ch17

802

17INTRODUCTIONTO FUND ACCOUNTING

LEARNING OBJECTIVES

1 Distinguish between a nonbusiness organization and a profit-oriented enterprise.

2 Explain the role of fund accounting.

3 Distinguish among the concepts of revenues, expenses, and expenditures asused in profit-oriented entities and as used for expendable fund entities.

4 Understand the classification of revenues and other resource inflows for fund accounting.

5 Understand the classification of expenditures and other resource outflowsfor fund accounting.

6 Describe the critical events in the use of financial resources of anexpendable fund.

7 Explain how capital expenditures are recorded in an expendable fund.

8 Understand the role of a general fund.

9 Contrast the consumption and the purchases methods of accounting forinventories (and other prepaid items).

The 2005 Financial Report of the United States Government provides the president,Congress, and the American public information about the federal government’sfinancial results and position. This report is prepared in accordance with GAAP and issubject to audit by the Government Accountability Office (GAO). For fiscal years ended2004 and 2005, the GAO was unable to express an opinion on the U.S. government’sconsolidated financial statements due to material deficiencies in financial reporting. Ofthe 24 agencies that are consolidated in this report, only 18 received unqualified auditopinions. Four agencies, including the Department of Defense and the Department ofHomeland Security, received disclaimers of opinion because of material deficienciesin financial reporting or because they had limited the scope of the auditor’s work.These agencies represented 58% of the government’s total assets.1

Accounting for nonbusiness organizations is referred to as fund accounting.Nonbusiness organizations are economic entities that are organized to provide asocially desirable service without regard to financial gain. In contrast, businessenterprises are designed to earn a return on investment for equity investors, oper-ate in a competitive market, and face liquidity concerns.

1 Financial Report of the United States (with a forward by Representative Jim Cooper), Nelson Current, 2006.

IN THE

NEWS

IN THE

NEWS

Jeter_int_Ch17_802-850hr.qxd 16-11-2009 9:03 Page 802

LO

Distinctions between Nonbusiness Organizations and Profit-Oriented Enterprises 803

2 “Reporting Unrelated Business Income,” by Travis Patton and Jocelyn Bishop, Journal of Accountancy,February 2009, p. 52.

The purpose of this chapter is to introduce the reader to fund accounting con-cepts and procedures. However, it is first necessary to present a brief introduction tothe types and characteristics of organizations that use fund accounting concepts.

CLASSIFICATIONS OF NONBUSINESS ORGANIZATIONS

Nonbusiness organizations may be separated into five major classifications, as follows:

1. Governmental units. Governmental units include federal, state, and local govern-mental entities. Local governmental units include counties, townships, munici-palities, school districts, and special districts. Special districts include organiza-tional units such as port authorities, industrial development districts, sanitationdistricts, and soil and water conservation districts.

2. Hospitals and other health care providers.3. Colleges and universities.4. Voluntary health and welfare organizations. Voluntary health and welfare organiza-

tions are organizations that derive their revenue from voluntary contributions ofthe general public to be used for purposes connected with health, welfare, or com-munity services. Examples of such organizations include heart associations, familyplanning councils, mental health associations, and foundations for the blind.

5. All other nonbusiness organizations. Other nonbusiness organizations take a variety offorms. They include such organizations as trade associations (Electrical Contrac-tors Association), professional associations (State Society of Certified PublicAccountants), performing arts organizations (the Tennessee Performing Arts Cen-ter), museums, religious organizations, and research and scientific organizations.

“With the United States officially in a recession, state and federal funding sourceson which charitable organizations rely are drying up. . . Colleges and universities areseeing a marked increase in requests for financial aid, while hospitals are challengedby having to provide more charity care. These financial struggles have led manyorganizations to seek alternative revenue sources that are outside their charitablemission and, therefore, are taxable.”2

DISTINCTIONS BETWEEN NONBUSINESS ORGANIZATIONSAND PROFIT-ORIENTED ENTERPRISES

The most obvious characteristic that distinguishes a nonbusiness organization from aprofit-oriented enterprise is the absence of a primary goal to earn a profit. The servicesperformed by nonbusiness organizations are based on social need rather than onthe profit motive. Thus, their financial statements are sometimes referred to as not-for-profit, or nonprofit, financial statements. Other characteristics of nonbusiness orga-nizations also distinguish them from profit-oriented enterprises. For example, per-sons who contribute resources to a nonbusiness organization do not receive equityinterests in the net assets of the organization. Nonbusiness organizations seldom fi-nance their operations through charges to the individuals benefiting from the service.Thus, they must rely on political action (for example, tax levies) or fund-raisingcampaigns to sustain their activities and replenish their financial resources.

1 Nonbusinessorganizationsversus profit-orientedenterprises.

IN THE

NEWS

IN THE

NEWS


GASB CONCEPTUAL FRAMEWORK

The GASB has issued five statements on the conceptual framework:

Concepts Statement No. 1: “Objectives of Financial Reporting”Concepts Statement No. 2: “Service Efforts and Accomplishments Reporting”Concepts Statement No. 3: “Communication Methods in General Purpose External Financial

Reports That Contain Basic Financial Statements”Concepts Statement No. 4: Elements of Financial StatementsConcepts Statement No. 5: Service Efforts and Accomplishments Reporting—an amendmentof GASB Concepts Statement No. 2

In the first concepts statement, the stated objectives of financial reporting are:

a. To assist in meeting the government’s duty to be publicly accountable by providing infor-mation for users to assess if current-year revenues are sufficient to pay for current-yearservices.

b. To determine if the government’s resources are obtained and used in accordance with legalor contractual requirements.

Financial reporting should allow users to evaluate operating results by providing informationabout the sources and uses of resources and how the government’s activities are financed.In addition, information needs to be provided about the impact of operations on the financialposition of the government.

Concepts Statement No. 2 develops the objective of clarifying the reporting of service effortsand accomplishments (SEA); it also identifies its elements and characteristics. The objective ofSEA reporting is to provide more complete information about a governmental entity’s per-formance than can be provided by the traditional financial statements. The elements of SEAreporting include categories of output and outcome indicators as well as efficiency and cost-outcome indicators. SEA information should focus primarily on measures of service accom-plishments and measures of the relationships between service efforts and service accomplish-ments. SEA information also should meet the characteristics of relevance, understandability,comparability, timeliness, consistency, and reliability.

In Concepts Statement No. 3, a conceptual basis for determining the methods to present in-formation within general-purpose external financial reports is provided.

Communication methods might include recognition in basic financial statements, disclo-sure in the footnotes, and presentation of supplementary information (whether required or not).

This Concepts Statement also addresses the necessary elements for the effective commu-nication of relevant and reliable messages within financial reports. This includes a clarificationof the roles and responsibilities of the preparer, the user, and the GASB for the effective com-munication of information.

In Concepts Statement No. 4, seven elements of Statements of Financial Position are defined.These are:

• Assets—resources with present service capacity that the entity presently controls• Liabilities—present obligations to sacrifice resources or future resources that the entity has

little or no discretion to avoid• A deferred outflow of resources—a consumption of net resources by the entity that is applicable

to a future reporting period• A deferred inflow of resources—an acquisition of net resources by the entity that is applicable to

a future reporting period• Net position—the residual of all other elements presented in a statement of financial

position• Outflow of resources—a consumption of net resources by the entity that is applicable to the

reporting period• Inflow of resources—an acquisition of net resources by the entity that is applicable to the

reporting period

In Concepts Statement No. 5, four sections of Concept Statement No. 2 were modified and onesection was deleted. Concept No. 2 deals with service efforts and accomplishment reporting.

804 Chapter 17 Introduction to Fund Accounting


“The government is like a baby’s alimentary canal, with a healthy appetite at oneend and no responsibility at the other.”—Ronald Reagan3

In addition, tax levies and voluntary contributions cannot be justified based onthe value of the nonbusiness organization’s services to the individuals contributingthe money. Those who contribute resources to nonbusiness organizations do notnecessarily benefit proportionately or at all from the services provided by such or-ganizations. Because of these characteristics, the net income concept cannot beused to measure the effectiveness of the management of resources dedicated tononbusiness objectives. Therefore, the income determination model of account-ing is generally not applicable to such organizations.

In profit-oriented enterprises, net income functions as an implicit regulator inthe sense that (1) in the long run, the organization must operate profitably to sur-vive and (2) in the short run, failure to operate profitably will affect management’sdecisions and actions and perhaps whether management will be replaced. In the ab-sence of this implicit regulator, stringent controls are often imposed to regulate theallocation and utilization of the financial resources of nonbusiness organizations.Such controls may be legally imposed (as in the case of governmental activities) orthey may be imposed through formal action of the governing board.

Restrictions or limitations on the use of resources may be directly imposed bythe individuals or groups that contribute such resources. For example, most non-business organizations receive gifts, grants, or endowments that are only used forspecific purposes designated by the donor, such as construction of buildings,research activities, scholarships, operation of parks, recreation programs, or the ac-quisition of land. In addition, the donor may stipulate that the principal of the giftremain intact and that only the income on the invested principal can be used forthe purposes designated by the donor.

In order to account for these legally imposed, externally imposed, and self-imposed restrictionsor limitations on the utilization of their resources, nonbusiness organizations have generallyadopted the concepts of fund accounting. In essence, an organization that uses fund account-ing separates the assets, liabilities, and residual equity (known as a fund balance) into distinctfunds organized for specific activities or objectives. In fund accounting, each fund consists of aself-balancing set of accounts and constitutes a separate accounting entity created and main-tained for a specific purpose. Accounting for the inflow and outflow of resources of each fund isdesigned so that they can be compared with the approved or stipulated resource flows for that fund.

FINANCIAL ACCOUNTING AND REPORTING STANDARDSFOR NONBUSINESS ORGANIZATIONS

The potential users of the financial reports of nonbusiness organizations includetaxpayers, contributors, grantors, creditors, employees, managers, directors andtrustees, service beneficiaries, financial analysts and advisers, brokers, underwriters,economists, taxing authorities, regulatory authorities, legislators, the financialpress and reporting agencies, labor unions, trade associations, researchers, teachers,and students.

Financial Accounting and Reporting Standards for Nonbusiness Organizations 805

IN THE

NEWS

IN THE

NEWS

3 Quoted in New York Times Magazine. From The Merriam-Webster Dictionary of Quotations, Merriam-Webster,Inc.: 1996. Infopedia, SoftKey Multimedia Inc., 1996.



“It was once said that the moral test of government is how that government treatsthose who are in the dawn of life, the children; those who are in the twilight of life,the elderly; and those who are in the shadows of life—the sick, the needy and thehandicapped.”—Hubert H. Humphrey4

Unlike for-profit organizations and depending on the type of nonbusiness or-ganization, the accounting standards are not established by one unique standard-setting body.

Until 1980, the Financial Accounting Standards Board (FASB) and its prede-cessor bodies gave little, if any, attention to standards of reporting for nonbusinessorganizations. In 1980, however, the FASB issued Statement of Financial AccountingConcepts No. 4, “Objectives of Financial Reporting by Nonbusiness Organizations.”In that statement, the Board identified providers such as members, taxpayers, con-tributors, and creditors as the most important users for purposes of establishing ex-ternal financial reporting objectives for nonbusiness organizations.

In 1984, the Governmental Accounting Standards Board (GASB) was created.Like those of the FASB, the operations and financing of the GASB are overseen bythe Financial Accounting Foundation. The GASB is responsible for establishingfinancial accounting standards for all state and local governmental bodies, and theFASB is responsible for establishing financial accounting standards for all othernonbusiness organizations. Accounting and reporting standards for governmentalunits are described and illustrated in this chapter and in Chapter 18. Accountingand reporting standards for nongovernment nonbusiness organizations are de-scribed and illustrated in Chapter 19.

Illustration 17-1 indicates the standard-setting body (the GASB or the FASB) pri-marily responsible for determining the accounting standards for various types of non-business organizations. Having two separate bodies establishing accounting standardscan be confusing for users of the financial statements. For instance, the financial state-ments of a state university, such as the University of Tennessee, are prepared using

ILLUSTRATION 17-1

Financial Accounting Standards for Nonbusiness Organizations

Governmental Units1. Federal units

• Veterans hospitals2. State units

• State hospitals• State universities

3. Local governments• Country government• School districts• Municipalities• Port authorities

Nongovernmental Units1. Private colleges, universities, and

community colleges2. Private hospitals and voluntary

health and welfare organizations3. Other nongovernmental units

• Private elementary schools• Professional organizations• Labor unions• Civic organizations• Trade associations

GASB FASB Primary body establishingaccounting standards

Nonbusiness organizations

f

∂

IN THE

NEWS

IN THE

NEWS

4 Excerpt from a 1977 speech. From The Merriam-Webster Dictionary of Quotations, Merriam-Webster, Inc.:1996. Infopedia, SoftKey Multimedia Inc., 1996.


Fund Accounting 807

GASB rules, while a private university, such as Vanderbilt University, prepares its fi-nancial statements under the guidance of the FASB. Currently, there are significantaccounting differences in rules between the FASB and the GASB. It is important forusers of not-for-profit financial statements to have an understanding of the standardsprovided by both the GASB and the FASB. In this chapter and Chapter 18, the GASBrules are illustrated for governmental units; in Chapter 18, the hierarchy of generallyaccepted reporting standards for governmental entities is described; and in Chapter19, the FASB’s standards for other nonbusiness organizations are presented.

FUND ACCOUNTING

Fund accounting is designed primarily to meet internal reporting and control objec-tives; thus fund accounting may not be sufficient in itself to meet the objectives of fi-nancial reporting by nonbusiness organizations. Nevertheless, it does provide a basisfor determining the fiscal responsibility and status of the organization and the compli-ance of administrators with the approved or stipulated receipt and utilization of finan-cial resources. Therefore, fund accounting is an important means of meeting several ofthe accounting, control, and reporting objectives of most nonbusiness organizations.

Fund entities may be classified in a number of different ways. For example, theymay be classified as expendable fund entities, fiduciary fund entities, and propri-etary fund entities. Expendable fund entities are the funds most closely associatedwith basic fund accounting concepts, while proprietary fund entities are the nonbusi-ness funds that are most similar to business entities. Fiduciary funds entities are usedto follow the activities in which the government acts as an agent or trustee forresources that belong to others, such as employee pension plans.

