Financial Accounting II Unit 17 Review: Governmental & Nonprofit Accounting

Key Concepts and Definitions

• Governmental accounting focuses on the unique financial reporting requirements for state and local governments
• Fund accounting organizes resources into funds based on specific activities or objectives
• Budgetary accounting emphasizes the importance of budgeting in the public sector and its impact on financial reporting
• Modified accrual basis of accounting recognizes revenues when measurable and available, and expenditures when liabilities are incurred
• General fund is the primary operating fund of a government entity, accounting for all financial resources not accounted for in another fund
• Proprietary funds are used for business-type activities that operate similarly to private sector businesses (utilities, hospitals)
• Fiduciary funds account for resources held by a government in a trustee capacity or as an agent for external parties (pension funds)
  • These funds are not used to support the government's own programs

Unique Characteristics of Governmental Accounting

• Emphasis on accountability and stewardship of public resources rather than profitability
• Use of fund accounting to ensure resources are used for intended purposes and to demonstrate compliance with legal and contractual requirements
• Budgets play a central role in the planning, control, and evaluation of government activities
  • Budgets are often legally binding and require adherence
• Reporting focuses on the government's ability to continue providing services and meet financial obligations
• Governments have the power to levy taxes, which is a unique revenue source not available to private sector entities
• Governmental financial statements include government-wide and fund financial statements to provide a comprehensive view of the entity's financial position and activities
• Infrastructure assets (roads, bridges) are reported and depreciated in the government-wide financial statements

Fund Accounting Basics

• Funds are separate accounting entities with a self-balancing set of accounts, each with its own assets, liabilities, revenues, and expenditures
• Governmental funds are used to account for activities primarily supported by taxes, grants, and similar revenue sources
  • Examples include the general fund, special revenue funds, capital projects funds, and debt service funds
• Proprietary funds are used for activities that are financed and operated similarly to private sector businesses, with a focus on determining net income and capital maintenance
• Fiduciary funds are used to account for resources held in a trustee or agency capacity for external parties
• Interfund transfers allow for the movement of resources between funds, but should be properly authorized and recorded
• Fund balance represents the difference between assets and liabilities in a governmental fund and is classified based on the extent of constraints placed on its use (nonspendable, restricted, committed, assigned, unassigned)

Budgetary Accounting and Reporting

• Budgets are a key component of governmental accounting and serve as a plan for future activities, a control mechanism, and a means of evaluating performance
• Budgets are typically prepared on a cash or modified accrual basis, while financial statements are prepared using the accrual basis
• Budgetary comparison schedules or statements are required to demonstrate compliance with legal budgetary requirements
  • These schedules compare actual results to the original and final amended budget
• Encumbrances are commitments related to unperformed contracts for goods or services and are recorded to reserve a portion of the applicable appropriation
• Budgetary control is maintained at the fund, department, or object level, depending on the government's legal requirements and organizational structure
• Reconciliations between budgetary and GAAP (Generally Accepted Accounting Principles) basis amounts are necessary to explain differences in reporting

Financial Statements for Governments

• Government-wide financial statements provide a broad overview of the government's financial position and activities, including governmental and business-type activities
  • These statements are prepared using the accrual basis of accounting and economic resources measurement focus
• Fund financial statements provide detailed information about individual funds, with a focus on major funds
  • Governmental fund statements are prepared using the modified accrual basis of accounting and current financial resources measurement focus
  • Proprietary fund statements use the accrual basis of accounting and economic resources measurement focus
• Notes to the financial statements provide additional information and disclosures necessary for a complete understanding of the government's financial position and activities
• Required supplementary information (RSI) includes budgetary comparison schedules, pension and OPEB (Other Post-Employment Benefits) information, and management's discussion and analysis (MD&A)
• Comprehensive Annual Financial Report (CAFR) is a detailed annual report that includes the government's audited financial statements, RSI, and other supporting information

Nonprofit Accounting Principles

• Nonprofits are organizations that operate for purposes other than generating profit and are typically exempt from federal income taxes under Internal Revenue Code Section 501(c)(3)
• Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) Topic 958, Not-for-Profit Entities, provides guidance on accounting and reporting for nonprofits
• Net assets are classified as net assets without donor restrictions or net assets with donor restrictions, based on the existence or absence of donor-imposed restrictions
• Contributions are recognized as revenue when received or unconditionally promised, and are classified as without donor restrictions or with donor restrictions
• Expenses are reported by function (program services, management and general, fundraising) and by natural classification (salaries, rent, utilities)
• Statement of functional expenses presents expenses by both function and natural classification in a matrix format
• Nonprofit financial statements include a statement of financial position, statement of activities, statement of functional expenses, statement of cash flows, and notes to the financial statements

Auditing and Compliance in the Public Sector

• Governmental and nonprofit entities are subject to various audit and compliance requirements, depending on their size, funding sources, and legal structure
• Single Audit Act requires an annual audit of federal award programs for entities that expend $750,000 or more in federal awards during the fiscal year
  • This audit includes both financial and compliance components
• Generally Accepted Government Auditing Standards (GAGAS), also known as the Yellow Book, provide standards for audits of government entities and entities that receive government awards
• OMB Uniform Guidance (2 CFR 200) establishes uniform administrative requirements, cost principles, and audit requirements for federal awards to non-federal entities
• State and local laws may impose additional audit and compliance requirements on governmental and nonprofit entities
• Auditors must be independent and objective in performing their work and must communicate significant findings and deficiencies to management and those charged with governance
• Compliance with laws, regulations, contracts, and grant agreements is a key focus of audits in the public sector

Real-World Applications and Case Studies

• City of Detroit bankruptcy (2013) highlighted the importance of governmental accounting and financial reporting in assessing a government's financial condition and ability to meet its obligations
• Flint, Michigan water crisis (2014-2019) demonstrated the need for proper budgeting, accounting, and oversight of public infrastructure projects and the consequences of inadequate funding and management
• American Red Cross financial reporting challenges (2015) emphasized the importance of transparency and accountability in nonprofit financial reporting and the need for proper allocation of expenses across functions
• CalPERS (California Public Employees' Retirement System) unfunded pension liabilities illustrate the long-term financial implications of public sector pension obligations and the need for accurate reporting and funding strategies
• Impact of COVID-19 pandemic on governmental and nonprofit finances, including reduced revenue, increased expenses, and the need for emergency funding and budgetary adjustments
  • CARES Act and other federal relief programs provided significant funding to state and local governments and nonprofits, with associated compliance and reporting requirements
• Governmental Accounting Standards Board (GASB) statements on leases (Statement 87) and fiduciary activities (Statements 84 and 97) demonstrate the ongoing evolution of governmental accounting standards to improve financial reporting and accountability