to public colleges However, many of these schools assume that they function solely as an Enterprise Fund (open to the public for a user charge) Thus, these schools are allowed to produce fund-based financial statements without need for government-wide statements Learning Objectives Having completed Chapter Seventeen of the textbook, “Accounting for State and Local Governments (Part Two),” students should be able to fulfill each of the following learning objectives: Understand how leases are classified as either capital or operating and their subsequent recording in the government-wide and fund-based financial statements Explain the reason for the difference in the classification of the operation of solid waste landfills as either a proprietary fund or a general fund Understand how a landfill can generate a large liability for a government and the difference in the recognition and the subsequent recording of this liability in the government-wide financial statements and the fund-based financial statements Understand how governments incur a liability for compensated absences earned by government employees and the difference in their subsequent recording in the governmentwide financial statements and the fund-based financial statements Explain the capitalization rules for art, historical treasures, and similar assets and their subsequent recording in the government-wide and in the fund-based financial statements Describe when an exception to the required capitalization and depreciation rules for art, historical treasures, or similar assets is justified Understand the accounting that is required for a government’s infrastructure assets such as bridges and sidwalks McGraw-Hill/Irwin Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e © The McGraw-Hill Companies, Inc., 2009 17-3 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com Explain the criteria for the “modified approach” that allows expensing of maintenance costs in lieu of depreciation for infrastructure assets Describe the three distinct sections of the general purpose external financial statements 10 Be able to explain when an operation (such as a school system) that is not a primary government (such as a city or state) is still viewed as a reporting entity for government accounting purposes 11 Explain the criteria that must be met to be reported as a component unit and the difference in reporting between a unit that is discretely presented and one that is shown as a blended unit 12 Describe the two government-wide financial statements 13 Describe the traditional fund-based financial statements, especially for the governmental funds and for the proprietary funds 14 Explain the method by which governmental accounting rules are applied to public colleges and universities Answer to Discussion Question Is It Part of the County? In financial accounting for a for-profit organization, the boundary for the reporting entity and its various activities (or subsidiaries) is relatively easy to determine GAAP provides the basis for inclusion in the consolidated financial statements, which includes all entities over which a company has control In accounting for state and local governments, the distinction is not so clear What constitutes a reporting entity? Obviously, a primary government such as a city or county is a reporting entity What about other governmental operations and activities that exist separate from a primary government? When those operations qualify as special purpose governments and when should they be viewed as component units to be reported by a primary government? A special purpose government is a reporting entity It has a separately elected governing body, it is legally independent, and it is fiscally independent Fiscal independence constitutes setting its own budget, levying taxes, and/or issuing bonds without outside approval Here, the industrial development commission is not fiscally independent of Harland County Harland County has the ability to impose its will on the separate organization by its right to approve the commission’s budget Therefore, the industrial development commission is not a special purpose government Is the industrial development commission a component unit? Component units are not always easy to determine An activity is classified as a component unit if it is fiscally dependent on the primary government Because the commission’s budget must be approved by the county government, the commission would appear to qualify as a component unit for Harland County McGraw-Hill/Irwin 17-4 © The McGraw-Hill Companies, Inc., 2009 Solutions Manual Find more slides, ebooks, solution manual and testbank on www.downloadslide.com Can the commission also be a component unit of the state? There is not fiscal dependence but a component unit does exist if the primary government appoints a voting majority of the board and (a) the primary government can impose its will on that board or (b) the separate organization provides a financial benefit for the primary government or imposes a financial burden The state does appoint 15 out of 20 of the board members appointment of that number of board members does indicate state control However, there is no evidence or information here that indicates that the state can impose its will on the board or that the separate organization provides a financial benefit or imposes a financial burden on the state Therefore, unless other information becomes available indicating that one these requirements is present, the industrial commission is not a component unit of the state However, because of the appointment of the majority of the board, the commission is a related organization to the state In that case, the state must disclose the nature of the relationship in its financial statements Answers to Questions State and local governments apply FASB Statement Number 13, “Accounting for Leases,” to determine whether a lease is a capital lease or an operating lease A lease that meets any one of the following criteria is held to be a capital lease: a The lease transfers ownership of the property to the lessee by the end of the lease term b The lease contains an option to purchase the leased property at a bargain price c The lease term is equal to or greater than 75 percent of the estimated economic life of the leased property d The present value of rental or other minimum lease payments equals or exceeds 90 percent of the fair value of the leased property Within the government-wide financial statements, the accounting for capitalized leases is the same as for-profit enterprises The asset and liability are initially recorded at the present value of the minimum lease payments Accrual accounting and the economic resource measurement basis are appropriately followed The equipment would be increased along with the liability obligation Subsequently, both depreciation expense and interest expense must be recognized The entries in the fund-based financial statements are the same if a proprietary fund is involved The recording of a capital lease in one of the governmental funds