Expendable Fund Entities

Expendable fund entities consist of net financial resources that are dedicated to a spec-ified use. Thus, separate expendable fund entities are established based on the pur-pose for which financial resources may or must be used. Examples of funds set up forspecific purposes include a capital projects fund created to account for new highwayconstruction or a debt service fund created to account for interest and principal pay-ments on long-term debt. Thus within a government, many funds are established.

Financial resources consist of cash and claims to cash such as receivables and in-vestments in marketable securities. The difference between the financial resourcesof an expendable fund entity and claims against those resources is referred to as thefund balance. Thus, the statement of financial position, or balance sheet, for an ex-pendable fund entity reflects the financial resources of the fund, the claims againstthose resources, and the fund balance. Typically, assets and liabilities are not subdi-vided into current and noncurrent assets and liabilities. At a particular time thefund balance represents the net financial resources that are available for expendi-ture for the specified purposes or objectives for which the fund was created.

The financial resources of an expendable fund entity are not intended to bemaintained intact. Ordinarily it is intended that they will be expended annually orover some other specified time period in order to carry out the objectives for whichthe fund was created. The measurement focus is on the flow of current financial re-sources in contrast to proprietary fund accounting, where the measurement focus ison the flow of economic resources.

LO2 The role of fundaccounting.

LO3 Differences inapplications ofrevenues,expenses, andexpenditures.



The relevant measures of the operations of expendable fund entities are not,therefore, revenue, expense, and net income, but rather increases in fund re-sources, decreases in fund resources, and the change in the fund balance. The ac-counting model for the operating statement of an expendable fund entity is:

Thus, increases in fund resources include not only revenues, but also items suchas proceeds from debt issuances and transfers from other funds. Decreases in fundresources include expenses, other expenditures, and transfers to other funds. How-ever, the term “expense” as defined under GAAP is typically not used with fund ac-counting. Instead the term “expenditure” includes expenses as well as other itemsgiving rise to cash (or other resource) outlays, without regard to timing or thematching with revenue that is an integral part of income determination underGAAP. Conversely, expenses may include items that are not current expendituresbecause of the timing of the outlay. The operating results of expendable fund enti-ties are thus measured in terms of inflow, outflow, and balances of net current fi-nancial resources assigned to the fund. The appropriate operating statement forsuch entities is essentially a statement of changes in net financial resources. To pro-vide a basis for comparison, both budgeted and actual resource flows may be pre-sented in the operating statement or in related schedules. Later in this chapter, wedescribe the modified accrual basis commonly used in fund accounting, and theneed for accrual-based reporting under GASB Statement No. 34.

In summary, in accounting for expendable funds, the emphasis is changedfrom matching revenues and expenses to a comparison of the actual inflows andoutflows of financial resources with stipulated or approved resource flows. The ob-jective in accounting for expendable fund entities is to measure the extent towhich management has complied with the regulations or restrictions that govern theuse of expendable fund resources. A secondary objective is to assist managementwith such compliance.

Restricted and Unrestricted Fund Entities

Expendable fund entities may be further classified as restricted or unrestricted.This classification is usually applicable to nonbusiness organizations other thangovernmental units. The unrestricted expendable fund entity includes the netcurrent financial resources of the nonbusiness organization that are available tocarry out the primary or general activities of the organization at the discretion ofthe governing board. Current financial resources that are restricted by donors orother outside agencies for specific current operating purposes are included in re-stricted expendable fund entities. The term “restricted” refers to resources that beara legal restriction as to use imposed by parties outside the organization. The primary pur-pose of this distinction is to assist in the determination of the current financial re-sources that are available for use at the discretion of the governing board andthose over which the governing board has little, if any, discretion as to use becauseof externally imposed restrictions. As illustrated in Chapter 19, most nonbusinessorganizations other than governmental units have one unrestricted fund and oneor more restricted funds.

Financial resources inflows (by source)- Financial resources outflows (by function)= Change in fund balance


Fund Accounting 809

Proprietary Fund Entities

Proprietary fund entities are used to account for the activities of nonbusiness orga-nizations that are similar to those of business enterprises. Many nonbusiness orga-nizations engage in quasi-commercial activities. The operation of an electric or wa-ter utility by a municipality and the rental of real estate by a religious organizationare examples of such activities. Accordingly, even though these activities are ac-counted for in separate fund entities, relevant accounting measurements and re-ports are similar to those applicable to profit-oriented enterprises and focus on thedetermination of net income, financial position, and cash flows.

The accounting model for the statement of financial position of a proprietaryfund entity is similar to a for-profit firm and is represented as follows:

The accounting model for the statement of revenues, expenses, and changes in fund net assets of a proprietary fund entity is presented as follows using the all-inclusive format:

Fiduciary Fund Entities

Fiduciary funds include both trust and agency funds. Trust funds are fundswhere the government acts as trustee for an individual or organization. An ex-ample of a trust fund might be a pension trust fund in which the fund accountsfor the accumulation of resources for pension benefit payments to employees,police, and firefighters of the city. An agency fund accounts for resources of var-ious taxes, bonds, and other receipts held for individuals, outside organizations,and/or other funds.

Budgetary Fund Entities (Governmental Funds)

In the traditional compliance model of reporting on the operations of governmen-tal units, actual and approved (or stipulated) inflows and outflows of resources arecompared. Approved resource flows are incorporated into annual budgets. In someinstances the budget for an expendable fund entity is so important (often becauseof legal requirements) to management control of fund resources that entries forbudgeted revenues and expenditures are recorded in the books. Fund entities inwhich the budget is formally incorporated into the accounting records are some-times referred to as budgetary funds. (This is illustrated later in the chapter.)

Operating revenues Less: operating expenses= Operating income Plus (minus): nonoperating revenues and expenses= Income before other revenue, expenses, gains and losses, and transfers Other revenue, expenses, etc.: capital contributions, additions to permanent and term endowments, special and extraordinary items= Increases (decreases) in net assets Plus: net assets—beginning of period= Net assets—end of period

AssetsCurrent and Noncurrent

=

LiabilitiesCurrent and Noncurrent

+

EquityNet Assets

Jeter_int_Ch17_802-850hr.qxd 16-11-2009 9:03 09


5 Governmental Accounting Standards Board (GASB), GASB Statement No. 34, “Basic Financial Statements—and Management’s Discussion and Analysis—for State and Local Governments” (Norwalk, CT: June 1999).

The preparation, use, and importance of budgets for governmental units can-not be overemphasized. The annual budget for a governmental unit is usually pre-pared by the executive branch of the governmental unit. It is then presented to thelegislative branch for consideration and enactment. In the case of annually leviedtaxes such as property taxes, adoption of budgeted revenue amounts may requirethe enactment of enabling legislation. In the case of continually levied taxes such assales taxes and income taxes, no new legislation authorizing the tax is ordinarily re-quired for the adoption of the budgeted amounts of revenue.

When budgeted expenditures are enacted into law, they are referred to asappropriations. Appropriations represent the maximum expenditures that are au-thorized by the legislature. As such, they represent (by budget category) amountsthat cannot be legally exceeded unless subsequently amended by the legislativebody. Accordingly, the accounting system must provide administrators of govern-mental units with timely information as to actual expenditures and allowable ex-penditures (appropriations) by budget category. In addition, financial reports mustbe prepared in such a way that the legislature or its representatives can determinethat the spending limits authorized by it have not been exceeded. The approvedbudget may, therefore, be formally recorded in the accounting records of the ap-propriate fund(s). Such formal budgetary account integration is useful in assistingin the control and administration of fund resources.

Basis of Accounting

The basic financial statements of a government include two sections; government-wide financial statements and fund financial statements. Government-wide financialstatements report on all the nonfiduciary activities of the government and provideboth short- and long-run information about the financial status of the government.In addition to reporting the government funds statements on a modified accrual ba-sis, a government-wide Statement of Activities and a government-wide Statement of Net As-sets are required.5 The government-wide financial statements are prepared usingthe economic resources measurement concept and the accrual basis of accounting(this is also appropriate for proprietary and fiduciary fund entities.).

Governmental fund (expendable funds) financial statements are reported us-ing the current financial resources concept and the modified accrual basis of ac-counting. Financial resources of an expendable fund entity include cash, receiv-ables, and securities that can be converted into cash. Revenues are recognized whenthey are measurable and available. Revenues are available when they are collectiblewithin the current period or soon enough to pay liabilities of the current period.Governments are required to disclose the length of time used to define “availablefor use” for purposes of defining revenues. The cash basis of accounting is not ap-propriate. Under the modified accrual approach, it is not sufficient for an eco-nomic event to occur to affect the operating statement. Instead, the related cash flowmust occur within a period short enough to have an effect on current spendable resources.In other words, revenues must be both measurable and available to liquidate liabil-ities of the current period.


Fund Accounting 811

The term “expenditure” rather than “expense” is used for governmental funds.Expenditures are recorded when a liability is incurred, similar to accrual account-ing. However, because governments generally do not attempt to allocate costs to pe-riods benefited and because some expenditures of the expendable fund entities arenot recognized in the period in which they are incurred, the term modified accrualaccounting is also used. Therefore, expenditures are recognizable when an event isexpected to use current spendable resources (rather than future resources).

Before proceeding further, it is useful to contrast the concepts of revenue,expense, and expenditure as they are used in relation to profit-oriented entities andto expendable fund entities.

Profit-Oriented Entities (Income Determination)

Revenues—increases in net assets resulting from the sale of goods or services.Expenses—costs of resources used to produce current period revenues.Unusual, Infrequent, and Extraordinary Items—Extraordinary items are items thatare both unusual in nature and infrequent of occurrence; they are reported netof taxes. Items that are either unusual or infrequent, but not both, are shown ona separate line, if material, but are not shown net of taxes.

Expendable Fund Entities

Revenues—any increase in (source of) net current financial resources other thanincreases from other financing sources (as defined below).Expenditures—any decrease in (use of) net current financial resources other thandecreases from other financing uses (as defined below); or the amount of financialresources expended during the period to carry out the operations and activitiesof the fund entity.Other Financing Sources and Uses (and Transfers)—proceeds from debt issuancesand transfers of financial resources to and from other funds.Special and Extraordinary Items—Extraordinary items are both unusual in natureand infrequent of occurrence. Special items are significant transactions withinthe control of management that are either unusual or infrequent.

In the remainder of this chapter, fund accounting concepts are developedwithin the framework of state and local governmental units.

When President Barack Obama signed the American Recovery and Reinvestment Act of 2009 into law, the largest deficit in American history is almost guaranteed(doubling the deficit of 2008). In January, the Congressional Budget Office projectedthat the deficit this year would be $1.2 trillion before the stimulus package. That'smore than the entire GDP of all but a handful of countries, and more, in nominaldollars, than the entire United States national debt in 1982.6

Classification of Revenues

Revenues are classified by fund and by major revenue source. Major sources of rev-enue for state and local governmental units are summarized in Illustration 17-2.As shown, the number of sources of revenue available to governmental units isimpressive when compared with those available to business enterprises.

RELATED CONCEPTS

Government-widefinancial statementsare now presentedon an accrual basis.One reason for thechange is thataccrual accountingbetter assists usersin assessing whetherthe costs of serviceswere shifted tofuture periods. Also,this information willassist users indetermining whethera government’sfinancial positionhas improved ordeteriorated.

LO4 Classification ofrevenues.

6 WSJ, February 17, 2009, “A Short History of the National Debt” by John Gordon.

IN THE

NEWS

IN THE

NEWS



Other Financing Sources

Debt Issue Proceeds Governmental units may finance their operations throughthe issuance of bonds or other debt instruments. Although debt issue proceeds aresometimes classified as revenue of a particular fund entity, they are not revenue fromthe point of view of the issuing governmental unit because of the offsetting debt. Ac-cordingly, debt issue proceeds should be classified separately from revenue for pur-poses of financial reporting. Debt issue proceeds are accounted for as “other fi-nancing sources.”

Transfers of Resources from Other Funds Transfers of resources from other fundentities within an organization do not represent an increase in the expendable fi-nancial resources of the organization as a whole. Accordingly, even though theyrepresent an increase in the financial resources of the recipient fund entity, theyshould ordinarily be classified separately from revenue for financial reporting pur-poses. Interfund operating transfers are accounted for as “other financingsources,” or “uses.”

Recognition of Revenue

In accounting for profit-oriented enterprises, revenue is ordinarily not recognizeduntil (1) a transaction has taken place (that is, the amount of revenue can be ob-jectively measured) and (2) the earnings process is complete or substantially com-plete. Criterion 2 is not applicable to expendable fund entities. The revenue-recog-nition criteria for expendable fund entities can be stated as follows: In accounting forexpendable fund entities, revenue is ordinarily not recognized until (1) it can be objectivelymeasured and (2) it is available to finance expenditures of the current period.

Many sources of fund revenue do not meet the criteria of measurability andavailability until they are received in cash. On the other hand, significant amountsof revenue (for example, property taxes, pledges, regularly billed charges for rou-tine services, and some types of grants) meet both criteria and are recognized as rev-enue prior to the receipt of cash. The application of these criteria to several signifi-cant sources of revenue of governmental units may be illustrated as follows.

Property Taxes Property taxes usually meet both criteria when levied. Theamount of property tax is precisely determinable when levied and the amount ofuncollectible taxes ordinarily can be reasonably estimated on the basis of previous

ILLUSTRATION 17-2

Major Sources of Revenue for State and Local Governmental Units

Property taxes Grants from federal, state, or local government unitsIncome taxes Shared revenues from federal, state, Sales and excise taxes or local government unitsGift and inheritance taxes Payments in lieu of taxes from federal, state,Fines and penalties or local government unitsGifts and donations Interest earned on loans and investmentsForfeits Licenses and permitsSales of propertyCharges for services


Fund Accounting 813

7 Tax anticipation notes are notes or warrants issued in anticipation of the collection of taxes and are usu-ally retirable only from the proceeds of the tax levy whose collection they anticipate.8 Financial Report of the United States (with a foreword by Representative Jim Cooper), Nelson Current, 2006.

experience. Thus, the amount of property tax revenue is objectively deter-minable at the time the taxes are levied. Ordinarily, taxes are also considered tobe available in the period levied, even though they are collectible in a period sub-sequent to the levy, because (1) they provide a basis for obtaining cash resourcesthrough the issuance of tax anticipation notes7 and (2) they are usually col-lectible early in the subsequent period and thus are available to finance currentperiod operations.

