Financial Accounting:- Public Sector Accounting

 

OBJECTIVES

After studying this chapter, you should be able to:

•             List and explain the features of public sector accounting.

•             Explain the relevance of accounting concepts, basis and policies to public sector accounting.

•             Explain what fund accounting is and its relationship with entity theory.

•             Explain the different ways of income measurement and valuation in the public sector.

•             Prepare, analyze and interpret financial statements of government units.

•             Deal with accounts of state corporations and similar organizations.

INTRODUCTION

There is increasing demand for public accountability and transparency by all stakeholders in the Public Sector in Kenya. Revelations during the Public Accounts Committee (PAC) hearings and in the Auditor-General’s reports raise issues of financial accountability and transparency.

In the past, financial reporting by the Government has largely been seen as inadequate, government ministries/bodies do not provide understandable financial reports. The reports have been complex, confusing, and voluminous.

The preparation of transparent and understandable financial statements is an important way for Government departments/other agencies to demonstrate their accountability to citizens who fund them through taxes, as well as development partners.

DEFINITION OF KEY TERMS

1.        Stewardship - is personal responsibility for taking care of another person’s property or financial affairs or in religious orders taking care of finances.

2.        Transparency - is a management approach in which (ideally) all decision making is carried out publicly.

FEATURES OF PUBLIC SECTOR ACCOUNTING

International Public Sector Accounting Standards (IPSAS) are a set of high quality, independently developed, accounting standards aimed at meeting financial reporting needs of the
public sector.

IPSAS are developed by the International Public Sector Accounting Standard Board (IPSASB), which is an arm of the International Federation of Accountants (IFAC); the global organization for the accounting profession founded in 1977.

IFAC has 157 member bodies drawn from 122 countries. It represents 2.5 million accountants around the world. Transition to IPSAS as an accounting framework is designed to improve the quality and consistency of financial reporting, enhance transparency and accountability; facilitate better decision making, financial management and good governance in our entire public sector.

The above reform in financial reporting will mean that the Government will now be able to produce a consolidated set of general purpose financial statements — it will be interesting and encouraging seeing the Government’s consolidated financial statements just like those that companies listed on the Nairobi Stock Exchange prepare.

The International Public Sector Accounting Standards Board (IPSASB) focuses on the accounting and financial reporting needs of national, regional and local governments, related governmental agencies, and the constituencies they serve. It addresses these needs by issuing and promoting benchmark guidance and facilitating the exchange of information among accountants and those who work in the public sector or rely on its work. A key part of the IPSASB’s strategy is to converge the IPSASs with the International Financial Reporting Standards (IFRSs) issued by the

IASB. To facilitate this strategy, the IPSASB has developed guidelines or “rules of the road” for modifying IFRSs for application by public sector entities.

Members of the IPSASB are nominated by IFAC member bodies (like ICPAK) and, for public members, through nominations from member bodies, other organizations, and the general public.

Anne Owuor is Kenya nominee to the IPSASB; she became a member of the International Public Sector Accounting Standards Board in January 2008. She was nominated by the Institute of

Certified Public Accountants of Kenya (ICPAK).

The IPSASB’s objective, scope of activities and membership are set out in its Terms of Reference. They are also summarized in a fact sheet. The IPSASB’s Strategic and Operational Plan, 2007-2009 sets out the direction for the board in fulfilling these objectives.

Adoption and implementation of IPSAS is not a requirement for the Government or any of its entities, it is a best practice issue, IPSASB or even IFAC cannot enforce compliance.

FUND ACCOUNTING AND ITS RELATIONSHIP WITH ENTITY THEORY

FUND ACCOUNTING

Fund accounting serves any non-profit organization or the public sector. These organizations have a need for special reporting to financial statements users that show how money is spent, rather than how much profit was earned.

System used by nonprofit organizations, particularly governments. Because there is no profit motive, Accountability is measured instead of profitability. The main purpose is stewardship of financial resources received and expended in compliance with legal requirements. Financial reporting is directed at the public rather than investors.

The accounting equation is Assets = Restrictions on Assets.

Funds are established to ensure accountability and expenditure for designated purposes. Revenues must be raised and expended in accordance with special regulations and restrictions. Budgets are adopted and recorded in the accounts of the related fund. Contractual obligations are given effect in some funds.

ENTITY THEORY

View in which a business or other organization has a separate accountability of its own.

It is based on the equation:

Assets = Liabilities + Stockholders’ Equity

The entity theory considers liabilities as equities with different rights and legal standing in the business. Under the theory, assets, obligations, revenues, and expenses and other financial aspects of the business entity are accounted for separately from its owners. In other words, the company has an identity distinct from its owners or managers. The firm is viewed as an economic and legal unit.