within the fund-based statements involves the following three steps: a The initial entry reports the present value of the liability as an other financing resource b The present value is also recorded as an expenditure consistent with the current financial resources approach being used c When each payment is made, the debt and interest are both recorded as expenditures In government-wide financial statements, the lease payment is treated the same as it is in for-profit organizations: part of the payment is considered interest and the rest is payment of the lease obligation In fund-based financial statements, the recording is the same if a proprietary fund is involved However, the recording of a capital lease payment in the governmental funds involves the recording of the debt and interest payments as expenditures McGraw-Hill/Irwin Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e © The McGraw-Hill Companies, Inc., 2009 17-5 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com Solid waste landfills can be a significant source of liability for local governments The federal government has strict rules on groundwater monitoring and post-closure activities This legal obligations can involve large payments over an extended period of time even after the landfill is closed Government-wide financial statements recognize expenses on the accrual and economic resource measurement basis Therefore, seven percent of the expected landfill closure liability cost would be accrued during the current year as an expense and to report the proper liability In the fund-based financial statements, the entry is the same as above if an Enterprise Fund is involved In the fund-based statements, if the landfill is recorded in the General Fund, the only charge to expenditures is a current payment, if it is made Thus, the eventual liability is ignored unless it will be paid from current financial resources Government-wide financial statements recognize expenses on the accrual and economic resource measurement basis At the end of the first year, 11 percent is multiplied times the expected closing and other related costs and that figure is recognized as both an expense and a liability At the end of the second year, 24 percent is multiplied times the expected costs (which may have changed since the end of year one) and the liability to be reported is raised to this new amount It is the change in the liability that creates the amount of expense to be reported for the second year For fund-based financial statements, assuming the landfill is reported in the General Fund, no recording is made unless (a) an actual payment is made because of the eventual closure or (b) some part of that liability represents a claim to current financial resources in this period The amount accrued, $2,000 in this case, should be recorded on the government-wide financial statements as an expense at the end of 2008 along with the related liability As a governmental fund transaction, the fund-based financial statements only include an amount as a liability at the end of 2008 if it is to be paid early enough in 2009 to require the use of current financial resources held at the end of 2008 (which does not appear to be the case) Because of the accrual recorded on the government-wide financial statements at the end of 2008, the actual payment simply reduces both cash and the liability balance On the fund-based financial statements, assuming no accrual was reported in 2008, the payment in 2009 is a reduction in cash along with an Expenditure balance If the amount is paid with proprietary funds, it is treated the same as in government-wide statements Governments should capitalize donated works of art, historical treasures, and similar assets at the fair value at the date of the gift However, if there is no charge for admission to see the art, it is difficult to consider it an asset because it generates no economic benefit Thus, the artwork does not have to be capitalized if all of the following criteria are met: McGraw-Hill/Irwin 17-6 © The McGraw-Hill Companies, Inc., 2009 Solutions Manual Find more slides, ebooks, solution manual and testbank on www.downloadslide.com a Held for public exhibition, education, or research in furtherance of public service, rather than financial gain b Protected, kept unencumbered, cared for, and preserved c Subject to an organizational policy that requires the proceeds from sales of collection items to be used to acquire other items for collections If capitalized, depreciation is only required if the asset is exhaustible This means that the asset is used up by display, education, or research Otherwise, depreciation is not required 10 A revenue still must be reported because of the donation If the government chooses not to record the qualifying asset in the government-wide financial statements, an expense must be reported in place of the asset whether purchased or received as a gift If the item is received by donation, the revenue portion of the entry is required 11 The modified approach is an alternative to depreciating infrastructure assets This approach allows the government to expense all maintenance costs rather than record depreciation but only if certain guidelines are met The government must accumulate certain information about particular infrastructure assets within either a network or subsystem of a network The government must establish a minimum acceptable level for the network or subsystem of the network and maintain documentation that this level is being maintained An asset management system must be in place to monitor and provide records of the infrastructure assets.The ongoing condition must be assessed and an annual estimation made of the cost of maintaining and preserving the infrastructure to meet the established condition levels Governments must determine whether this amount of work should be carried out simply to avoid the recording of depreciation 12 Depreciation of infrastructure assets is not recorded but all maintenance is expensed Also, in applying the modified approach, certain disclosures are required on the government-wide financial statements This includes disclosure that the government is accumulating certain information about particular infrastructure assets within either a network or subsystem of a network The disclosure must include specific information about the minimum acceptable level for the network or subsystem of the network and that this level is being maintained and monitored by an asset management system 13 A Management’s Discussion and Analysis (MD&A) similar to profit-making financial statements is now required for state and local governments.The MD&A is presented before the financial statements and provides the following information: (1) A brief discussion of the financial statements and information provided and their relationships to each other (2) Condensed financial information at least including a Total capital and other assets b Total long-term and other liabilities c Total net assets, including amounts invested, in capital assets net