Why Are Separate Accounting and Financial Reporting Standards Essential for Governments?
Separate accounting and financial reporting standards are essential because the needs of users of financial reports of governments and business enterprises differ. Due to their unique operating environment, governments have a responsibility to be accountable for the use of resources that is significantly different from business enterprises. Although businesses receive revenues from a voluntary exchange between a willing buyer and seller, governments obtain resources primarily from the involuntary payment of taxes. Taxes paid by an individual taxpayer often bear little direct relationship to the services received by that taxpayer. Overall, taxpayers collectively focus on assessing the value received from the resources they provide to government. Governmental accounting and financial reporting standards aim to address this need for public accountability information by helping stakeholders assess how public resources are acquired and used, whether 1 The term business enterprise is used to refer to private-sector entities organized for the purpose of earning profit.Business enterprises in the United States apply accounting pronouncements of the Financial Accounting Standards Board. Business enterprise does not refer to and should not be confused with business-type activities of governments.
Current resources were sufficient to meet current service costs or whether some costs were shifted to future taxpayers, and whether the government’s ability to provide services improved or deteriorated from the previous year.
The longevity of government and its role to maintain and enhance the well-being of citizens through the provision of public services also result in information demands that differ from those of business enterprises. For example, governments do not operate in a competitive marketplace,face virtually no threat of liquidation, and do not have equity owners. Consequently, information on fair values of capital assets is of limited value and measures of net income and earnings per share have no meaning to users of governmental financial reports. Instead, users need information to assess the government’s stewardship of public resources, including information toevaluate the manner and extent to which resources are devoted to specific services and the costsof providing those services. Users also need information to determine compliance with legally authorized spending authority. Creditors of both businesses and governments are interested in information on the ability to repaydebt. However, government creditors focus more oninformation regarding the government’s ongoing ability to raise taxes and thecosts of activities that could compete for those resources, rather than on information about how earnings aregenerated.
How Do Existing Accounting and Financial Reporting Standards Reflect the Different Needs of Stakeholders?
The needs of the users of governmental financial reports are reflected in differences in the components of the conceptual framework for accounting standards and in individual accounting standards. Although investors and creditors are important constituencies of every standardssetting organization, the Governmental Accounting Standards Board’s (GASB) conceptual
framework also places priority on addressing the informational needs of citizens and elected representatives, two constituencies not identified as users of business enterprise financial statements by the Financial Accounting Standards Board (FASB). Consequently, the GASB’sfinancial reporting objectives consider public accountability to be the cornerstone on which allother financial reporting objectives should be built.
Why Is There an Ongoing Need to Set Additional Governmental Accounting Standards?
Since its inception in 1984, the GASB has strived to meet the needs of the users of governmental financial reports by issuing a number of important standards. Although the GASB has made progress, the need to develop and improve accounting standards for governments still exists. For example, additional components of the conceptualframework, which enhances consistency in setting government standards, are still being addressed. In addition, there are many important types of transactions, such as those associated with derivatives and intangible assets, for whichthere are no existing standards or for which existing standards are not comprehensive. TheGASB’s research agenda also includes, for example, a project to address additional ways tocommunicate results of government activities. Finally, over time governments and thegovernmental environment continue to change, resulting in an ongoing need to update existing standards and to adopt new standards.
Introduction and Scope
From time to time, the question is raised as to why general purpose state and local governments (herein after referred to as “government”) cannot simply apply the same set of accounting standards that business enterprises2 apply. This paper explains why separate for governments and those for business enterprises using standards for governments issued overthe past twenty years, and explains why the process of standards setting for governments is an ongoing process.
In addition to providing greater detail about the questions in the Executive Summary, thispaper also presents several appendixes. Appendix A provides an expanded discussion of the environmental differences between governments and business enterprises. Appendix B provides additional examples of standards that illustrate the differences between governments and business enterprises and expands upon the discussion of examples presented in this paper.Appendix C provides a historical perspective on the development of governmental accounting standards. Appendix D provides details on the significance of state and local governments in the United States. A brief glossary of governmental accounting terms is also included and begins on page 33. Terms defined in the glossary are printed in boldface type when they first appear.