Income Tax and Sales Tax Self-assessed taxes such as the income tax and the salestax usually are not objectively measurable or available until the tax returns are filedwith payment. Where the tax returns have been filed but payment is delayed, rev-enue should be recognized when the returns are filed, assuming that a reasonableestimate can be made of noncollectible amounts, if any. In addition, sales taxes heldby merchants may be recognized as revenue before they are received by the fund en-tity if the measurability and availability criteria are met.

Fines and Forfeits The amounts of fines, forfeits, inspection charges, parkingmeter receipts, and so on, are not objectively determinable or available until as-sessed or collected and are, therefore, not normally recognized as revenue untilcollected.

Sales of Property The entire amount of proceeds from the sale of property istreated as revenue at the time of sale because expendable assets are increasedand are available to finance current expenditures in the same manner as anyother revenues.

Pledges and Grants A pledge to contribute resources is considered revenue atthe time it is made, so long as a reasonable estimate of uncollectible pledges canbe made and there is no restriction on the time period in which the pledged re-sources can be expended. Grants may or may not be recognized as revenue at thetime the grant is authorized. If the grant is dependent on the performance of ser-vices, or if the expenditure of funds is the prime factor for determining the eligi-bility for the grant funds, revenue should not be recognized until the time the ser-vices are performed or the expenditures are made. Grants that are not dependenton performance or expenditure of funds should be recognized in the period inwhich they are authorized.

Did the U.S. deficit increase or decrease in 2005? The answer to this questiondepends on how you measure the deficit. The commonly used definition (and the one used by President Bush) is based on cash accounting and is oftenquoted as being $318.5 billion. Under this measure the deficit decreased for 2005.However, using the accrual basis (which is required of private-sector firms),the deficit was $760 billion, which was significantly worse than the $600 billiondeficit in the prior year.8

IN THE

NEWS

IN THE

NEWS



Classification of Expenditures and Other Resource Outflows

As mentioned earlier, an expenditure is any decrease in net current financial re-sources other than transfers to other funds. Thus expenditures are not matched to theproduction of current revenues as are expenses for profit-seeking enterprises. Expen-ditures may be classified by fund, by function and/or activity, by organizational unit,by character (nature of the expenditure), or by object class. Since different classifica-tions serve different purposes, multiple classification of expenditures is usually rec-ommended. For example, the various classifications might be illustrated as follows:

Function—Public SafetyOrganizational Unit—Fire Department or Police DepartmentActivity—Drug ControlCharacter—Current OperatingObject Class—Supplies or Salaries

Classification by Function and Activity Typical functional classifications of expen-ditures for state and local governmental units are presented in Illustration 17-3.Classification by function refers to the broad purposes for which expenditures aremade. Classification by activity refers to the specific types of work performed to ac-complish such purposes. For example, public safety is a major function of a munic-ipality. The function of public safety may be divided into subfunctions such as policeprotection, fire protection, and protective inspection. The subfunction of policeprotection can be classified into activities such as criminal investigation, vice con-trol, patrol, custody of prisoners, and crime laboratory.

Functional and activity classifications are particularly important and are theclassifications ordinarily recommended for published financial reports. In addition,as noted by the National Council on Governmental Accounting:

Activity classification is particularly significant because it facilitates evaluation of the econ-omy and efficiency of operations by providing data for calculating expenditures per unitof activity. That is, the expenditure requirements of performing a given unit of work canbe determined by classifying expenditures by activities and providing for performance

ILLUSTRATION 17-3

Functional Classification of Expenditures for State and Local Governmental Units

General Government Health and WelfareLegislativeJudicial Recreation—CulturalExecutive PlaygroundsElections Swimming poolsFinancial administration Golf courses

ParksLibraries

Public SafetyPoliceFire Urban Redevelopment and HousingInspection

Economic Development and AssistancePublic Works

Highways and streetsSanitation

LO5 Classification ofexpenditures.


Fund Accounting 815

9 National Council on Government Accounting, Statement 1: Governmental Accounting and Financial Re-porting Principles (Chicago: Municipal Finance Officers Association of the United States and Canada,1979), pp. 16–17.

measurement where such techniques are practicable. These expenditure data, in turn,can be used in preparing future budgets and in setting standards against which futureexpenditure levels can be evaluated. Further, activity expenditure data provide a conve-nient starting point for calculating total and/or unit expenses of activities where desired,e.g., for “make or buy” and “do or contract out” decisions. Current operating expendi-tures (total expenditures less those for capital outlay and debt service) may be adjustedby depreciation and amortization data . . . to determine activity expense.9

Classification by Organizational Unit and by Object Class Classification of expen-ditures by organizational unit is important for management, control, and internalreporting purposes including responsibility accounting. Classification of expendi-tures by organizational unit is based on the departments, divisions, bureaus, orother administrative units that make expenditures to carry out their designatedfunctions. Examples include police department, attorney general’s office, corpora-tion commission, city planning, and the like. Each organizational unit may have re-sponsibility for several functions or activities. In some instances a function or activ-ity may cross organizational unit lines.

Classification of expenditures by object class identifies what is acquired in returnfor the expenditure (i.e., the types of items purchased or services obtained). Typical ob-ject classifications are presented in Illustration 17-4. Classification by object is useful pri-marily for internal management and may be omitted from published financial reports.

ILLUSTRATION 17-4

Classification of Expenditures by Object Class

Personal ServicesSalariesEmployee health and retirement benefitsPayroll taxes, etc.

SuppliesOffice suppliesOperating suppliesSmall tools

OtherProfessional servicesTelephone and telegraphTravelRental (equipment, buildings, machinery)Postage and shippingPrinting and publicationsRepairs and maintenanceInsuranceMiscellaneous

Capital ExpendituresLandBuildingsImprovementsMachinery and equipmentMotor vehiclesFurniture and furnishingsOffice machines



Transfers to Other Funds

Transfers of resources to other fund entities within an organization do not repre-sent decreases in the expendable financial resources of the organization as a whole.Accordingly, even though they represent a decrease in the financial resources of aparticular fund, they ordinarily should be classified separately from expendituresfor financial reporting purposes.

Recognition of Expenditures

An expenditure is one of four critical events in the use of the financial resources ofan expendable fund entity. The sequence of events is as follows:

EncumbrancesAppropriation orauthorization Expenditure Disbursement

LO6 Critical eventsin the use offinancial resources.

Appropriation Appropriations represent the maximum amount of expendi-tures that entities are authorized to spend. Administrators are responsible for ex-pending fund resources only in the amounts and for the purposes prescribed in theappropriations act. In the case of governmental units, administrators are heldstrictly accountable for the provisions of the appropriation act, and stiff penaltiesare provided by law for those who fail to follow them. Thus, an important functionof financial statements is to let administrators know how they stand relative to theirappropriation authority. Furthermore, accounting safeguards must be in place toprevent the misuse of fund resources.

Encumbrance Since the amount of an appropriation cannot be legally exceeded,the placing of purchase orders and the signing of contracts are critical events in con-trolling the expenditures of expendable fund entities. The financial resources of afund are said to be encumbered when a transaction is entered into that requires per-formance by another party before the governmental unit becomes liable to performits part of the transaction by spending financial resources. An encumbrance reducesthe remaining portion of appropriations encumbered and is formally recorded inthe accounting records. Thus, at any particular time the accounting records will re-flect management’s remaining available appropriation authority as follows:

The unencumbered balance is the amount of resources that can still be oblig-ated or expended without exceeding the legal or authorized limit.

Encumbrances are recorded as follows:

Purchase Order (Encumbrance)

(1) Encumbrance (appropriately classified) 10,000Reserve for Encumbrance 10,000

To record an order for goods in the amount of $10,000.

Expenditures An expenditure is a decrease in fund resources or an increase infund liabilities that occurs when the vendor or supplier performs on a contract orpurchase order and goods or services are received. Expenditures are recognized inthe accounting period in which the fund liability is incurred, except for unmaturedinterest on long-term debt, which is recognized when due, and certain compensatedabsences and claims and judgments, which are recognized when obligations are

Appropriations - (Encumbrances + Expenditures) = Unencumbered balance


Fund Accounting 817

expected to be liquidated with expendable available resources. Thus, an expenditureand a corresponding liability or cash disbursement is recorded at the time goods orservices are received or at the time funds are granted to an authorized recipient.When the goods ordered in (1) above are received, the following entries are made:

Receipt of Goods (Expenditure)

(2) Expenditures (appropriately classified) 12,000Vouchers Payable 12,000

To record the receipt of goods invoiced at $12,000.

(3) Reserve for Encumbrance 10,000Encumbrance 10,000

To remove the encumbrance recorded in (1) for goods received and recorded as an expenditure in (2).

In this case, the goods cost $2,000 more than was estimated when the order wasplaced.

Disbursements Disbursements represent the payment of cash for expenditures.Such payments may precede the expenditure (an advance), coincide with the ex-penditure (a direct payment), or follow the expenditure (the payment of a liability).The payment for the goods purchased in (2) above is recorded as follows:

Payment of Goods

(4) Vouchers Payable 12,000Cash 12,000

To record payment of vouchers payable.

Encumbrances and expenditures are classified on the same basis (by fund, func-tion, organizational unit, activity, character, or object class) as appropriations. Theeffect on appropriation control of incorporating appropriations, encumbrances,and expenditures into the accounting records is demonstrated in Illustration 17-5for an imaginary budget line item number 103.

In Illustration 17-5, it is assumed that the appropriation for budget category 103is $50,000 and that the amount of expenditures in this category prior to the entriesillustrated above was $15,000. The effects of entries (1), (2), (3), and (4) on the sub-sidiary ledger card for budget category 103 are to reduce the unencumbered bal-ance by $12,000 (the amount of the actual expenditure). The most important thingto note is that at any particular time, information is available to administrators con-cerning their unexpended and uncommitted appropriation authority.

ILLUSTRATION 17-5

Subsidiary Ledger Control Card for One Budget Category

Function: Sanitation; Activity: Sanitary Sewer Cleaning; Object: Operating Supplies

(E)(D) Unencumbered

(A) (B) (C) Total BalanceBudget Line 103 Appropriation Encumbrance Expenditure (B) � (C) (A) � (D)

Prior Balance $50,000 $ — $15,000 $15,000 $35,000Purchase Order [entry (1)] 10,000 10,000 (10,000)Balance 50,000 10,000 15,000 25,000 25,000

—Expenditure [entries (2) & (3)] (10,000) 12,000 2,000 (2,000)Balance $50,000 $ — $27,000 $27,000 $23,000



Capital Expenditures In accounting for profit-oriented enterprises, capital ex-penditures are recorded as assets and are distinguished from expenses. The costs ofsuch assets are recognized in the operating statements (income statement) of suchenterprises through depreciation.

In accounting for an expendable fund entity, capital expenditures, like otherexpenditures, are treated as an outflow of financial resources. The assets acquireddo not represent expendable financial resources but rather reflect the purposes forwhich financial resources have been used. Thus, they are not recorded or reportedas assets of the fund entity. This treatment is consistent with the primary purpose offund accounting, which is to provide accounting control over the collection andexpenditure of financial resources and to assure that no violations of authorizedlimits on expenditures occur. The operating statements of expendable fund entitiesare therefore designed to reflect all the sources and uses of its financial resources.The position statement of the expendable fund entity is designed to present the sta-tus of its financial resources, the related liabilities, and the net financial resources avail-able for subsequent appropriation and expenditure. This emphasis on the statusand flow of net financial resources requires that capital expenditures be treated thesame as any other classification of expenditures and that they not be reflected as as-sets of the fund entity. This is not to say that controls are not maintained over fixedassets acquired by means of expendable fund resources. The organization estab-lishes records and controls beyond the records of the expendable fund entity.Accounting for and reporting on fixed assets is illustrated in Chapter 18 for gov-ernmental units and in Chapter 19 for nongovernment nonbusiness organizations.General capital assets are assets associated with and arising from governmentalactivities. Although they are not reported as assets in government funds, they are re-ported as assets in government-wide statements required under GASB Statement No. 34(illustrated in the next chapter).

Depreciation is not accounted for in the records of an expendable fund entityfor the same reason that fixed assets are excluded from the records of such entities.However, depreciation is recognized in the government-wide statement of assetsand statement of activities. As stated previously, expenditures, not expenses, aregenerally measured in accounting for expendable fund entities. Acquisitions offixed assets require the use of financial resources and are accounted for as expendi-tures. Proceeds from the sale of fixed assets provide financial resources and are ac-counted for as revenues. Depreciation expense is neither a source nor a use of thefinancial resources of an expendable fund entity, and thus is not properly recordedin the accounts of such entities. Inclusion of depreciation expense in the operatingstatement of an expendable fund entity would confuse two fundamentally differentmeasurements—expenditures and expense—and would result in misleading infer-ences relative to the operating activities of the expendable fund entity. This doesnot mean that the concept or measurement of depreciation is not important fromthe point of view of the organization as a whole. Indeed, if meaningful cost/benefitanalysis is to be attempted for a particular activity, the operating expenditures of theactivity must be adjusted for depreciation to determine total activity cost. For thisreason, depreciation expense is required on the government-wide statements (seeChapter 18). However, the primary objective of fund accounting is not to provide in-formation relative to the costs and benefits of activities but to control the collectionand expenditure of financial resources. Accounting for and reporting on deprecia-tion are further discussed in Chapter 18 for state and local governmental units andin Chapter 19 for nongovernment nonbusiness organizations.

LO7 Capitalexpenditures.


Fund Accounting 819

Recording Budgeted and Actual Revenue and Expenditures

Consider an expendable fund with a beginning balance of $100,000 in the fund bal-ance. For the year, revenues and appropriations for expenditures were estimated tobe $800,000 and $780,000, respectively. During the year, commitments for expendi-tures were $775,000 and revenues were $850,000. Notice that commitments werewithin the appropriation limit of $780,000 and that commitments were less than theexpected revenues. However, for the year, actual expenditures were $600,000.(These expenditures were related to $605,000 worth of commitments for expendi-tures.) The following six journal entries reflect the information recorded in thefund. The statement of changes in unreserved fund balance for the expendablefund entity are presented in Illustration 17-6.