of debt, restricted and unrestricted amounts d Program revenues, by major source e General revenues, by major source f Total revenues g Program expenses, by function h Total expenses McGraw-Hill/Irwin Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e © The McGraw-Hill Companies, Inc., 2009 17-7 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com i (3) (4) (5) (6) (7) (8) Excess or deficiency before contributions to term and permanent fund principal, special and extraordinary items, and transfers j Contributions k Special and extraordinary items l Transfers m Change in net assets n Ending net assets Overall financial position and results of operations Balances and transactions analyses with explanation of significant changes Analysis of significant variations between original and final budget amounts Description of significant capital asset and long-term debt activity Information about the modified approach for infrastructure assets Any known facts, decisions, or conditions that are expected to significantly impact on financial position or results of operations 14 The Comprehensive Annual Financial Report (CAFR) includes three sections a Introductory Section Letter of transmittal Organizational chart List of principal officers b Financial Section MD&A (Management’s Discussion & Analysis) General purpose financial statements Auditor’s report Other required supplementary information c Statistical Section 15 A general purpose government is a traditional government such as a city, county, or state A special purpose government (such as school system) can also be a primary government for reporting purposes if certain requirements are met Classification as a special purpose government requires meeting three criteria: a It has a separately elected governing body b It is legally independent It can sue and be sued and buy, sell, and lease property c It is fiscally independent of other state and local governments It can determine its own budget, levy and set tax rates, and issue bonded debt without outside approval 16 Classification as a component unit requires meeting one of two criteria: a The activity is fiscally dependent on a state or local government It cannot determine its own budget, levy and set tax rates, and issue bonded debt without outside approval or b An outside primary government appoints a voting majority of the governing board of the activity The primary organization must also be able to one or more of the following: impose its will on the board of the component organization, or provide a financial benefit to the component organization, or the component organization provides a financial benefit to the primary government McGraw-Hill/Irwin 17-8 © The McGraw-Hill Companies, Inc., 2009 Solutions Manual Find more slides, ebooks, solution manual and testbank on www.downloadslide.com 17 If blended, component units are included in the primary government as if they were part of the government The component unit is legally separate but so intertwined and substantially the same as the primary government so that inclusion is necessary for appropriate presentation A discretely presented component unit is shown separately on the far right side of the government-wide financial statements because the organization is not substantially the same as the government and can stand alone 18 The two government-wide financial statements are the Statement of Net Assets and the Statement of Activities The Statement of Net Assets includes: a All assets and long-term liabilities b Capital assets net of accumulated depreciation including newly acquired infrastructure assets c The primary government is divided into governmental or business-type activities d The internal balances reflect inter-activity transactions between governmental and business-type activities e Discretely presented component units are shown to the far right of the statement The Statement of Activities includes: a Expenses by function b Interest expense on long-term debt c Related program revenues including charges for services, operating grants and contributions, and capital grants and contributions d Net expenses and revenues for each function e Net expenses and revenues for each category of the government f General revenues for governmental activities, business-type revenues, or component units g Special items that are significant transactions or other events within the control of management that are either unusual or infrequent in nature h Transfers between governmental and business-type activities 19 The two fund-based financial statements for government funds are the Balance Sheet and the Statement of Revenues, Expenditures, and Changes in Fund Balance The Balance Sheet measures current financial resources and uses modified accrual accounting and includes: a Separate columns for the general fund and other major funds b Non-major funds are combined and reported as “other governmental funds.” c Totals for government funds d Fund Balance Reserved shows financial resources encumbered or reserved for other purposes The Statement of Revenues, Expenditures, and Changes in Fund Balance includes: a The general fund and each major fund in separate columns, with all minor funds in another column b Revenues c Expenditures McGraw-Hill/Irwin Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e © The McGraw-Hill Companies, Inc., 2009 17-9 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com d Other financing sources and uses e Special items f A reconciliation between the ending change in fund balances and the ending change in net assets for governmental activities 20 Program revenues are those revenues derived from a specific program (such as parks and recreation) or from outsiders seeking to contribute to the cost of the function They include charges rendered for services, operating grants and contributions, and capital grants and contributions General revenues are those from the population as a whole including property taxes, sales taxes, unrestricted grants, and investment income They are not traced to any individual program This distinction is important because program revenues are matched with expenses for each activity providing a net expense or revenue figure for each 21 The net expenses and revenues format allows the users of a government’s financial statements to determine the relative financial burden (or benefit) that each of its reporting functions has on its taxpayers In other words, the users of the statement can determine what it costs for the government to provide benefits such as public safety 22 On government-wide financial statements, internal service funds are combined with the governmental activities (or business-type activities if more appropriate) Their placement is based on the identity of the functions that they primarily serve If an internal service fund is mainly used to serve one or more governmental funds, then it should be included with the governmental activities 23 Fiduciary funds are not reported on government-wide financial statements because these resources must be used for