Relationship Between entity and fund theory

Both the fund theory will focus on ensuring that assets availed to the entity in question are used appropriately (according to restriction). In the case of fund theory according restriction on assets (without having to make a profit), this will also be the case for entity theory only that in this theory it has to be for maximum profits within the restrictions.

FINANCIAL ACCOUNTING TECHNIQUES

Public sector organizations may adopt different accounting techniques; the most important being:-

1. BUDGETARY ACCOUNTING

Budgetary accounting is the preparation of operating accounts in form of budgets. A budget is a management plan that has been transformed into figures necessary to evaluate the achievement of the organization’s objectives.

Under budgetary accounting, the concept is based on the forecasted cash flows; ad operations must be limited to the budget estimates. The organization cannot spend above budget restrictions without parliamentary approval.

The executive branch of the government unit proposes the budget, the legislature branch reviews, modifies and enacts the budget and finally the executive branch implements the budget.

Budget accounting therefore aims to achieve the following:

a.        Ensure efficiency of managers.

b.        Communicate the objectives of the organization to the employees.

c.        Provide controls.

Provide a yardstick for measuring performance of employees.

2. CASH ACCOUNTING

Under this system only cash inflows and outflows are recognized and recorded. The system does not recognize any revenue or expenditure that has not been received or paid (i.e. accrued).

3. ACCRUALS ACCOUNTING

The accruals concept states that revenues and costs are recognized as they are earned and incurred. Most of the organizations in the private sector prefer this method. However, under public sector accounting, both cash and accruals accounting can be used by different entities or kinds of organizations e.g. if part of an organization is charged with the responsibility of running activities on the same basis as commercial organization s, such an entity may adopt accrual accounting irrespective of the accounting techniques adopted by the main organization.

4. COMMITMENT ACCOUNTING

This accounting system recognizes transactions when the organization is committed to them. It means the transaction is not recognized when cash is paid or received, nor when an invoice is received or issued, but at an early stage where orders are received and placed. This accounting method is meant to ensure that government units do not overspend because transactions will only be entered into after checking committed balances

5. FUND ACCOUNTING

An organization may be composed of various entity funds; each fund will have its own books of account as if it was completely independent from the whole organization

ANNUAL ACCOUNTS FOR GOVERNMENT

Every government unit will prepare financial statements to account for the money allocated to them. The financial statements differ according to the nature of the activities undertaken by the government unit. However the following types of accounts are common among government units:

1. INCOME AND EXPENDITURE ACCOUNTS

This is similar to income and expenditure accounts for nonprofit making organizations. It’s however prepared by government units, which provide commercial services e.g. a staff canteen or student’s welfare

2. STATEMENT OF ASSETS AND LIABILITIES

Just shows the assets and liabilities in the organization.

3. GENERAL ACCOUNTS OF VOTE (GAV)

During a budget speech, the Minister for Finance will give detailed appropriation (allocations) of funds to different governmental units. Through an appropriation bill, Parliament will approve different estimates to individual governmental units. The amount approved to each governmental unit by parliament is then recorded into a particular account known as “General Account of vote” (GAV). This account therefore records funds allocated to various governmental units.

4. THE EXCHEQUER ACCOUNT

All incomes of the government are received and recorded into an account called the “Exchequer account”. The total amount available in the exchequer represents the consolidated fund, i.e. the consolidated fund operates an account called exchequer

5. PAYMASTER GENERAL ACCOUNT (PMG)

The Paymaster General Account (PMG) is the cash account operated by the individual governmental units. It records amounts so far withdrawn from the exchequer.

6. APPROPRIATION- IN- AID (AIA)

AIA is the amount to be generated by the governmental unit from its internal activities. It is subtracted from the gross estimate (gross vote) to arrive at net estimate of (net vote) which is approved by parliament to be released from the consolidated fund. An AIA account may be maintained,

Where: when AIA is received from own operations:

DR	PMG Account
	CR AIA Account
At the year end
DR	AIA Account

	CR GAV Account

APPROPRIATION ACCOUNT

Shows the following in tabular form:

•             Approved estimates

•             Actual expenditure

•             Amounts under-spent

•             Amounts over-spent

REVENUE ACCOUNT

A revenue account records only the estimated revenue and actual revenue from each particular revenue source for the governmental unit. The difference between the two, if significant must be explained by the accounting officer. Alternatively the significant difference between two can be used to correct future estimations by the governmental unit. It could also represent new factors emerging during the year which were not taken into account during the previous budget.