(1) Estimated Revenue (classified) 800,000Appropriations (classified) 780,000Unreserved Fund Balance 20,000To record budgeted revenues and expenditures adopted by legislative body or governing board.

In the first journal entry, the difference between budgeted revenue ($800,000)and budgeted expenditures ($780,000 of appropriations) is recorded as an increaseor decrease in the unreserved fund balance ($20,000). In this case, since estimatedrevenues exceed estimated expenditures, the difference increases the fund balanceby $20,000.

(2) Receivables or Cash 850,000Revenue (classified) 850,000

To record revenues recognized during the year.(3) Encumbrances (classified) 775,000

Reserve for Encumbrances 775,000To record commitments made against appropriations ($775,000 is an assumed amount).

ILLUSTRATION 17-6

Condensed Financial Statements of Expendable Fund Entity

Balance Sheet—January 1, 2008

Net Financial Resources (Assets minus Liabilities) $100,000Fund Balance (Unreserved) $100,000

Statement of Changes in Unreserved Fund Balancefor Period Ended December 31, 2008

Actual OverBudget Actual (Under) Budget

Unreserved Fund Balance—1/1 $100,000 $100,000 $ 0Revenue 800,000 850,000 50,000

Total Resources Available $900,000 $950,000 $ 50,000

Appropriations 780,000Expenditures (current year) 600,000Encumbrances (outstanding at 12/31) 170,000

Total Resources Expended or Committed 780,000 770,000 (10,000)Unreserved Fund Balance—12/13 $120,000 $180,000 $60,000

Balance Sheet—December 31, 2008

Net Financial Resources (Assets minus Liabilities) $350,000

Fund BalanceUnreserved $180,000Reserved for Encumbrances (Outstanding Commitments) 170,000 $350,000



The second journal entry records the revenue recognized for the year. As com-mitments are made, encumbrances are recorded. The third journal entry recordsencumbrances. These amounts would then be posted to the various appropriationexpenditure subsidiary accounts. This posting provides information as to theamount of each appropriation category that remains available for encumbrance orexpenditure (see Illustration 17-5).

(4a) Expenditures (classified) 600,000Vouchers Payable or Cash 600,000

To record receipt of encumbered goods and services.(4b) Reserve for Encumbrances 605,000

Encumbrances 605,000To remove encumbrances on goods and services that have been recorded as expenditures ($605,000 is an assumed figure).

Two journal entries are required to record expenditures for goods or servicesthat have been previously encumbered. One entry is needed to record the actual ex-penditure amount and one entry is needed to reverse the encumbrance made whenthe commitment was recorded. Since the amount expended will not necessarilyequal the amount encumbered, the dollar amounts in the two entries may not bethe same. The reversal of the encumbrance is for the amount of the original en-cumbrance, which is assumed to be $605,000 in this example. The amount of ex-penditure is for the approved invoice price of the goods or services received.

(5) Revenue 850,000Estimated Revenue 800,000Unreserved Fund Balance 50,000

To close budgeted and actual revenue accounts.

Two closing entries are needed. The first closing entry is used to close actualrevenues and estimated revenues against the unreserved fund balance. The excessof actual revenue over (under) budgeted revenue is recorded as an increase (de-crease) in the unreserved fund balance. (Note that all subsidiary revenue and ex-penditure accounts would also be closed.)

(6) Appropriations 780,000Expenditures 600,000Encumbrances ($775,000 � $605,000) 170,000Unreserved Fund Balance 10,000

To close appropriations, expenditures, and encumbrances accounts.

The second closing entry is to close the appropriations account against expen-ditures and the amount of outstanding commitments remaining in the encum-brance account. The excess of appropriations over (under) expenditures plus en-cumbrances is recorded as an increase (decrease) in the unreserved fund balance.The balance of encumbrances at year-end is matched against appropriations be-cause, although they are not expenditures, encumbrances do represent commit-ments made against the current year’s appropriations and therefore represent theuse of the appropriation authority of the current year. Notice that the balance in thereserve for encumbrance account is carried forward to the next year. The change inthe reserve for encumbrance account is equal to the amount closed for encum-brances in entry (6).


Fund Accounting 821

After entries (5) and (6) are posted, all account balances except assets, liabili-ties, the unreserved fund balance, and the reserve for encumbrances have beenclosed. The balances in the unreserved fund balance and reserve for encumbrancesaccounts may be calculated as follows:

Reserve for encumbrances—January 1, 2008 $ —0—Total amounts encumbered during 2008—entry (3) 775,000Total encumbrances expended—entry (4) (605,000)Reserve for encumbrances—December 31, 2008 $ 170,000Unreserved fund balance—January 1, 2008 $ 100,000Excess of estimated revenue over appropriations—entry (1) 20,000Excess of actual revenue over estimated revenue—entry (5) 50,000Excess of appropriations over expenditures and encumbrances—entry (6) 10,000Unreserved fund balance—December 31, 2008 $ 180,000

The $ 170,000 balance in the reserve for encumbrances account at December31, 2008, represents the estimated amount of the net financial resources of the fundentity needed in the next year to pay the obligations authorized in the current year’sappropriation. Thus, it represents a restriction on the availability of fund resourcesfor future appropriation rather than a liability and is properly considered as a re-served portion of the total fund balance. The concept that the year-end balance inthe Reserve for Encumbrances account is in reality a reserved fund balance wouldperhaps be clearer if an analysis of the change in the total fund balance were pre-sented in the following form:

Total fund balance—January 1 $ 100,000Add actual revenue 850,000Deduct actual expenditures (600,000)Total fund balance—December 31 350,000Less amount reserved for commitments (170,000)Unreserved fund balance—December 31 $ 180,000

Note that the increase in the total fund balance ($100,000 to $350,000, or$250,000 in this example) is always equal to the excess of actual revenues ($850,000;inflows of net financial resources) over actual expenditures ($600,000; outflows ofnet financial resources).

In the next year, the balance of the reserve for encumbrances will be charged bymeans of a separate expenditures account with the actual expenditures arising fromthe year-end commitments that are incurred in the subsequent year. A differencebetween the amount encumbered at the end of the year and the actual amount ofthe related expenditures that are incurred in the subsequent year is debited or cred-ited to the unreserved fund balance.

Suppose that in the next year, the fund incurs $160,000 of expenditures onthese commitments. The entries to record the expenditures would be:

Expenditures—2008 160,000Cash 160,000

There is not a second entry to reverse the encumbrance account, since the en-cumbrance account for 2008 was closed at the end of 2008. Thus at the end of 2009,this expenditure account is closed against the reserve for encumbrances account of$170,000. This closing entry is:

Reserve for encumbrance—2008 170,000Expenditure—2008 160,000Unreserved fund balance 10,000



Lapsing of Appropriations

The treatment illustrated in this chapter for encumbrances outstanding at the endof the period was based on the assumption (and generally followed practice) thatencumbered appropriations do not lapse at the end of the fiscal year. It is possible,however, for the legislative body or governing board to impose a provision thatcauses unexpended appropriations to lapse at the end of the year. In this case, thereserve for encumbrances must be closed out at the end of the year, and if the en-cumbered items are to be purchased in the next year, the appropriation for the nextyear must contain authority for such expenditures.

If appropriations lapse, the closing entry for appropriations at the end of theyear takes the following form:

Reserve for Encumbrances 191,000Appropriations 1,744,000Expenditures 1,510,000Encumbrances 191,000Unreserved Fund Balance 234,000

The subsequent year’s appropriation should include authorization for the pur-chase of the encumbered items. Therefore, the reserve for encumbrances would bereestablished at the beginning of the next year by a debit to encumbrances, and sub-sequent expenditures for the items would be accounted for the same as any otherexpenditures in that year.

Comprehensive Illustration—General Fund

The General Fund of Model City is now used to illustrate the principles of fund ac-counting developed in this chapter.

The general fund of a municipality is used to account for most of the currentoperations of a municipality other than those required to be accounted for in other

LO8 Understandingthe general fund.

17.1

TEST YOUR KNOWLEDGE

NOTE: Solutions to Test Your Knowledge questions are found at the end of each chapterbefore the end-of-chapter questions.

Short Answer

1. On January 1, 2009, Stale City reported an unreserved fund balance of $50,000.During the year, estimated revenues were $400,000 and actual revenues were$425,000. Appropriations for the year were $350,000, while expenditures were$250,000 and encumbrances outstanding at December 31, 2009, were $80,000.Compute the unreserved fund balance at December 31, 2009.

In 2009, the U.S. will have its second “trillion-dollar deficit,” with 2008’s deficit beingthe first. However, the budget deficit for 2008 was officially reported as being $455billion. How is this possible? Just borrow money from the Social Security trust fund,record it as an “intragovernmental transfer” and exclude it from the calculation ofthe deficit. Corporate managers have gone to jail for less than this.10

17.1

10 WSJ, February 17, 2009, “A Short History of the National Debt” by John Gordon.

IN THE

NEWS

IN THE

NEWS


Fund Accounting 823

funds. It is established at the inception of the municipality and is continued as longas the municipality exists. A government never reports more than one general fund.Other government funds are established to account for specific municipality activi-ties, such as a capital projects fund to build new highways or a debt services fund toservice debt and interest payments. The general ledger trial balance of the GeneralFund of Model City on January 1, 2008, is as follows:

Model CityThe General Fund

General Ledger Trial BalanceJanuary 1, 2008

Cash $ 45,000Certificates of Deposit 100,000Property Tax Receivable 190,000

Total Debits $335,000Estimated Uncollectible Taxes $ 20,000Vouchers Payable 65,000Unreserved Fund Balance 95,000Reserve for Encumbrances—2007 155,000

Total Credits $335,000

The budget adopted by the City Council for the General Fund for the fiscal yearending December 31, 2008, is presented in summary form below.


2008 Fiscal-Year Budget

Estimated RevenueLicenses and Permits $ 188,250Property Tax 1,158,750State Grant—Education 300,000Charges for Services 135,000Proceeds from Sales of Equipment 78,000

Total $1,860,000Appropriations

Public Safety 516,000General Government 293,500Highways and Streets 135,500Sanitation 75,000Health 148,500Cultural—recreation 88,500Education 687,000

Total $1,944,000Excess of Appropriations over Estimated Revenue ($84,000)Transfer from Enterprise Fund 150,000Less Transfers to: Debt Service Fund (96,000)Excess (deficiency) of Revenue and Transfers from Other Funds

over Appropriations and Transfers to Other Funds ($30,000)

Summary entries to record the activities and transactions of the General Fundduring 2008 are presented below. Remember, each entry to these general ledger con-trol accounts also requires detailed postings by appropriate classifications to the re-lated subsidiary accounts. The assignment to specific subsidiary accounts of amountscredited to revenue or appropriations and of amounts debited to encumbrances, ex-penditures, or estimated revenue is shown in parentheses for these summary entries.



(1) Estimated Revenue 1,860,000Unreserved Fund Balance 84,000

Appropriations 1,944,000To record budgeted revenue and expenditures.

(2) Due from Enterprise Fund 150,000Transfers from Other Funds 150,000

To record authorization for transfer of resources from other fund entities incorporated in budget adopted by City Council.

For financial reporting purposes, transfers of resources from other fund entitiesof the same organization are distinguished from revenue of the recipient fundentity. Interfund transfers are properly recognized (accrued) in the period in whichthey are authorized. Control over authorized transfers from other fund entities maybe achieved by recording them as a receivable at the beginning of the year for whichthey are authorized (budgeted).

(3) Transfer to Other Funds 96,000Due to Debt Service Fund 96,000

To record authorization for transfer of resources to another fund entity incorpo-rated in budget adopted by city council.

Although authorized transfers to other fund entities may be viewed as appro-priation expenditures from the point of view of the General Fund entity, for pur-poses of financial reporting they are distinguished from expenditures. Control overauthorized transfers to other fund entities may be achieved by recording them as li-abilities at the beginning of the period for which they are authorized (budgeted).

(4) Property Tax Receivable 1,287,500Estimated Uncollectible Taxes 128,750Revenue 1,158,750

To record property taxes at time they are levied.

The estimate for uncollectible taxes is determined on the basis of collectionpolicy and prior years’ experience. It is recorded as a direct reduction of revenue,however, rather than as an expenditure, since the failure to collect taxes is not anoutflow of net financial resources. Accordingly, there is no appropriation for theamount of estimated uncollectible taxes and it is, therefore, properly accounted foras a reduction of revenue rather than as an expenditure.

(5) Other Receivables 80,000Revenue 80,000

To record billings for routine services.

(6) Expenditures—2007 148,000Vouchers Payable 148,000

To record receipt of goods and services ordered in 2007 and originally authorized for $155,000.

A separate expenditure control account (and subsidiary ledger) is used torecord expenditures during the current year that were encumbered (authorized) inthe prior year. At the end of the year, this expenditure account will be closed outagainst Reserve for Encumbrances—2007 and any difference taken to the unre-served fund balance [see entry (26) below].

(7) Encumbrances 1,291,000Reserve for Encumbrances—2008 1,291,000

To record encumbrances (commitments) on goods and services ordered during current year.


Fund Accounting 825

(8) Cash 1,281,000Property Tax Receivable 1,201,000Other Receivables 80,000

To record collection of $170,500 of property taxes levied in 2003 and $1,030,500 of property taxes levied in 2008, and to record collection of $80,000 in other receivables.

(9) Estimated Uncollectible Taxes 19,500Property Tax Receivable 19,500

To record write-off of uncollected 2003 property taxes authorized by City Council ($190,000 � $170,500 � $19,500).

(10) Cash 221,000Revenue 221,000

To record collection of licenses, permits, fees, service charges, etc.

(11) Expenditures 1,050,000Vouchers Payable 1,050,000

Reserve for Encumbrances—2008 1,100,000Encumbrances 1,100,000

To record receipt of goods and services that had been previously encumbered [entry (7) above] in the amount of $1,100,000.

(12) Expenditures 210,000Vouchers Payable 210,000

To record receipt of goods and services that had not been previously encumbered.