a purpose outside of the primary government 24 From a reporting perspective, the FASB sets accounting standards for private colleges while the GASB sets standards for public universities Operationally, public universities receive signficant funding from a government (usually a state government), whereas private universities rely more on tuition charges Because of the ability to generate funding from the government, public colleges generally have smaller endowments 25 Many public colleges and universities make the assumption that they are solely an Enterprise Fund because they are open to the public but have a user charge (tuition and other fees) For proprietary funds, government-wide financial statements and fund-based financial statements are quite similar Consequently, the authoritative guidelines allow such schools to produce only fund-based financial statements and avoid the redundancy of also creating government-wide statements Answers to Problems A McGraw-Hill/Irwin 17-10 © The McGraw-Hill Companies, Inc., 2009 Solutions Manual Find more slides, ebooks, solution manual and testbank on www.downloadslide.com 41 (continued) City of Pfeiffer Statement of Revenues, Expenses, and Changes in Fund Net Assets Fund-Based Financial Statements—Proprietary Funds Year Ending December 31, 2008 Enterprise Fund (Civic Auditorium) Operating Revenues —Rent Revenues $130,000 Operating Expenses —Salaries —Vacations —Depreciation $ 45,000 5,000 25,000 Total Operating Expenses $ 75,000 Operating Income $ 55,000 Non-operating Expenses —Interest Expense $ 13,000 Income Before Capital Contribution $ 42,000 Capital Contribution 20,000 Change in Net Assets $ 62,000 Total Net Assets—Beginning 662,000 Total Net Assets—Ending Irwin/McGraw-Hill 17-44 $724,000 © The McGraw-Hill Companies, Inc., 2009 Solutions Manual Find more slides, ebooks, solution manual and testbank on www.downloadslide.com 41 (continued) City of Pfeiffer Statement of Net Assets Fund-Based Financial Statements—Proprietary Funds December 31, 2008 Enterprise Fund (Civic Auditorium) Assets Current Assets —Cash —Rent Receivable Total Current Assets Noncurrent Assets —Parking Deck (net) —Buildings (net) $130,000 20,000 $150,000 $195,000 580,000 Total Noncurrent Assets $775,000 Total Assets $925,000 Liabilities Current Liabilities —Salary Payable —Vacation Payable —Interest Payable Total Current Liabilities $ 3,000 5,000 13,000 $ 21,000 Noncurrent Liabilities —Notes Payable $180,000 Total Liabilities $201,000 Net Assets —Invested in Capital Assets, less related debt —Unrestricted Total Net Assets Irwin/McGraw-Hill Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e $582,000 142,000 $724,000 © The McGraw-Hill Companies, Inc., 2009 17-45 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com 42 a False – A pension trust fund is one of the fiduciary funds because the money cannot be used by officials for the benefit of the government Fiduciary funds not appear in the government-wide financial statements although separate statements are presented as part of the fund-based financial statements b True – The permanent funds are included within the governmental funds because the income generated from the amount being held is to be used by the government Although the principal cannot be utilized by government officials, the income can c True – A commitment of current financial resources was made when this order was placed Thus, an encumbrance should have been recognized at that time However, the actual amount of the obligation proved to be slightly higher When the liability was incurred, the original encumbrance should have been removed and an expenditure recorded for the amount of current resources that is actually required d True – The expense to be recognized each year is the adjustment required to establish the proper liability At the end of Year One, that liability should be $96,000 or 12 percent of $800,000 At the end of the second year, the liability has grown to $172,000 (20 percent of $860,000) Increasing the liability from $96,000 to $172,000 necessitates an expense of $76,000 Even though the question relates to the fund-based financial statements, the Enterprise Funds accrue expenses as incurred in much the same way as a for-profit business e True – The expense to be recognized each year is the adjustment required in the liability At the end of Year One, that liability should be $99,000 or 11 percent of $900,000 At the end of the second year, the liability has grown to $170,000 (20 percent of $850,000) Increasing the liability from $99,000 to $170,000 necessitates an expense of $71,000 Even though the question relates to the General Fund, government-wide financial statements always accrue expenses as incurred f False – In the governmental funds, a capitalized lease is recorded based on the present value of the future cash flows Thus, the initial recording is an expenditure of $39,000 g False – An Agency Fund is used when passing money through the government to a specified recipient Thus, the only two accounts typically found in an Agency Fund are cash (or similar monetary assets) and the liability to indicate where that cash is destined Irwin/McGraw-Hill 17-46 © The McGraw-Hill Companies, Inc., 2009 Solutions Manual Find more slides, ebooks, solution manual and testbank on www.downloadslide.com h True – The asset is capitalized at $39,000, the present value of the future cash flows Over a six-year life, depreciation expense of $6,500 should be recognized each year A related liability of $29,000 should also be recorded (after the first payment is removed) With an interest rate of 10 percent being used, interest expense of $2,900 should be recognized in the first year Total expenses to be reported are $9,400 ($6,500 plus $2,900) 43 a This gift did not involve a current financial resource and should not have been recorded in the fund-based financial statements There is no indication that it was recorded there The recording of the asset and depreciation would have been made in the government-wide statements Thus, the increase in the fund balance of $30,000 was correct and should not be changed b Apparently, in the government-wide financial statements, a $15,000 revenue was reported along with an asset of the same value Depreciation recognized for the first year would have been $500 ($15,000 capitalized amount over a 30-year life) so that a net increase in the net assets should have been $14,500 If the allowed alternative had been followed as officials wished, both revenues and expenses would have been increased by $15,000 for no net effect Consequently, removing the $14,500 increase that was reported changes the net expense figure from $130,000 to $144,500 c The government officials wanted to use the alternative which was to record an expense rather than an asset If no entry was made by the art museum, there was no change created in the net asset figure Had the appropriate entry been made, both revenues and expenses would have risen by $15,000, but then, no net effect would have resulted The revenues and expenses are