McGraw-Hill/Irwin

©2007, The McGraw-Hill Companies, All Rights Reserved

Essentials of Accounting for Governmental and Not-for-Profit

Organizations

Chapter 3: Budgetary Accounting for General and Special Revenue

Funds

3-2

Overview of Chapter 3

• Importance of budgets in government accounting

• Recording the budget in the accounts• Overview of property taxes• Interfund transactions and other financing

sources

3-3

Importance of Budgets

• Net income is NOT a good measure of government effectiveness– Excess of revenue over expenditure does

NOT mean success, but indicates whether the funds received are in excess of the funds expended

– Since the funds received are often the result of nonexchange transactions, Tax Revenues are not equivalent to Sales as a measure of success in the marketplace

3-4

What is the Budget?• A budget is a financial plan submitted to

the appropriate body for approval

• Once approved, budgets carry the status of law– When voted upon, an appropriation act

gives the legal authority to spend and generally sets the maximum limit for spending

3-5

Importance of Budget Reporting

• The primary means of financial control by the government is the budget– The financial report should answer the question

-- Did the government use its funds as promised?

– Budget amounts are incorporated in accounting records of the General Fund and special revenue funds to provide information that will keep spending within the legal limits

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Uses of Budgets

• Governments must adopt an annual budget• General funds and Special Revenue funds

will have separate budgets . Separate budgets are optional for other governmental funds and are not used for proprietary and fiduciary funds.

• Budgetary accounting principles are the same for any governmental type fund which adopts an annual budget

3-7

The General Process of Putting Together a Budget

• Plan the expected inflows– Project revenues based on past history, economic

models, etc

• Plan the expected outflows– Ask departments for their projected needs

• Balance the inflows and the outflows – Look for places to increase revenues or to cut spending

– Governments may also borrow or use accumulated surpluses to balance inflows and outflows

3-8

Budgetary Accounting - New Account Titles

• Estimated Revenues – Budgeted inflows -- debit balance

• Appropriations– Budgeted spending -- credit balance

• Encumbrances– Commitments (e.g. purchase orders) outstanding --

reminding ourselves we have entered a commitment for a future expenditure -- debit balance

• Reserve for Encumbrances– Restriction on fund balance -- credit balance

3-9

Recording the Budget

• Assume $1,000,000 of revenues are budget along with $950,000 of estimated expenditures– The budget entry would be

• Estimated Revenues 1,000,000 • Appropriations 950,000• Budgetary Fund Balance 50,000

• Alternatively, estimated revenues and appropriations could be recorded in separate entries

3-10

Incorporating Other Financing Sources and Uses in Budget Entry

• Assume a city budgets property tax revenues of $2,000,000; bond proceeds of $1,000,000; expenditures of $2,800,000; and a transfer to another fund of $100,000

• The budget entry would be Estimated Revenues 2,000,000

Estimated Other Financing Source 1,000,000

Appropriations 2,800,000

Estimated Other Financing Use 100,000

Budgetary Fund Balance 100,000

3-11

Why Record Encumbrances?

• In business accounting, orders are not entered into the general ledger

• Governments recognize that an outstanding order will turn into an expenditure and a liability when the goods arrive

• To prevent over-spending outstanding orders are entered into the books

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Recording Outstanding Orders• Place an order for $150,000 which consists of three

mini-buses costing $50,000 each. Recorded as:Encumbrances 150,000

Budgetary FB Res. for Encumb. 150,000

• Assume two of the buses arrive, but with freight, they cost $102,000 instead of $100,000.– First, reverse a part of the encumbrances:

Budg. FB Res. for Encumb. 100,000Encumbrances 100,000

– Second, record the actual amount of expenditure:Expenditure 102,000

Accounts Payable 102,000

3-13

Budget Revisions

• Budget revisions may be necessary during the year due to changes in revenue projections or operating conditions … for example, electricity price increases, decrease in sales taxes due to low consumer spending

• Budget revisions usually are taken back to the appropriate legislative body for approval, although some jurisdictions may allow some percentage of the budget to be transferred between accounts

3-14

Budgetary Comparison Schedule• Both the original and the final adjusted

budget is shown

• The revised appropriations are compared to the Actual Expenditures for the current period plus Outstanding Encumbrances

• A variance column is typically shown, but is optional

3-15

Budgetary Comparison Schedule

• The actual column should use the basis of accounting assumed in the budget. This may be different than GAAP basis

• Another schedule will reconcile the ‘actual’ figures on the budgetary vs. GAAP basis

3-16

Classification of Inflows and Outflows on Budget Schedule

• Revenues are classified by source– Where the money came from: taxes, licenses and

permits, charges for service, etc– May be subdivided further such as by type of tax,

sometimes shown in separate schedule

• Expenditures and Encumbrances may be classified by– function, program, department, activity, character,

or object

3-17

Outflow Classifications

• Examples of function: General government, public safety, streets and highways

• Public safety could be subdivided by department: Police and fire

• Police could be subdivided further by activity: Traffic and drug enforcement

• Activities in the traffic area could be divided into objects of expenditure: Policeman’s salary, gas for automobiles

• Character groupings are always: CURRENT, CAPITAL OUTLAY, and DEBT SERVICE

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Property/ad valorem Taxes• “Ad valorem” taxes are based on the

value of an underlying asset and are a major type of tax, particularly at the local government level

• All real property bought and sold is typically registered at the county courthouse and subject to property tax

• The tax is based on the tax rate, often expressed as a millage rate, times the assessed value

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Property Taxes: 60 Day Rule

• Under modified accrual accounting, property tax revenues may not exceed the amount received during a fiscal year plus the amount expected to be received during the first 60 days after the end of the fiscal year.

3-20

Millage and Assessed Value• A mill is

– 1/1000 of a dollar, or 1/10 of a penny– In other words, $.001 times some amount

• Appraised value– Is calculated based on size of home, lot, etc.– Ideally, should approximate market value

• Assessed value is usually less than appraised value … often around 20% of appraised value

3-21

Property Tax Calculation• Assume a home has an appraised value

of $100,000; 20% assessed value rate; tax rate is 45 mills

• Assessed value:$100,000 X .20 = $20,000

• Tax amount would be:45 mills X 20 thousands = $900

Or, $20,000 X .045 = $900

3-22

How Is the Millage Rate Set?• In some areas all property taxes are

subject to a direct vote

• In other areas the property tax is adjusted each year (subject to possible maximum amounts) to meet expenditure needs

• Illustration 3-5 presents a calculation to determine the property taxes needed to balance the budget