Not all expenditures go through the encumbrance process. Encumbrances areformally recognized in the accounts only when there is an extended period of timebetween the date the commitment is made and the date the expenditure is in-curred. For example, routine payroll expenditures are not encumbered.

(13) Receivable from State Government 275,000Revenue 275,000

To record municipal education grant authorized by state legislature.

The amount of revenue recognized is based on an approved grant applicationfiled with the Department of Education and is not dependent on the future perfor-mance of specific services or specified expenditures of financial resources.

(14) Encumbrances 250,000Reserve for Encumbrances—2008 250,000

To record a contract to acquire office furnishings and equipment.

(15) Cash 100,000Due from Enterprise Fund 100,000

To record receipt of a cash transfer from the Enterprise Fund.

(16) Expenditures 250,000Vouchers Payable 250,000

Reserve for Encumbrances—2008 250,000Encumbrances 250,000

To record receipt of office equipment and furnishings and to remove encumbrance.

Capital expenditures, like other expenditures, represent the approved utiliza-tion of the financial resources of the General Fund and therefore are recorded asexpenditures and not as assets in the records of the General Fund. However, generalcapital assets (and related depreciation expense) are required to be reported in thegovernment-wide financial statements.



(17) Vouchers Payable 1,650,000Cash 1,650,000

To record payment of liabilities.

(18) Cash 87,250Revenue 87,250

To record proceeds from sale of used furniture and equipment.

Since the proceeds from the sale of Model City assets constitute expendable fi-nancial resources, they are recorded as revenue by the recipient general fund.

Under GASB Statement No. 34, a government-wide Statement of Activities preparedon an accrual basis is required, in addition to the funds statements prepared on themodified accrual basis. One entry that is affected is the sale of an asset such as entry(18) above. The proceeds from the sale of an asset are not reported as revenue;instead the difference between the carrying value of the asset (after consideringdepreciation) and the cash received is reported as a gain or loss on the government-wide statement of activities.11

(19) Cash 275,000Receivable from State Government 275,000

To record collection of grant from state legislature.

(20) Due to Debt Service Fund 96,000Cash 96,000

To record authorized transfers of cash to other Model City fund entities.

(21) Certificates of Deposit 6,000Revenue 6,000

To record interest earned on certificates of deposit that has been reinvested in the certificates.

(22) Estimated Uncollectible Taxes 76,000Property Tax Receivable 76,000

To record write-off of 2008 property taxes authorized by City Council.

(23) Expenditures 200,000Cash (to internal service fund) 200,000

To record interfund services provided by the internal service fund.

Summary of Expendable Fund Entries

1. At the beginning of the period, estimated revenues are debited against appro-priations (estimated expenditures), with the difference recorded to UnreservedFund Balance.

2. At the beginning of the period, transfers to and from other funds are recordedagainst “due from” or “to other funds.”

3. During the period, revenues are recorded against an increase in assets (i.e.,against receivables, cash, etc.).

4. During the period, when the firm makes a commitment for goods or services,the account encumbrances is debited and reserve for encumbrances is credited.(Encumbrances are future expenditures.)

11 Governmental Accounting Standards Board (GASB), GASB Statement No. 34, “Basic Financial State-ments—and Management’s Discussion and Analysis—for State and Local Governments” (Norwalk, CT:June 1999).

IN THE

NEWS

IN THE

NEWS


Fund Accounting 827

5. During the period, when goods that have been ordered (and encumbered) arereceived or contracted services are performed, two entries are prepared:a. Expenditures are debited against a decrease in assets or an increase in liabil-

ities. This may or may not equal the amount of the original encumbrance.b. When the expenditure is recorded, the entry to record the encumbrance (item

4 above) is reversed. (This may or may not be equal to the actual expenditure.)Therefore, the amount remaining in the reserve for encumbrances representsthe amount of funds that have been committed in the current period, but thatare expected to be paid in the next period.

6. Purchases of capital assets are recorded in the same manner as any expenditure.An expenditure is debited and either cash or a liability is credited.

7. Gross proceeds from the sale of capital assets are recorded as revenues.

In 2004, GASB issued Statement 45, “Accounting and Financial Reporting for Post-Employment Benefits Other Than Pensions” (OPEB). This statement requires that localgovernments report OPEB on an accrual basis rather than on a “pay-as-you-go” basis.OPEB might include such health benefits (including spouses) as dental, vision, orlife insurance. The dollar amount of the liability included on the financial statementscan be incredibly significant and underlies the potential cost to local governments.For instance, in one extreme example, for the city of Duluth, this liability amountedto $180 million, which was twice the total annual budget of the city.12

Preclosing Trial Balance The transactions summarized in the journal entriesabove are reflected in the December 31, 2008, general ledger trial balance for theGeneral Fund of Model City presented below.


General Ledger Trial BalanceDecember 31, 2008

Dr. Cr.

Cash $ 63,250Certificates of Deposit 106,000Property Taxes Receivable 181,000Due from Enterprise Fund 50,000Estimated Revenue 1,860,000Expenditures 1,710,000Encumbrances 191,000Transfers to Other Funds (debt service) 96,000Expenditures—2007 148,000Estimated Uncollectible Taxes $ 53,250Vouchers Payable 73,000Unreserved Fund Balance 11,000Reserve for Encumbrances 191,000Reserve for Encumbrances—2007 155,000Appropriations 1,944,000Revenue 1,828,000Transfer from Other Funds (enterprise fund) 150,000

Total $4,405,250 $4,405,250

IN THE

NEWS

IN THE

NEWS

12 FedGazette, Federal Reserve Bank of Minneapolis, May 2006.



Closing Entries December 31, 2008, closing entries for the General Fund areas follows:

(24) Unreserved Fund Balance 32,000Revenue 1,828,000

Estimated Revenue 1,860,000To close out actual and budgeted revenue accounts.

(25) Appropriations 1,944,000Expenditures (for 2008) 1,710,000Encumbrances 191,000Unreserved Fund Balance 43,000

To close out appropriations and current year’s expenditures and encumbrances accounts.

Note that the reserve for encumbrances also has a credit balance of $191,000.

(26) Reserve for Encumbrances—2007 155,000Expenditures—2007 148,000Unreserved Fund Balance 7,000

To close out expenditures for goods and services orderedand encumbered in prior year. See entry (6).

(27) Transfers from Other Funds 150,000Unreserved Fund Balance 54,000Transfers to Other Funds 96,000

To close out interfund transfers to the unreserved fund balance.

Summary of Closing Entries for Expendable Funds

1. Revenues are closed against estimated revenues. The difference is recorded inunreserved fund balance.

2. Recall that appropriations are approved expenditures for the year. Appropri-ations are closed against expenditures (actual for the current year) and en-cumbrances (current year commitments). Any difference is reported in theunreserved fund balance. Recall that the expenditures made for prior year’sencumbrances are closed against the reverse for encumbrances for that spe-cific year.

3. Transfers to and from other funds are closed against the unreserved fundbalance.

Financial Statements

The two basic statements prepared for expendable fund entities are (1) a balancesheet and (2) a statement of revenue, expenditures, and changes in fund balance.Revenue should be classified by major sources and expenditures by major functionsin the statement of revenue, expenditures, and changes in fund balance. In addi-tion, comparative information for the prior year should be presented both in thatstatement and in the balance sheet. For the general fund, these statements are pre-sented in Illustrations 17-7 and 17-8.


Fund Accounting 829

ILLUSTRATION 17-7

Model City

The General Fund

Balance Sheet

December 31, 2008 and 2007

Assets 2008 2007

Cash $ 63,250 $ 45,000Certificate of Deposit 106,000 100,000Property Tax Receivable (less allowance for uncollectible

amounts, 2008—$53,250; 2007—$20,000) 127,750 170,000Due from Other Funds 50,000 —

Total $347,000 $315,000

Liabilities and Fund Balance

Vouchers Payable $ 73,000 $ 65,000Fund Balance

Unreserved 83,000 95,000Reserved for Encumbrances 191,000 155,000

Total Fund Balance 274,000 250,000Total Liabilities and Fund Balances $347,000 $315,000

LLUSTRATION 17-8

Statement of Revenues, Expenditures, and Changes in Fund Balance

The General Fund

for Years Ended December 31, 2008, and December 31, 2007

2008 2007

RevenuesProperty Taxes 1,158,750 1,105,000Licenses and Permits 170,500 175,000State Grant—education 275,000 250,000Charges for Services 130,500 130,000Interest 6,000 —

Total Revenue 1,740,750 1,660,000

ExpendituresPublic Safety 480,000 360,000General Government 289,000 175,000Highways and Streets 128,000 130,000Sanitation 70,000 71,000Health 141,000 132,000Cultural—recreation 80,000 82,000Education 670,000 640,000

Total Expenditures 1,858,000 1,590,000Excess (deficiency) of Revenues over Expenditures (117,250) 70,000

Other Financing Sources (Uses)Operating Transfers In—Enterprise Fund 150,000 —Operating Transfers Out—Debt Service Fund (96,000) (60,000)

Total Other 54,000 (60,000)

Special ItemsProceeds from Sales of Equipment 87,250 —

Net Change in Fund Balance 24,000 10,000Fund Balance—Beginning 250,000 240,000Fund Balance—Ending 274,000 250,000


For budgetary fund entities, a financial statement that compares budgeted andactual operating results should also be prepared. Budgeted comparison statementsshould be presented as required supplementary information (RSI). The purposeof budgetary comparison reporting is to show whether resources were obtainedand used in accordance with the entity’s legally adopted budget. Since amountsencumbered (encumbrances) against the current year’s appropriation authority(budget) must be treated in the same manner as expenditures in budgeted state-ments, the “actual” data may be different from those presented in accordance withgenerally accepted accounting principles in the statement of revenue, expendi-tures, and other changes in fund balance. In that case, the difference between thebudgetary basis and generally accepted accounting principles should be explainedin the notes to the financial statements. An example of the Budgetary ComparisonSchedule is shown in Illustration 17-9 and the Budget-to-GAAP Reconciliationschedule is shown in Illustration 17-10.

Analysis of the Financial Statements The balance sheet of the General Fund canbe used to assess the short-term financing needs of the government and perhaps theability to meet these needs. In Illustration 17-7, note that total assets equal $347,000and that payables related to expenditures are $73,000. However, the fund balance iscomposed of $191,000 in the reserve for encumbrances. This is the amount of thefund balance set aside for commitments made by the government prior to the endof the year. Thus only $83,000 is available for general purposes for the next year($347,000 � 73,000 � 191,000 � $83,000).

The statement of revenues, expenditures, and changes in fund balance (Illus-tration 17-8) focuses on cash and other current resources that flow in and out of thegovernment. Both revenues and expenditures are listed by function. Approximately66.5% of revenues come from property taxes. The largest expenditure is due toeducation, which comprises about 36% of total expenditures.

Note that even though the fund balance increased during the year, expendi-tures exceeded revenues by $117,250. After considering other transfers and fi-nancing sources, you can see that the deficit is still $63,250. The only reason thatthe fund balance increased during the year is because the government soldequipment. Is this a cause for concern? Keep in mind that the timing of cashflows is very important for these statements. Recall that purchased assets are ex-penditures and that these purchases may be financed from activities in previousyears.


ACCOUNTING AND FINANCIAL REPORTING FOR POLLUTION REMEDIATION OBLIGATIONS

GASB Statement No. 49 requires that a government report a liability related to pollution re-mediation under five key circumstances. The standard requires that information about pol-lution clean-up efforts be disclosed in the financial statements along with the liabilities, ex-penses, and expenditures which are estimated using an “expected cash flows” measurementtechnique. According to GASB Chairman Robert Attmore: “Today’s proposal intends to im-prove financial reporting by fostering more transparent and more consistent accounting thatencourages comparability.”*

* GASB News Release 1/31/06.


831

ILLUSTRATION 17-9

Model City

Budgetary Comparison Schedule

General Fund

for the Year Ended December 31, 2008

Budgeted Amounts Variance withActual Final Budget

Original Final Amounts Favorable (Unfavorable)

Budgetary Fund Balance, January 1 $ 250,000 $ 250,000 $ 250,000 —ResourcesProperty Tax 1,158,750 1,158,750 1,158,750 —Licenses and Permits 190,000 188,250 170,500 (17,750)Grants 300,000 300,000 275,000 (25,000)Charges for Services 131,000 135,000 130,500 (4,500)Sale of Equipment 83,000 78,000 87,250 9,250Interest 6,000 6,000 6,000 —Transfers from Other Funds 150,000 150,000 150,000 —

Amounts Available for Appropriations $2,268,750 $2,266,000 $2,228,000 $(38,000)

Charges to AppropriationsPublic Safety 510,000 516,000 480,000 36,000General Government 290,000 293,500 289,000 4,500Highways and Streets 135,000 135,500 128,000 7,500Sanitation 73,000 75,000 70,000 5,000Health 140,000 148,500 141,000 7,500Cultural—recreation 90,000 88,500 80,000 8,500Education 690,000 687,000 670,000 17,000Transfers to Other Funds 96,000 96,000 96,000 —

Total Charges to Appropriations 2,024,000 2,040,000 1,954,000 86,000Budgetary Fund Balance, December 31 $ 244,750 $ 226,000 $ 274,000 $ 48,000

ILLUSTRATION 17-10

Model City

Budgetary Comparison Schedule

Budget-to-GAAP Reconciliation

General Fund

Sources/inflows of resources:Actual amounts (budgetary basis) “available for appropriation” from the

Budget to Actual Comparison Statement (see Illustration 17-9) $2,228,000

Differences—budget to GAAPThe fund balance at the beginning of the year is a budgetary resource

and is not a current year revenue for financial reporting purposes (250,000)Transfers from other funds are inflows of budgetary resources but are

not revenues for financial reporting purposes (150,000)The proceeds from the sale of equipment are budgetary resources but

are regarded as a special item, rather than revenue, for financialreporting purposes (87,250)

Total revenues as reported on the Statement of Revenues, Expenditures,and Changes in Fund Balances—General Fund (see Illustration 17-8) $1,740,750

Uses/outflows of resources:Actual amounts (budgetary basis) total charges to appropriation from

the Budget to Actual Comparison Statement (see Illustration 17-9) $1,954,000

Differences—budget to GAAPTransfers to other funds are outflows of budgetary resources but are not

expenditures for financial reporting purposes (96,000)Total expenditures as reported on the Statement of Revenues,

Expenditures, and Changes in Fund Balance—General Fund(See Illustration 17-8) $1,858,000



REPORTING INVENTORY AND PREPAYMENTS IN THE FINANCIAL STATEMENTS

Inventory

There are two methods of accounting for and reporting inventory in the financialstatements of expendable fund entities: the consumption method and the purchasesmethod. Under GASB Statement No. 34, the consumption method is consistent withthe government-wide approach, and the purchases method is not acceptable. Bothare acceptable for fund purposes, however, and are illustrated here. Under the con-sumption method, inventory is considered to be a financial resource (asset), andexpenditures for inventory are reported on the operating statement in the periodin which the inventory is used. Under the purchases method, inventory is not con-sidered to be a financial resource (asset) and expenditures are recognized in the pe-riod the inventory is purchased whether it is used or not.