both understated but the net asset figure is not affected either way Although the individual totals are wrong, the increase in net assets stays at $140,000 44 a On the government-wide statements, an expense of $20,000 was reported Instead, an asset and liability of $62,000 should have been reported Depreciation on the asset (over a five-year period) would have been $12,400 and interest expense would have been $6,200 (10 percent of $62,000) Thus, total expenses should have been reported as $18,600 The reported expenses ($20,000) were $1,400 too high Removing that amount of expense causes the increase in net assets to rise from $140,000 to $141,400 Irwin/McGraw-Hill Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e © The McGraw-Hill Companies, Inc., 2009 17-47 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com b A $62,000 expenditure should have been recorded on the first day of the year because of the capitalized lease In addition, a $62,000 ―other financing source‖ should have been recorded Another $20,000 expenditure was properly reported on the last day of the year to record the payment Because both the initial expenditure ($62,000) and the other financing source ($62,000) were left out, the net effect of the omission is zero Thus, the $30,000 increase in the fund balance as shown for the General Fund is correct 45 The revenue of $30,000 and the expense of $42,000 were not included in the primary government figures for the government-wide statements They were discretely presented and should have been blended Adding these two figures to primary government-wide totals reduces the overall increase in net assets by $12,000 ($30,000 minus $42,000) from $140,000 to $128,000 46 a In fund-based statements, for the General Fund, only the amount of this liability that will be paid in the next 60 days (2 months) is viewed as a claim against current financial resources That amount would be $10,000 (2/12 of $60,000) That expenditure must be recorded at the end of Year Four and reduces the increase in the General Fund fund balance by this $10,000 from $30,000 to $20,000 b For the government-wide financial statements, the entire $60,000 liability should be recorded in Year Four based on standard accrual accounting The related expense reduces the increase in net assets by $60,000 from $140,000 to $80,000 47 a Apparently, the amounts recorded this year (in the parks) was in the wrong fund; the landfill should have continued to be reported as an Enterprise Fund By itself, that does not have any net impact on the net assets reported for the entire government on the government-wide statements The amounts are simply in the wrong columns However, the clean-up liability has not been reported for the current year An additional percent was filled in the current year so that the liability should have increased by $16,000 (8 percent of $200,000) That reduces the increase in net assets from $140,000 to $124,000 b The revenues ($4,000) and expenses ($15,000) for the current year must now be moved to the Enterprise Funds ($11,000 net reduction) In addition, the $16,000 clean-up liability computed in (a) above should be recorded so that the overall decrease in net assets in connection with the Irwin/McGraw-Hill 17-48 © The McGraw-Hill Companies, Inc., 2009 Solutions Manual Find more slides, ebooks, solution manual and testbank on www.downloadslide.com landfill is $27,000 For the Enterprise Funds, the net increase is net assets is not $60,000 but rather $33,000 c The revenues and expenditures have been correctly reported this year within the General Fund In addition, there is no indication that the cleanup costs will require any current financial resources so that no reporting is needed in the fund-based statements The increase in the fund balance of the General Fund of $30,000 appears to be correct 48 a The modified approach only applies to infrastructure assets and not to machines and the like Thus, $4,000 in depreciation expense has been incorrectly omitted Including the recording of depreciation reduces the increase in net assets from $140,000 to $136,000 b The depreciation expense discussed in (a) above increases the net expenses for education from $710,000 to $714,000 49 a False – Assuming that the next payment is not due until July 1, Year Two, it is not a claim to current financial resources Therefore, no liability should be reported on the fund-based financial statements b False – The original liability of $78,000 should be reported and immediately reduced by $20,000 to $58,000 However, interest for the last six months of Year One should be accrued ($58,000 x 10 percent x 6/12 year or $2,900) to raise the liability to $60,900 c True – Interest for the last six months of Year One should be accrued ($58,000 x 10 percent x 6/12 year) or $2,900 d False – On the fund-based financial statements, the expenditure total equals the $78,000 present value of the cash flows plus the first $20,000 payment e True – The asset is initially capitalized at $78,000 At the end of the first year, depreciation of $7,800 should be recognized ($78,000 x 1/5 x 6/12) which reduces the net leased asset to $70,200 f False – On the fund-based financial statements, the expenditure total equals the $78,000 present value of the future cash flows g False – There are four separate criteria for a capitalized lease One of those is that the life of the lease is 75 percent or more of the life of the asset If the car has an eight-year life, the five year lease is only 62.5% of Irwin/McGraw-Hill Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e © The McGraw-Hill Companies, Inc., 2009 17-49 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com the life of the asset However, the lease contract could well meet any of the other three criteria and capitalization would still be necessary h False – Payments totaling $100,000 are being made and the car will be used up So, the total expense has to be $100,000 on the governmentwide statements no matter how the reporting is done For fund-based statements, the present value of the future cash flows is recognized and then the eventual payments are also recognized as expenditures This total will be more than $100,000 (but is offset somewhat by the reporting of an other financing source) 50 a False – The handling in the government-wide financial statements will be the same whether the landfill is reported as a General Fund or as an Enterprise Fund b False – Assuming the city has a December 31 year-end, no claim to current financial resources exists at that time c False – The Enterprise Fund should report a liability equal to 26 percent of $2 million less the amount of cash that has already been paid d True – In most all cases, Enterprise Funds are reported the same in the government-wide financial statements and the fund-based financial statements e True – The liability is $2 million times 26 percent or $520,000 However, payments of $100,000 have already been made so the liability is now only $420,000 f True – In either case, $2 million will be spent That will show