The scope of this paper is limited to comparing general purpose governments to business enterprises. From time to time, the issue arises as to whether separate accounting standards areneeded for other types of organizations, such as not-for-profit organizations. This paper neithersupports the existing method of standards setting for other organizations not covered in the scope of this paper nor suggests that standards for those organizations should be set separately.
Furthermore, governments in other countries may have different characteristics than governments in the United States; therefore, the paper does not address international differences.
Why Are Separate Accounting and Financial Reporting Standards Essential for Governments?
Accounting and financial reporting requirements focus on the needs of the users of financial reports. Citizens and their elected representatives, such as legislatures, and other oversight organizations, as well as creditors, are primary beneficiaries of the information in governmental financial reports. Financial reports of business enterprises generally are used by creditors and by equity investors and their regulators, but not by a type of stakeholder equivalent to citizens and their elected representatives.3 The needs of citizens and oversight organizationsemphasize accountability for resources entrusted to the government, and the needs of equity investors emphasize information necessary to make rational investment, credit, and similardecisions. Accountability, in a general sense, is a responsibility of stewards or agents to provide relevant and reliable information relating to resources under their control. For governments, accountability is the government’s responsibility to justify to its citizenry the raising of public revenues and to account for the use of those public resources. Accountability informationcan beused to support decision making, but it also fulfills the citizenry’s “right to know” how public resources have been spent.
Creditors are a type of user of both governmental and business enterprise financial reports. Although they are generally looking for assurance that sufficient cash flows will be available to meet debt service requirements, certain information they seek from governments andfrom business enterprises is different because the source of debt repayment is different. Creditorsand potential creditors of business enterprises seek information about how earnings are generated. Creditors and potential creditors of governments seek information about the ability and willingness to levy taxes to finance debt repayment and the costs and obligations of those activities that could compete for those resources.
Elected representatives, such as legislators, are considered external users of financial reports because in many cases these individuals do not have access to the same internal financial data as do officials in the executive branch.
Although certain types of information in business enterprise financial reports could satisfy some needs of certain governmental financial report users, other users require differentinformation. The accountability focus of governments and the broad range of sources of agovernment’s resources lead to the conclusion that ideally governmental financial report users should be able to find additional information that will help answer questions such as thefollowing:
- Did the government’s ability to provide services improve or deteriorate from the previous year?
- Were the government’s current-year taxes and other sources of resources sufficient to cover the cost of current-year services? Was part of the burden of paying for current services shifted to future-year taxpayers?
- How did the government finance its activities and meet its cash requirements? Does the government have the capacity to meet future obligations?
- What are the government’s spending priorities? What sources of resources support the various programs? Has the government obtained and used resources in accordance with its adopted budget and other legal requirements?
- What resources currently are available for future expenditures and to what extent areresources reserved or restricted for specified uses?
- Has the government provided its services in an efficient and effective manner? Major Environmental Differences between Government and Businesses The differing needs of the users of governmental and business enterprise financial reports reflect the different environments in which the organizations operate. Some of the principal environmental differences are:
Organizational Purposes. The purpose of government is to enhance or maintain the well-being of citizens by providing public services in accordance with public policy goals. Major public services provided by state and local governments include public safety, education,
health, and transportation. Among other reasons, government provides these services because the economic incentives are not sufficient for business to provide them at the quantity, quality, and price considered appropriate by public policy. Return on investment is not a goal for governments, so they need to develop and report other measures of accomplishment. Thepredominant business enterprise performance measures—net income and earnings per share—have no meaning in a governmental environment.Instead, governments focus on providing services and goods to constituents in an efficient, effective, economical, and sustainable manner.A government’s financial reports should give creditors, legislative and oversight officials, citizens, and other stakeholders the information necessary to make assessments and decisions relevant to their interests in the government’s accomplishment of its objectives.