To illustrate, assume that $20,000 in inventory is on hand at the beginning of theperiod, that $50,000 in inventory is purchased during the period, and that inventoryat the end of the period is $24,000. Entries under each method are as follows:

Consumption Method Purchases Method

When Purchased: Expenditures 50,000 Expenditures 50,000Cash 50,000 Cash 50,000

End of Year: Inventory 4,000 NO ENTRYExpenditures 4,000

The entry at the end of the year under the consumption method adjusts the in-ventory account from its beginning of year balance, $20,000, to the correct endinginventory amount, $24,000. If inventory decreases, expenditures would be debitedand inventory credited. Under this method, inventories are automatically reportedas an asset in the financial statements. As compared to the purchases method, thecurrent year’s financial statements prepared under the consumption method reflect$4,000 less expenditures and result in a $ 24,000 larger fund balance.

Reserve for Inventory

Purchases Method Material amounts of inventory should be disclosed in the fi-nancial statements either by footnote or by reporting an asset in the balance sheetwith a contra account (Reserve for Inventory) reported as part of the total fund bal-ance. To illustrate the reporting of inventory as both an asset and an expenditureunder the purchases method, assume that the balance sheet at the beginning of theperiod was as shown here:

Inventory $ 20,000Other Financial Resources (net) 400,000

Net Assets $420,000

Fund BalanceReserve for Inventory $ 20,000Unreserved Fund Balance 400,000Total Fund Balance $420,000

LO9 Consumptionand purchasesMethods.


Reporting Inventory and Prepayments in the Financial Statements 833

In addition to the purchases method entry illustrated above, another entry isnecessary at the end of the year to record the $4,000 increase in inventory as follows:

Purchases Method

End of Year

Inventory 4,000Reserve for Inventory 4,000

If inventory decreases, Reserve for Inventory is debited and Inventory is cred-ited. Assuming net financial resources (excluding inventory) increase by $100,000during the period, the amounts that would be reported in the balance sheet at theend of the period are as follows:

Inventory $ 24,000Other Financial Resources (net) 500,000

Net Assets $524,000

Fund BalanceReserve for Inventory $ 24,000Unreserved Fund Balance 500,000Total Fund Balance $524,000

When a reserve for inventory is created under the purchases method, the amountsreported for inventory and the total fund balance are the same as those reported un-der the consumption method. However, the amount of expenditures reported in theoperating statement will still differ (in this case by $4,000).

Consumption Method In some cases it is considered desirable to both (1) use theconsumption method and (2) report a reserve for inventory. If the consumptionmethod is used, the reserve for inventory is created and adjusted by debiting orcrediting the “unreserved fund balance.” For example, using the above illustrationand assuming the balance in Reserve for Inventory was $20,000 at the beginning ofthe year, another entry in addition to those illustrated under the consumptionmethod above would be made at the end of the year as follows:

Consumption Method

End of Year

Unreserved Fund Balance 4,000Reserve for Inventory 4,000

Prepayments

Prepayments for items such as insurance or rent that cover more than one account-ing period may also be reported using the consumption or purchases methods. Un-der the purchases method the cost is reported as an expenditure in the period whenthe insurance premium or rent is paid without regard to the period benefited(there is no allocation among accounting periods). Under the consumptionmethod, a prepaid asset would be recorded and expenditures reduced to the extentthat the premium or rent payment is for a subsequent period.



According to a University of Tennessee study, the state of Tennessee lost $34 millionin 1999 in tax revenue to e-commerce. The reason? Sales tax is not collected onmost Internet sales, and Tennessee (currently with no state income tax) is amongthose states that rely heavily upon sales tax revenue. Although both Congress andPresident Clinton have been reluctant to take any steps toward inhibiting thegrowth of e-commerce, many believe that the Internet tax panel shouldrecommend an approach to Congress that ensures that states get what they areentitled to in tax revenue.13

GASB STATEMENT No. 56, “CODIFICATION OF ACCOUNTING AND FINANCIAL REPORTING GUIDANCE CONTAINED IN THE AICPA STATEMENTS ON AUDITING STANDARDS”

The GASB issued Statement No. 56 in 2009 to incorporate into its authoritative literature certainaccounting and financial reporting guidance presented in the AICPA’s Statements on AuditingStandards. This statement addresses three issues not included in the authoritative literature thatestablishes accounting principles—related party transactions, going concern considerations,and subsequent events. This statement did not establish new accouting standards but rather in-corporated the existing guidance (to the extent appropriate in a governmental environment)into the GASB standards. The goal of this statement was to improve financial reporting by con-tributing to the GASB’s efforts to codify all sources of GAAP for state and local governments sothat they derive from a single source, bringing the authoritative accounting and financial re-porting literature together in one place. The guidance was intended to be modified as neededto appropriately recognize the governmental environment and the needs of governmental fi-nancial statement users.

Unless otherwise specified, pronouncements of the GASB apply to financial reports of allstate and local governmental entities, including general purpose governments; public benefitcorporations and authorities; public employee retirement systems; and public utilities, hospi-tals and other healthcare providers, and colleges and universities.

13 The Leaf-Chronicle, “State Is Losing Out on Revenue,” by the editorial board of The Leaf-Chronicle,2/12/00, p. A6.

IN THE

NEWS

IN THE

NEWS

SUMMARY

1. Distinguish between a nonbusiness organization and aprofit-oriented enterprise. The primary goal of a profit-oriented enterprise is to earn a profit. Nonbusinessorganizations provide services based on socialneed. Persons who contribute to nonbusiness orga-nizations receive no equity in the organization anddo not necessarily benefit proportionally or at allfrom the services provided.

2. Explain the role of fund accounting. Resources re-ceived by nonbusiness organizations typically haverestrictions or are limited by use. In many cases,the nonbusiness organization has self-imposed re-strictions on the use of resources. In order to ac-count for these restrictions, nonbusiness organiza-tions use fund accounting. In essence, theorganization separates the assets, liabilities, and


Summary 835

residual equity into distinct funds organized forspecific objectives. Each fund is treated as a sepa-rate accounting entity consisting of a self-balancingset of books.

3. Distinguish among the concepts of revenues, expenses,and expenditures as used in profit-oriented entities andas used for expendable fund entities. Profit-orientedentities recognize revenues on an accrual basisand expenses using the matching principle. Ex-pendable fund entities typically treat any increasein financial resources as revenues, such as fromproperty taxes or sales of equipment (except debtissuances and transfers from other funds). Also,expendable funds treat any decrease in resourcesas an expenditure (except transfers to otherfunds).

4. Understand the classification of revenues and other re-source inflows for fund accounting. Revenues are clas-sified by source, such as property taxes, fines andpenalties, and licenses and permits.

5. Understand the classification of expenditures and other re-source outflows for fund accounting. Expenditures areclassified by function, by activity, by organizationalunit, by object, or by character (nature of the item).For government-wide reporting, the statement ofactivities classifies expenses by function.

6. Describe the critical events in the use of financial re-sources of an expendable fund. Before resources canbe spent, they must follow a series of events. First,the amount must be authorized (appropriated) byproper authorities. Second, since the amountsspent cannot exceed the appropriations, when apurchase order is placed (or a contract is signed),an encumbrance is recorded against a reserve for encumbrance. Any unencumbered balance

indicates the amount of resources not yet commit-ted. When a contract is performed or a service re-ceived, an expenditure is recorded and the en-cumbrance and the reserve for encumbrance arereduced. At year-end, appropriations, encum-brances, and expenditures are closed to fund bal-ance. The reserve for encumbrances carries overto the next period.

7. Explain how capital expenditures are recorded in an ex-pendable fund. In profit-oriented firms, capital ex-penditures are recorded as assets and depreciatedover their useful lives. In an expendable fund, capi-tal expenditures are treated as expenditures (as anoutflow of resources), but are not depreciated.Funds are set up to properly account for the sourceand use of resources during a particular period andto ensure that the fund does not spend more thanits limit (appropriation).

8. Understand the role of a general fund. The generalfund is used to account for all externally unrestrictedfinancial resources. In other words, the generalfund is used to account for all resources that havenot been set aside for specific activities. Funds typi-cally divide governments into categories based onthe restrictions of the resources.

9. Contrast the consumption and the purchases methods ofaccounting for inventories (and other prepaid items).The consumption method treats inventory as an as-set until used, while the purchases method treats allinventory purchases as expenditures of the period.Therefore, inventory is not recorded on the bal-ance sheet if the purchases method is used. Bothmethods are acceptable for fund purposes, but inthe government-wide statements, only the con-sumption method is acceptable.

TEST YOUR KNOWLEDGE SOLUTION

Beginning unreserved fund balance $ 50,000

Excess of estimated revenue over appropriations 50,000

Excess of actual revenue over estimated revenue 25,000

Excess of appropriations over expenditures and encumbrances 20,000

Unreserved fund balance—December 31 $145,000



APPENDIX

City of Atlanta Partial Financial Statements

City of Atlanta, GeorgiaStatement of Revenues, Expenditures, and Changes in Fund Balances

Governmental Fundsfor the Year Ended December 31, 2004

General Other Total(in thousands) Fund Governmental Governmental

Funds Funds

RevenuesProperty taxes $147,597 $ 45,330 $192,927Local option sales taxes 83,518 83,518Public utility, alcoholic beverage & other taxes 106,449 106,449Licenses & permits 54,327 54,327

City of Atlanta, GeorgiaBalance Sheet

Governmental FundsDecember 31, 2004


Funds Funds

AssetsCash and cash equivalents $ 181 $ 29,525 $ 29,706Investments 104,943 254,549 359,492Receivables 38,071 4,456 42,527Due from other governments 7,848 7,848Due from others 64,573 2,697 67,270Investments in escrow 22,026 4,304 26,330Total Assets $229,794 $303,379 $533,173

Liabilities and Fund BalancesLiabilitiesAccounts payable $ 8,617 $ 2,447 $ 11,064Accrued liabilities 10,410 421 10,831Other 448 448Due to other funds 48,123 34,209 82,332Deferred revenue 4,942 1,378 6,320Total Liabilities $72,092 $38,903 $110,995

Fund Balances (Deficit)Reserved for:

Encumbrances $ 6,353 $ 39,394 $ 45,747Special programs 69,511 69,511Capital improvements 139,431 139,431Debt service 37,556 37,556

Unreserved:General fund 151,349 151,349Other funds (21,416) (21,416)

Total Fund Balances $157,702 $264,476 $422,178

Total Liabilities and Fund Balances $229,794 $303,379 $533,173


Questions 837

Charges for current services 8,894 15,867 24,761Fines, forfeitures & penalties 1,112 17,392 18,504Investment income 1,985 2,949 4,934Intergovernmental revenues & contributions 542 48,650 49,192Building rentals & concessions 10,394 10,394Other 1,689 7,968 9,657Total Revenues $416,507 $138,156 $554,663

ExpendituresCurrentGeneral government $ 57,047 $ 55,832 $112,879Police 138,765 4,193 142,958Fire 60,794 217 61,011Corrections 34,355 928 35,283Public Works 26,951 7,555 34,506Parks, Recreation & Cultural Affairs 24,365 8,641 33,006Nondepartmentals 39,440 20,708 60,148Capital Outlays 15,330 15,330Debt Service:

Principal payments 4,500 8,848 13,348Interest payments 4,417 21,229 25,646Bond issue costs 31 31

Total Expenditures $390,634 $143,512 $534,146

Excess (deficiency) of revenues over expenditures $ 25,873 $ (5,356) $ 20,517

Other Financing Sources (Uses)Proceeds from long-term debt $ 3,053 $ 55,500 $ 58,553Premium on bonds sold 3,576 3,576Transfers in (out) 10,851 (7,529) 3,322

Net change in fund balances $ 39,777 $ 46,191 $ 85,968Fund Balance—Beginning of the year 117,925 218,285 336,210Fund Balance—End of Year $157,702 $264,476 $422,178


Funds Funds

1. What characteristics distinguish nonbusiness or-ganizations from profit-oriented enterprises?

2. Define a fund as the term is applied in account-ing for the activities of governmental units andother nonbusiness organizations.

3. What is the significance of the “unreserved fundbalance” of an expendable fund entity?

4. What are the major classifications of increasesand decreases in expendable fund resources?

5. What are the revenue-recognition criteria for ex-pendable fund entities? How do these criteriadiffer from revenue-recognition criteria forprofit-oriented enterprises?

6. Expenditures may be classified by function, ac-tivity, object, or organizational unit. Give an ex-ample of each classification for a municipality.Which classification is the most appropriate forexternal financial reporting?

QUESTIONS

(The letter A indicated for a question, exercise, or problem refers to the appendix.)

LO1 LO3

LO5

LO2

LO5LO4

LO6



7. Distinguish between an appropriation, an en-cumbrance, an expenditure, and a disburse-ment.

8. Distinguish between an expense and an expen-diture.

9. Explain and justify the difference between thetreatment of estimated uncollectible taxes infund accounting and the treatment of estimatedbad debts in commercial accounting.

10. Explain the purposes of encumbrance account-ing. Might encumbrance accounting be used bycommercial enterprises?

11. Is the year-end balance in the Reserve for En-cumbrances account a liability? Explain.

12. What columns would you suggest for a subsidiaryledger account in order that it might be a sub-sidiary not only to the “appropriations” controlaccount but also the “encumbrances” and the“expenditures” control accounts?