up as an expense in the government-wide financial statements and as an expenditure in the fund-based financial statements (assuming the landfill is reported in the General Fund) 51 a True – The amount of the liability to be reported each year would have been based on $3 million rather than $2 million b True – The government-wide financial statements accrue all liabilities whether they are governmental activities or business-type activities c False – At the end of Year Two, a liability of $420,000 is reported (26 percent of $2 million less $100,000 in payments) At the end of Year Three, a liability of $1,050,000 is reported (40 percent of $3 million less $150,000 Irwin/McGraw-Hill 17-50 © The McGraw-Hill Companies, Inc., 2009 Solutions Manual Find more slides, ebooks, solution manual and testbank on www.downloadslide.com in payments) Adjusting the liability balance of $420,000 to $1,050,000 necessitates recognizing an expense of $630,000 d False – Present value is not used for landfill closure costs 52 a True – One of the requirements for being able to choose to not capitalize a museum piece is that any proceeds from a future sale must be required to be used for a similar purchase b False – If the asset is viewed as being inexhaustible (the asset is already over 200 years old), no depreciation is required c False – The city can record the $10,000 value as an expense immediately but it can also choose to capitalize the asset and then depreciate it over its expected useful life d False – Revenue recognition is required for gifts of this type It is only the decision as to whether to record an asset or an expense that is at the option of the government e True – Both a revenue and an expense can be reported for this donation so that net assets are not impacted 53 a False – Although the city here appoints a majority of the board members, there is no indication that (a) the city can impose its will on this board, (b) that the library provides a financial benefit or a financial burden for the city, or (c) that the library is financially dependent on the city Appointing a majority of the board makes the library a related organization but not necessarily a component unit b True – If the results of the component unit are included within the governmental activities (like a fund), this reporting is known as blending the component unit This reporting is followed when the component unit is closely entwined with the government c False – Blending of a component unit is a judgment made when financial statements are being prepared based on how entwined the activity is with the government d True – Blending of a component unit is a judgment made when financial statements are being prepared based on how entwined the activity is with the government Irwin/McGraw-Hill Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e © The McGraw-Hill Companies, Inc., 2009 17-51 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com Develop Your Skills Research Case One of the most controversial aspects of GASB 34 was the capitalization of previously acquired, infrastructure items (such as bridges, sidewalks, streets, and the like) that, in most cases, had always gone unreported Determining a reported value, for example, for miles of sidewalks constructed over a number of decades was looked at as an almost impossible feat with little or no reporting value to the readers of the financial statements Because of this criticism, GASB 34 tempered this one reporting requirement more than any other First, only a limited number of these earlier assets have to be reported According to paragraph 154, ―governments are required to capitalize and report major general infrastructure assets that were acquired (purchased, constructed, or donated) in fiscal years after June 30, 1980, or that received major renovations, restorations, or improvements during that period.‖ So, the reporting of only ―major general infrastructure assets‖ is required That size requirement was identified as a subsystem that made up at least percent of the total of all general capital assets or a network that made up at least 10 percent of the total of all general capital assets In addition, only assets acquired or renovated after June 30, 1980, had to be assessed for reporting purposes This parameter limited the required reporting to assets that were relatively new For example, a bridge constructed in 1922 did not have to be reported unless renovated since June 30, 1980 Finally, governments were given an extra four years beyond the required implementation deadline for GASB 34 to report these previously obtained infrastructure assets This extension was allowed to provide governments with plenty of time to make all of the necessary computations To make the actual computation of these figures, paragraphs 157 and 158 explain: ―The initial capitalization amount should be based on historical cost If determining historical cost is not practical because of inadequate records, estimated historical cost may be used ―A government may estimate the historical cost of general infrastructure assets by calculating the current replacement cost of a similar asset and deflating this cost through the use of price-level indexes to the acquisition year (or estimated acquisition year if the actual year is unknown) There are a number of price-level indexes that may be used, both private- and public-sector, to remove the effects of price-level changes from current prices Accumulated depreciation would be Irwin/McGraw-Hill 17-52 © The McGraw-Hill Companies, Inc., 2009 Solutions Manual Find more slides, ebooks, solution manual and testbank on www.downloadslide.com calculated based on the deflated amount, except for general infrastructure assets reported according to the modified approach.‖ Paragraph 160 goes on to provide additional guidance: ―Other information may provide sufficient support for establishing initial capitalization This information includes bond documents used to obtain financing for construction or acquisition of infrastructure assets, expenditures reported in capital project funds or capital outlays in governmental funds, and engineering documents.