13. Why is depreciation on fixed assets not recordedin the records of expendable fund entities?

14. How does the adoption of a budget for a generalfund entity differ from the adoption of a budgetby a commercial unit?

15. Describe the principal financial statements usedto report on the activities and status of expend-able fund entities.

16. Why may it be difficult or impossible for a gov-ernmental unit to determine the total cost ofperforming a particular activity or function?

Business EthicsAt State College, where football has long reigned asking and fans are near fanatical in their attendance, thefrenzy for football tickets has recently reached an all-time high. With requests for home game tickets at anunprecedented level, prices on everything from park-ing passes to hotel rooms to home rentals have soaredbeyond belief. Parking passes were going for $500 oneBay, and hotel rates have doubled—and in some casesnearly tripled—reaching as high as $650 per night atsome hotels.

1. What are the moral or ethical issues in chargingwhat people will pay for rooms and tickets to at-tend a State College football game?

2. Why not let the economic forces of supply and de-mand determine prices in our capitalistic system?

LO3

LO3

LO3

LO6

LO6

LO6

LO7

LO8

LO8

LO5

ANALYZING FINANCIAL STATEMENTS (AFS)

AFS 17-1 Balance SheetIn the appendix to this chapter, the balance sheet for the General Fund for the City of Atlantais reported.1. How is the format used on the balance sheet for the general fund different from the for-

mat used by for-profit organizations? Which categories of the balance sheet seem to bemissing for government funds?

2. What is the largest asset reported in the General Fund? Is this surprising?3. For the General Fund, the reserve for encumbrances is $6,353 (thousand). What does this

balance represent?

AFS 17-2 Statement of Revenues, Expenditures, and Changes in Fund BalancesIn the appendix to this chapter, the Statement of Revenues, Expenditures, and Changes inFund Balances for the General Fund for the City of Atlanta is reported.1. How is the format used on the Statement of Revenues, Expenditures, and Changes in

Fund Balances for the general fund different from the format on Income Statementsused by for-profit organizations? Which items appear on the government fund’s state-ments that do not appear on Income Statements used by for-profit companies?

2. What is the largest expenditure of the General Fund on the Statement of Revenues,Expenditures, and Changes in Fund Balances?

3. What is the largest source of revenue for the General Fund on the Statement of Revenues,Expenditures, and Changes in Fund Balances?

4. Evaluate the performance of the General Fund using the Statement of Revenues, Expen-ditures, and Changes in Fund Balances.


Exercises 839

EXERCISES

EXERCISE 17-1 General Fund Journal EntriesSeveral independent financial activities of a governmental unit are given below.1. Revenue from the sale of licenses and permits for the first two months totaled $15,000.2. Land that had been donated previously was sold for $100,000.3. An order was placed for the purchase of a new fire engine at a price of $130,000.4. Bonds with a face value of $500,000 were issued at par value to finance a new park.5. A $250,000 grant was received from the federal government to help improve the local

schools.6. The new fire engine was received and accepted. The approved price, however, was

$140,000 rather than $130,000.

Required:Prepare the journal entries needed to account for each transaction in the General Fund.

EXERCISE 17-2 General Fund Journal EntriesListed are typical financial activities of a local governmental unit.1. The legislative unit approved the budget for the general operating fund. Estimated rev-

enues are $4,000,000, and appropriations for expenditures are $3,800,000.2. Statements of property tax assessments totaling $3,000,000 were mailed to property own-

ers. It is estimated that 4% of the assessed taxes will be uncollectible.3. Notification was received from the state that this unit’s share of sales tax revenues from

the fourth quarter of the previous year will be $500,000.4. The manager signed a contract to purchase equipment costing $250,000.5. The equipment ordered above was received and paid for.6. Employees were paid their biweekly wages of $36,000.7. Property taxes in the amount of $2,050,000 were collected.

Required:Prepare the necessary journal entries to record the transactions listed above in the records ofthe General Fund.

EXERCISE 17-3 General Fund Journal EntriesListed are transactions of the Town of Jackson.1. A budget consisting of estimated revenues of $1,950,000 and appropriations for expendi-

tures of $1,800,000 was passed by the town council.2. Property taxes of $1,150,000 were assessed; $1,115,000 are expected to be collectible.3. Property taxes in the amount of $1,080,000 were collected.4. Equipment costing $200,000 was purchased, and the old equipment was sold at the end

of its estimated useful life for $24,000.5. A contract was signed with an independent company to do the trash collecting for the

year. The contract price was $96,000.6. The first monthly bill of $8,000 was received from the trash collector.7. The $8,000 bill was paid.

Required:Prepare the journal entries needed in the records of the General Fund to account for thesetransactions.

LO8

LO8

LO8



EXERCISE 17-4 General Fund Closing EntriesFollowing is the preclosing trial balance for the General Fund of the City of Doyle.

Doyle CityThe General Fund


Cash $ 400,000Certificates of Deposit 350,000Due from State Government 112,000Due from Other Funds 30,000Taxes Receivable 774,000Estimated Revenue 3,110,000Expenditures 1,960,000Encumbrances 734,000Transfers to Other Funds 90,000Expenditures—2008 55,000Estimated Uncollectible Taxes $ 30,000Vouchers Payable 64,000Due to Other Funds 27,000Unreserved Fund Balance 760,000Reserve for Encumbrances 734,000Reserve for Encumbrances—2008 50,000Appropriations 2,700,000Revenue 3,210,000Transfers from Other Funds 40,000

$7,615,000 $7,615,000

Required:Prepare in general journal form the closing entries for the General Fund of Doyle City.

EXERCISE 17-5 General Fund Closing EntriesThe preclosing trial balance for the General Fund of the City of Springfield is presented below.

City of SpringfieldThe General Fund


Cash $ 90,000Certificates of Deposit 120,000Property Taxes Receivable 175,000Estimated Revenue 1,690,000Expenditures 1,310,000Expenditures—2007 32,000Encumbrances 165,000Estimated Uncollectible Taxes $ 51,000Vouchers Payable 65,000Unreserved Fund Balance 41,000Reserve for Encumbrances 165,000Reserve for Encumbrances—2007 35,000Appropriations 1,550,000Revenue 1,675,000

$3,582,000 $3,582,000

Required:Prepare the closing entries for the General Fund.

LO8

LO8


Exercises 841

EXERCISE 17-6 Accounting for SuppliesIn 2008, Bay City purchased supplies valued at $350,000. At the end of the year, $65,000 of thesupplies were still in the inventory. No supplies were on hand at the beginning of the year.The city uses the purchases method to account for supplies.

Required:

A. Prepare the journal entry necessary to report the supplies as an asset in the balance sheetof Bay City.

B. What amount of expenditures for supplies will be shown in the statement of revenues, ex-penditures, and changes in fund balance?

EXERCISE 17-7 Purchases versus Consumption MethodsAt the beginning of 2008, the City of Fairview reported an Unreserved Fund Balance of $555,000and a supplies inventory balance of $175,000. During the year, Fairview purchased $225,000 insupplies and used $220,000 worth. The city will report a reserve for supplies inventory.

Required:

A. Prepare the necessary journal entries under the purchases method.B. Prepare the journal entries needed to account for the supplies under the consumption

method.C. What would the 12/31/08 balance in the Unreserved Fund Balance be under each

method, assuming that the only transactions of the fund are those involving the supplies?

EXERCISE 17-8 Journal EntriesDuring 2008, the City of Greenfield engaged in the following financial activities:1. The City Council approved the budget for the general operating fund. The budget shows

estimated revenues of $1,900,000 and appropriations for expenditures of $1,850,000.2. Property tax assessments for 2008 were compiled and statements mailed to property own-

ers. Assessments total $955,000. Past collection experience indicates that approximately5% of assessed property taxes are delinquent or uncollectible during the year of billing.

3. A low bid of $15,000 was accepted for a new vehicle for the fire chief. A purchase orderwas issued providing for additional costs for painting and ancillary equipment (negoti-ated after the bid) prior to delivery. The estimate of additional costs is $1,400.

4. Additional purchase orders placed during the year amount to $140,000.5. City employees are issued paychecks for the month of April. The total payroll amounts to

$90,000.6. The City received a statement from the State Treasurer that the City’s portion of the state

sales tax for the first half-year is $375,000.7. Vouchers for expenditures totaling $135,000 are approved for payment. Encumbrances

against these vouchers were recorded at a total of $137,000.8. The vehicle for the fire chief was delivered and accepted. The invoice in the amount of

$16,200 was approved for payment.9. Property tax collections for the month of June amounted to $450,000.

10. The City Treasurer issued checks in payment of the vouchers totaling $135,000 and forthe invoice for the fire chief’s vehicle.

11. A purchase order previously issued for an electric typewriter (estimated price $650) wascanceled when the vendor indicated a three-month delay in delivery.

Required:Prepare journal entries to record and account for the foregoing transactions.

LO9

LO9

LO8



EXERCISE 17-9 General Fund Journal EntriesThe following events relate typical activities in a municipality that affect the General Fund.1. The Meadville City Council passed an ordinance approving a general operating budget of

$580,000 for fiscal year 2008. The city’s only source of revenue is from property taxes. For2001, these revenues are estimated at $565,000.

2. A property tax levy of $1 per $100 assessed valuation (total assessed valuation equals$60,000,000) is billed to property owners. Taxes are due in the current fiscal year. Experi-ence indicates that 3% of taxes billed will be uncollectible.

3. A motorcycle for the Department of Public Safety is ordered by the purchasing depart-ment on the basis of a low bid of $4,200.

4. The motorcycle in (3) above is received and the invoice is approved for payment. Extraaccessories not included in the bid price amount to $425.

5. Salaries and wages in the amount of $20,000 are paid by check to city employees for thetwo-week period ending on May 15.

6. The property division sold used typewriters and other office equipment at a public auc-tion. Total receipts were $8,225.

7. Property taxes in the amount of $540,000 were collected.

Required:Prepare the necessary journal entries to record each event in the accounts of the General Fund.

EXERCISE 17-10 Multiple ChoiceSelect the best answer for each of the following items:1. When used in fund accounting, the term “fund” usually refers to

(a) A sum of money designated for a special purpose.(b) A liability to other governmental units.(c) The equity of a municipality in its own assets.(d) A fiscal and accounting entity having a set of self-balancing accounts.

2. Authority granted by a legislative body to make expenditures and to incur obligationsduring a fiscal year is the definition of an(a) Appropriation.(b) Authorization.(c) Encumbrance.(d) Expenditure.

3. What type of account is used to earmark the fund balance to liquidate the contingentobligations of goods ordered but not yet received?(a) Appropriations.(b) Encumbrances.(c) Obligations.(d) Reserve for encumbrances.

4. A city’s General Fund budget for the forthcoming fiscal year shows estimated revenues inexcess of appropriations. The initial effect of recording this will result in an increase in(a) Taxes receivable.(b) Fund balance.(c) Reserve for encumbrances.(d) Encumbrances.

5. The Reserve for Encumbrances account is properly considered to be a(a) Current liability if payable within a year; otherwise, a long-term debt.(b) Fixed liability.(c) Floating debt.(d) Reservation of the fund’s equity.

LO8

LO2 LO6 LO8 LO9


Problems 843

6. In preparing the General Fund budget of Dover City for the forthcoming fiscal year, theCity Council appropriated a sum greater than expected revenues. This action of theCouncil will result in(a) A cash overdraft during that fiscal year.(b) An increase in encumbrances by the end of that fiscal year.(c) A decrease in the fund balance.(d) A necessity for compensatory offsetting action in the Debt Service Fund.

7. What would be the effect on the General Fund balance in the current fiscal year of record-ing a $150,000 purchase for a new fire truck out of General Fund resources, for which a$146,000 encumbrance had been recorded in the General Fund in the previous fiscal year?(a) Reduce the General Fund balance by $150,000.(b) Reduce the General Fund balance by $146,000.(c) Reduce the General Fund balance by $4,000.(d) Have no effect on the General Fund balance. (AICPA adapted)

PROBLEMS

PROBLEM 17-1 Journal Entries, Closing Entries, and Trial BalanceThe general ledger trial balance of the General Fund of the City of Bedford on January 1,2008, shows the following:

Dr. Cr.

Cash $100,000Taxes Receivable 75,000Allowance for Uncollectible Taxes $ 35,000Unreserved Fund Balance 110,000Reserve for Encumbrances—2007 30,000

Total $175,000 $175,000

A summary of activities and transactions for the General Fund during 2008 is presented here:1. The City Council adopted a budget for the General Fund with estimated revenues of

$1,560,000 and authorization for appropriated expenditures of $1,400,000. The budgetauthorized the transfer of $50,000 from the Water Fund to the General Fund for operat-ing expenses as a payment in lieu of taxes. Cash for the payment of interest due for theyear on the $1,000,000, 8% bond issue for the Civic Center is approved for transfer fromthe General Fund to the Debt Service Fund.

2. The annual property tax levy of 10% on assessed valuation ($11,000,000) is billed to prop-erty owners. Two percent is estimated to be uncollectible.

3. Goods and services amounting to $1,150,000 were ordered during the year.4. Invoices for all goods ordered in 2007 amounting to $29,000 were approved for payment.5. Funds for bond interest on Civic Center bonds were transferred to the Debt Service Fund.6. Invoices for goods and services received during the year totaling $1,155,000 were

recorded. These were encumbered previously [see (3) above].7. Transfer of funds from the Water Company was received in lieu of taxes.8. Taxes were collected from property owners in the amount of $1,050,000.9. Past-due tax bills of $17,000 were charged off as uncollectible.

10. Checks in payment of invoices for goods and services ordered in 2007 and 2008 wereissued [see items (4) and (6) above].

11. Revenues received from miscellaneous sources, other than property taxes, of $455,000were recorded.

12. Purchase order for two trash collection vehicle systems complete with residence trashcontainers for automatic pickup of trash was issued. Bid price per system was $120,000.

LO8



Required:

A. Prepare journal entries to record the summary transactions. You may find it necessary orconvenient to post journal entries to ledger t-accounts before the preparation of the re-quired trial balances.

B. Prepare a preclosing trial balance.C. Prepare closing entries.D. Prepare a postclosing trial balance.

PROBLEM 17-2 Unreserved Fund Balance—Adjusting and Closing EntriesThe following account balances, among others, were included in the preclosing trial balanceof the General Fund of the City of Lynchburg on December 31, 2009.

Estimated Revenue $630,000Expenditures 468,000Encumbrances 120,000Expenditures—2008 43,000Reserve for Encumbrances (Note 1) 162,000Appropriations 672,000Revenue 696,000Reserve for Supplies Inventory (Note 2) 72,000Supplies Inventory (Note 2) 72,000Unreserved Fund Balance 24,000

Note 1: The balance in this account was $42,000 on January 1, 2009.Purchase orders outstanding on December 31, 2009, total $120,000.Note 2: Supplies on hand on December 31, 2009, amount to $60,000.

Required:

A. What was the balance in the Unreserved Fund Balance account on December 31, 2008?What was the total Fund Balance on December 31, 2008?

B. Prepare the necessary adjusting and closing entries for the year ended December 31,2009. Supplies inventory is accounted for using the purchases method.

C. Prepare a schedule to calculate the Unreserved Fund Balance and the total Fund Balanceon December 31, 2009.

PROBLEM 17-3 Computing Unreserved Fund Balance and Closing EntriesThe following account balances, among others, were included in the preclosing trial balanceof the General Fund of the City of Madison on December 31, 2009.

Appropriations $3,488,000Cash 270,000Due to Other Funds 100,000Due from Other Funds 250,000Encumbrances 382,000Estimated Revenue 3,720,000Expenditures 3,020,000Expenditures—2008 296,000Reserve for Encumbrances 382,000Reserve for Encumbrances—2008 310,000Revenue 3,656,000Taxes Receivable 600,000Transfers from Other Funds 300,000Transfers to Other Funds 520,000Unreserved Fund Balance 422,000Vouchers Payable 400,000

Required:

A. Prepare the necessary closing entries on December 31, 2009.

LO6

LO6


Problems 845

B. Calculate the amount of both the unreserved fund balance and the total fund balance inthe balance sheet (1) on December 31, 2008 and (2) on December 31, 2009.

C. Prepare a schedule reconciling the December 31, 2008, total fund balance with the De-cember 31, 2009, total fund balance by reference to actual inflows and outflows of finan-cial resources.

PROBLEM 17-4 Entries, Balance Sheet, Statement of Revenues, Expenditures, and Changes in Fund BalanceThe trial balance for the General Fund of the City of Monte Vista as of December 31, 2008, ispresented here:

Debit Credit

Cash $300,000Supplies Inventory 75,000Unreserved Fund Balance $300,000Reserve for Supplies Inventory 75,000

$375,000 $375,000

Transactions of the General Fund for the year ended December 31, 2009, are summarized asfollows:1. The City Council adopted the following budget for 2009:

Estimated revenue $1,600,000Transfer from trust fund 50,000Appropriations 1,530,000Transfer to debt service fund 80,000

2. Property taxes of $1,500,000 were levied, of which it is estimated that $30,000 will not becollected.

3. Purchase orders in the amount of $1,400,000 were placed with suppliers and othervendors.

4. Property taxes in the amount of $1,450,000 were collected.5. Cash was received from the Trust Fund in the amount of $50,000.6. Invoices in the amount of $1,380,000 were approved for payment. The amount originally

encumbered for these invoices was $1,360,000. The invoices included $25,000 net oftrade-in allowance for the purchase of a new minicomputer and $400,000 for supplies.The City received a trade-in-allowance of $4,000 on its old minicomputer, which had beenpurchased three years earlier for $16,000. At the time the old minicomputer was pur-chased, it was estimated that it would have a useful life of four years. The new minicom-puter is expected to last at least six years. The City of Monte Vista uses the purchasemethod to account for supplies inventory.

7. Licenses and fees in the amount of $48,000 were collected.8. Vouchers in the amount of $1,300,000 were paid.9. Cash in the amount of $80,000 was transferred to the Debt Service Fund.

10. Supplies on hand at the end of the year amount to $100,000.

Required:

A. Prepare entries in general journal form to record the transactions of the General Fundfor the year ended December 31, 2009.

B. Prepare a preclosing trial balance for the General Fund as of December 31, 2009.C. Prepare the necessary closing entries for the General Fund for the year ended December

31, 2009.D. Prepare a balance sheet and a statement of revenues, expenditures, and changes in fund

balance for the General Fund for the year ended December 31, 2009.

LO8



PROBLEM 17-5 Balance Sheet, Statement of Revenues, Expenditures, and Changes in Fund BalanceThe trial balance for the General Fund of the City of Fairfield as of December 31, 2008, ispresented here:

City of FairfieldThe General Fund

Adjusted Trial BalanceDecember 31, 2008

Debit Credit

Cash $430,000Property Tax Receivable 45,000Estimated Uncollectible Taxes $ 20,000Due from Trust Fund 50,000Vouchers Payable 60,000Reserve for Encumbrances 30,000Unreserved Fund Balance 415,000

$525,000 $525,000

Transactions for the year ended December 31, 2009, are summarized as follows:1. The City Council adopted a budget for the year with estimated revenue of $735,000 and

appropriations of $700,000.2. Property taxes in the amount of $590,000 were levied for the current year. It is estimated

that $24,000 of the taxes levied will prove to be uncollectible.3. Proceeds from the sale of equipment in the amount of $35,000 were received by the Gen-

eral Fund. The equipment was purchased 10 years ago with resources of the GeneralFund at a cost of $150,000. On the date of purchase, it was estimated that the equipmenthad a useful life of 15 years.

4. Licenses and fees in the amount of $110,000 were collected.5. The total amount of encumbrances against fund resources for the year was $642,500.6. Vouchers in the amount of $455,000 were authorized for payment. This was $15,000 less

than the amount originally encumbered for these purchases.7. An invoice in the amount of $28,000 was received for goods ordered in 2008. The invoice

was approved for payment.8. Property taxes in the amount of $570,000 were collected.9. Vouchers in the amount of $475,000 were paid.

10. Fifty thousand dollars was transferred to the General Fund from the Trust Fund.11. The City Council authorized the write-off of $30,000 in uncollected property taxes.

Required:

A. Prepare entries in general journal form to record the transactions for the year endedDecember 31, 2009.

B. Prepare a preclosing trial balance for the General Fund as of December 31, 2009.C. Prepare the necessary closing entries for the year ended December 31, 2009.D. Prepare a balance sheet and a statement of revenues, expenditures, and changes in fund

balance for the General Fund for the year ended December 31, 2009.

PROBLEM 17-6 Balance Sheet, Statement of Revenues, Expenditures, and Changes in Fund Balance Hunnington Township’s adjusted trial balance for the General Fund at the close of its fiscalyear ended June 30, 2009, is presented here:

LO8

LO8


Problems 847

Hunnington TownshipGeneral Fund Trial Balance

June 30, 2009

Cash $ 11,000Property Tax Receivable—current (Note 1) 82,000Estimated Uncollectible Taxes—current $ 1,500Property Tax Receivable—delinquent 25,000Estimated Uncollectible Taxes—delinquent 16,500Accounts Receivable (Note 1) 40,000Allowance for Uncollectible Accounts 4,000Due from Internal Service Fund (Note 5) 50,000Expenditures (Note 2) 755,000Encumbrances 37,000Revenue (Note 3) 60,000Due to Enterprise Fund (Note 5) 10,000Vouchers Payable 20,000Reserve for Encumbrances—prior year 44,000Reserve for Encumbrances 37,000Surplus Receipts (Note 4) 7,000Appropriations 720,000Unreserved Fund Balance 80,000

$1,000,000 $1,000,000

Note 1: The current tax roll and accounts receivable, recorded on the accrual basis assources of revenue, amounted to $500,000 and $200,000, respectively.Note 2: Includes $42,500 paid during the fiscal year in settlement of all purchase or-ders outstanding at the beginning of the fiscal year.Note 3: Represents the difference between the budgeted (estimated) revenue of$700,000 and the actual revenue realized during the fiscal year.Note 4: Represents the proceeds from the sale of equipment damaged by fire. Theequipment originally cost $40,000 and had been held for 80% of its useful life priorto the fire.Note 5: The interfund payable and receivable resulted from cash advances (loans) toand from the respective funds.

Required:

A. Prepare a statement of revenues, expenditures, and changes in fund balance.B. Prepare a balance sheet for the General Fund at June 30, 2009. (AICPA adapted)

PROBLEM 17-7 Complete Accounting Cycle—General FundThe January 1, 2008, trial balance, the calendar-year 2008 budget, and the 2008 transactionsof the City of Roseburg are presented here:

City of RoseburgTrial Balance

January 1, 2008

Debit Credit

Cash $155,450Certificates of Deposit 200,000Accounts Receivable 28,675Supplied Inventory 37,600Due from Federal Government 58,000Property Taxes Receivable 75,600Allowance for Uncollectible Taxes $ 32,150Vouchers Payable 181,000Unreserved Fund Balance 226,075Reserve for Inventory 37,600Reserve for Encumbrances 78,500

$555,325 $555,325

LO8



City of RoseburgBudget for General Fund

Calendar Year 2008

Estimated RevenueCity vehicle and retail license fees $ 252,000Property taxes 1,448,000City sales tax 327,000Collections for trash service 153,000Sale of city-owned property 88,000

Total estimated revenue 2,268,000Appropriations

General government 261,000Public safety and security 875,000Health and welfare 434,000Recreation and parks 126,000Street maintenance 367,000Sanitation 162,000

Total appropriations 2,225,000Excess of Revenues over Appropriations 43,000Transfer from Water and Sewer Fund 118,000Less Payments (transfers) to Debt Service Funds (55,000)Excess of Revenue and Fund Transfers to

General Fund over Appropriations and FundTransfers out of General Fund $ 106,000

Transactions of the City of Roseburg that affected the General Fund during the year are sum-marized below:1. The City Council approved the budget and it was recorded.

2. Orders for goods and services were issued for a total of $1,202,000 during the year.

3. Goods and services were delivered against all orders placed with a total invoice amount of$1,165,600. Of this, $80,000 was for orders placed in the prior year.

4. The City accepted a low bid of $78,000 for a new street sweeper for the sanitation depart-ment. A purchase order was issued.

5. The City received $92,500 from the sale of an old street sweeper and one obsolete fire en-gine at public auction. The street sweeper cost $60,000 7 years ago, at which time it was es-timated to have a useful life of 10 years. The fire engine cost $200,000 8 years ago, atwhich time it was estimated to have a useful life of 12 years.

6. Property tax statements were issued. The tax levy was 8% of the assessed valuation of$18,500,000. An estimated 2% of the tax levy will be uncollectible.

7. Payment was received from the federal government. This was a grant to be used for up-grading sanitation department equipment.

8. The amount of $55,000 was transferred to the Debt Service Fund for the payment of in-terest on the outstanding bond issue.

9. The city billed residents for trash service. Total billings amounted to $155,675.

10. Property taxes totaling $1,438,455 were collected, of which $34,200 was past-due collec-tions from the prior year; $18,250 of past-due taxes was charged off as uncollectible.

11. Wages paid to employees during the year amounted to $998,765.

12. City retail establishments remitted a total of $333,650 in sales tax collections for theyear.


Problems 849

13. Other cash receipts during the year were:

Vehicle license fees and parking fines $ 98,682Retail license fees 130,000For trash services (including $28,675

due at end of prior year) 148,720Transfer from Water and Sewer Fund 118,000

14. Cash purchases of printed forms and other office supplies for the year amounted to$57,680.

15. The street sweeper was delivered and an invoice for $78,000 plus freight charges of $1,280was received. The invoice was approved for payment and a check issued.

16. Checks were issued in payment of outstanding vouchers totaling $1,207,100.17. End-of-year activities: (adjustments)

Supplies Inventory 12/31/08: $38,250Accrued interest on CDs at 5%

The city uses the purchases method to account for supplies expenditures.

Required:

A. Enter the opening trial balance data in t-accounts.B. Prepare journal entries for the year’s transactions. Do not include entries for year-end

adjustments. Post entries to t-accounts.C. Prepare a preclosing trial balance.

D. Prepare journal entries to adjust the Supplies Inventory and record the interest on the CDs.

E. Prepare journal entries to close the revenue, expenditures, and encumbrance accounts.

F. Prepare a comparative balance sheet for 2007–2008.

G. Prepare a statement of revenues, expenditures, and changes in fund balance for 2008.

PROBLEM 17-8 Reconstructing Journal EntriesThe following summary of transactions was taken from the accounts of the Madras SchoolDistrict General Fund before the books were closed for the fiscal year ended June 30, 2009:

Postclosing PreclosingBalances Balances

June 30, 2008 June 30, 2009

Cash $400,000 $ 700,000Property tax receivable 150,000 170,000Estimated uncollectible taxes (40,000) (70,000)Estimated revenue 3,000,000Expenditures 2,842,000Expenditures—prior yearEncumbrances 91,000

$510,000 $6,733,000

Vouchers payable $ 80,000 $ 408,000Due to other funds 210,000 142,000Reserve for encumbrances 60,000 91,000Unreserved fund balance 160,000 182,000Revenue from taxes 2,800,000Miscellaneous revenue 130,000Appropriations 2,980,000

$510,000 $6,733,000

LO8



Additional Information:

1. Property taxes in the amount of $2,870,000 were assessed for the year. Taxes collectedduring the year totaled $2,810,000.

2. An analysis of the transactions in the vouchers payable account for the year ended June30, 2009, follows:

Debit (Credit)

Current expenditures $(2,700,000)Expenditures for prior year (58,000)Vouchers for payment to other funds (210,000)Cash payments during year 2,640,000Net change $ (328,000)

3. During the year the General Fund was billed $142,000 for services performed on itsbehalf by other city funds.

4. On May 2, 2009, commitment documents were issued for the purchase of new textbooksat a cost of $91,000.

Required:On the basis of the data presented, reconstruct the original detailed journal entries that wererequired to record all transactions for the fiscal year ended June 30, 2009, including therecording of the current year’s budget. Do not prepare closing entries at June 30, 2009.

(AICPA adapted)


ch17

Documents

fund accounting concepts

role of fund accounting

general fund

expendable fund entities

financial gain

profitoriented entities

special districts

local governmental units