‖ Research Case A practicing accountant often faces a difficult challenge in applying a new authoritative pronouncement, especially one as complex as GASB 34 Because the reporting issues have not been encountered previously, implementation of even the most carefully written statement can be mystifying For that reason, periodicals such as the Journal of Accountancy and the CPA Journal often attempt to provide practical assistance When a complicated new pronouncement is issued, such guidance is very much necessary Students looking forward to entering the accounting profession need to be aware of the help that is usually available when significant changes are made in the financial reporting process This particular article was written to help government accountants begin the process of adapting their financial statements to the requirements of GASB 34 As part of this coverage, the statement of net assets and the statement of activities for the City of Alexandria, Virginia are included because this particular government had quickly begun to issue statements according to the new regulations A look at both of these statements shows that some number of component units are being discretely reported to the far right of each statement It is possible that other component units also exist that have been blended Without the accompanying footnotes to the statements, that information cannot be ascertained for certain On the statement of net assets, the discretely-presented component units are shown as holding nearly $57 million in assets At the bottom of the statement of activities, the identity of these component units can be determined even without footnote disclosure Under the row of information for business-type activities, the following three component units are listed: Irwin/McGraw-Hill Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e © The McGraw-Hill Companies, Inc., 2009 17-53 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com Alexandria library, Alexandria transit company, and Alexandria public schools Students may be interested to note that the library and the transit company provided a financial burden for the city of only about $4 million each The school system, though, reported net expenses of over $95 million, a significant amount that must be borne by the citizens of this city in order to finance public education GASB 34 provides only a limited amount of information about component units, deferring much of the guidance to the earlier GASB 14 Paragraph 20 of GASB 14 indicates that component units are legally separate organizations for which the elected officials of the primary government are financially accountable In addition, component units can include other organizations for which the nature and significance of their relationship with the primary government are such that exclusion would cause the reporting entity’s financial statements to be misleading or incomplete Thus, apparently, the library, the transit company, and the public schools must qualify (based on the laws of that state) as legally separate organizations However, despite this legal separation from the city, the financial information is still being presented within the city’s financial statements because (a) the primary government is financially accountable or (b) the relationship makes the statements misleading or incomplete if the financial information were omitted Analysis Case Probably no better indication of the true magnitude of GASB 34 can be constructed than comparing financial statements prepared prior to the adoption of this standard to statements produced after GASB 34 Students who look at the 2000 statements found on the City of Sacramento website and the 2004 statements presented in the textbook should be surprised at the magnitude of the change that took place between 2000 and 2004 Almost an unlimited number of comparisons can be made between these two sets of statements, produced only four years apart The differences that a particular student chooses to emphasize will probably depend on the areas most closely studied Here are a few possible examples that could be raised: 2004 statements are superior to 2000 statements: The rationale for some of the columns on the 2000 statements seems arbitrary For example, a column is shown for the Debt Service Fund despite its size In 2004, on the fund-based statements, only the General Fund and other Irwin/McGraw-Hill 17-54 © The McGraw-Hill Companies, Inc., 2009 Solutions Manual Find more slides, ebooks, solution manual and testbank on www.downloadslide.com major funds are reported separately Small funds are accumulated into a single column to avoid causing distraction On the balance sheet for 2000, fixed assets show up in some columns and not others There is clearly inconsistency in the methods used within this statement For the 2000 financial statements for the individual governmental funds, there is no way to get information other than about current financial resources with the application of modified accrual accounting However, in the 2004 financial statements, the reader can either choose to look at this information in a relatively traditional format (fund-based financial statements) or a basis similar to that of for-profit accounting (governmentwide financial statements) The government-wide financial statements provide all of the information for the government in a relatively concise fashion rather than being spread out over a number of different funds 2000 statements are superior to 2004 statements: In 2004, there are a lot of different financial statements; it may be harder for the reader to determine which statements to study Differences in totals may confuse readers For example, on the statement of net assets, governmental activities show over $2.3 billion in assets whereas, on the balance sheet for the governmental funds, only $942 million in assets is shown A reconciliation would be provided that may help the reader but that amount of difference may simply be difficult for the average reader to comprehend Such huge differences exist all through the financial statements for state and local governments In 2000, the budgetary information is presented within the financial statements to emphasize the control feature of government accounting In 2004, the budget is most likely to be buried in required supplemental information although it can be shown as an additional fund-based statement Analysis Case One of the most significant changes in governmental accounting created by GASB 34 was the inclusion of the Management’s Discussion and Analysis This written report is meant to be a discussion of the financial information for the government in a verbal rather than a purely quantitative fashion Students often not understand the range of information provided by the MD&A In this assignment, the student can read the MD&A for an actual city The information that is provided here is quite extensive and can cover a wide range of subjects such as the following: An explanation of government-wide financial statements An explanation of fund-based financial statements An explanation of governmental funds, proprietary funds, and fiduciary funds Irwin/McGraw-Hill Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e © The McGraw-Hill Companies, Inc., 2009 17-55 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com The reporting of infrastructure assets that were acquired before the adoption of GASB 34 A comparison of the governmental activities and the business-type activities The bond rating for the government Information about proprietary operations The method by which the government generates revenues The diversity of expenditures made within the governmental funds A discussion of the budgetary process Information about both capital assets and long-term liabilities The purpose of the various funds such as the general fund and the debt service fund Communication Case Students not always fully comprehend the evolutionary nature of financial accounting and reporting In connection with for-profit businesses, ongoing changes have occurred over a number of decades under the Financial Accounting Standards Board, the Accounting Principles Board, and a variety of other organizations In comparison, the Governmental Accounting Standards Board has been in operation for a relatively short period of time The FASB has produced approximately 160 statements whereas, at this time, the GASB has only issued about 50 Therefore, the changes that governmental accounting has gone through over the years may be a bit easier for a student to grasp This assignment is simply intended to provide the student with an overview of the recent history of governmental accounting The listed articles (and any others that the students may find through their own library and Internet searches) show how governmental accounting is gradually building up an official set of generally accepted accounting principles to provide a structure for reporting that, up until recently, has been very unstructured The amount of authoritative guidance has gone from almost nonexistent just a few decades ago to a fairly well developed system of financial reporting Communication Case If the city assesses a user charge, then officials always have the right to record the landfill as an Enterprise Fund However, such a classification is not required unless the fee (a) is set at an amount intended to cover the various costs of the service or (b) serves as the sole security for debts of the activity If the landfill is recorded as an Enterprise Fund, then accounting in the government-wide financial statements and fund-based financial statements is quite similar The statements measure all economic resources and timing is recorded based on accrual accounting Perhaps most importantly, the Irwin/McGraw-Hill 17-56 © The McGraw-Hill Companies, Inc., 2009 Solutions Manual Find more slides, ebooks, solution manual and testbank on www.downloadslide.com anticipated cost of closure and post-closure activities must be accrued in both sets of financial statements Conversely, if the landfill is recorded within the General Fund, there is no impact on the government-wide financial statements except the all transactions and balances are shown as governmental activities rather than as business-type activities However, in the fund-based financial statements, as a governmental fund, only current financial resources and the changes in those financial resources are reported Capital assets, in these statements, as well as long-term liabilities such as closure costs are omitted Excel Case This spreadsheet would be extremely helpful for a government attempting to determine the historical cost less depreciation of infrastructure assets not previously reported This spreadsheet is designed along the guidelines established in GASB Statement Number 34, paragraph 158 There are a number of different ways that a spreadsheet could be created to solve this particular problem Here is one possible approach: In Cell A1, enter text label ―City of Loveland—Reported Value of Each Mile of Road‖ In the next three rows, enter the criteria on which calculations will be based: In Cell A3, enter text label of ―Per Mile of Road as of 12/31/2008‖ and in Cell E3 enter ―$2,300,000‖ In Cell A4, enter text label of ―Yearly Inflation‖ and in Cell E4 enter ―8%‖ In Cell A5, enter text label of ―Depreciation‖ and in Cell E5 enter ―2%‖ Any of the above three variables can be changed to develop different schedules Enter Column Headings: In Cell A7, enter text label of ―# of Years.‖ In Cell B7, enter text label of ―Date.‖ In Cell C7, enter text label of ―Inflation Reduced Cost.‖ In Cell D7, enter text label of ―Total Depreciation.‖ In Cell E7, enter text label of ―Reported Value.‖ Enter Row Headings: In Cell A8, enter text label ―1‖ and in Cell A9, enter text label ―2.‖ Once you establish a pattern, Excel can automatically fill in a series of numbers To continue the numbering for Years 3-20, click and drag across Cells A8 and A9 Once these cells are highlighted, you will see a small black box in the lower right corner of this selection, which is the ―fill handle.‖ Click on the fill handle and drag across Cells A10 through A27 and release to display Irwin/McGraw-Hill Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e © The McGraw-Hill Companies, Inc., 2009 17-57 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com numbers through 20 The numbers will be displayed in increasing order since that is the criteria that was established in Cells A8 and A9 In Cell B8, enter text label ―12/31/2007‖ and in Cell B9, enter text label ―12/31/2006.‖ Perform the same click and drag operation above to fill the date in Cells B10 through B27 The dates will be displayed in decreasing order since that is the criteria that was established in Cells B8 and B9 Enter Formulas: In Cell C8, enter formula to calculate Inflation Reduced Cost as of 12/31/2007 Reduce Per Mile figure established on 12/31/2008 (in Cell E3) by Yearly Inflation Rate (in Cell E4): =+E3/($E$4+100%) (NOTE: Absolute references, which are cell references that always refer to cells in a specific location, can be created by placing a $ symbol before the Column letter and/or the Row number In this problem, we need to always refer to the Yearly Inflation figure in Cell E4 and the Depreciation figure in Cell E5.) In Cell D8, enter formula to calculate Total Depreciation Multiply Inflation Reduced Cost figure on 12/31/2007 by Yearly Depreciation Rate: =+C8*($E$5*A8) In Cell E8, enter formula for Reported Value of road for current year by deducting Depreciation from Inflation: =+C8-D8 In Cell C9, enter formula to calculate Inflation Reduced Cost figure as of 12/31/2006: Reduce Inflation on 12/31/2007 (in Cell C8) by Yearly Inflation Rate (in Cell E4): =+C8/($E$4+100%) Copy formulas from Cells D8 and E8 to Cells D9 and E9 by clicking and dragging fill handle Format Cells to display currency Click and drag across Cells C8 to E9 Select Format, Cells, and under the Number tab, select Currency Change the Decimal places to and click OK Copy Formulas: Click and drag across Cell C9 through Cell E9 Place the cursor on the ―fill handle‖ in the lower right corner of this section box and drag the cursor down to Cell E27 and release The formulas are automatically adjusted to correspond to the current year information Irwin/McGraw-Hill 17-58 © The McGraw-Hill Companies, Inc., 2009 Solutions Manual ... revenues, by major source e General revenues, by major source f Total revenues g Program expenses, by function h Total expenses McGraw-Hill/Irwin Hoyle, Schaefer, Doupnik, Advanced Accounting, ... expenditures McGraw-Hill/Irwin Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e © The McGraw-Hill Companies, Inc., 2009 17-5 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com... Expenditures McGraw-Hill/Irwin Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e © The McGraw-Hill Companies, Inc., 2009 17-9 Find more slides, ebooks, solution manual and testbank on www.downloadslide.com