The Governmental Accounting Standards Board has issued a preliminary views document on accounting for pollution remediation obligations, and though the board hopes to hammer it into a proposed accounting standard by the end of the year, some are predicting a heated debate over an estimated cash flow technique for recording costs.

Though the PV document will not make America a cleaner place, GASB Chairman Robert Attmore says that the document's proposed requirement that governments move currently unrecorded liabilities onto the financial statement will give taxpayers, investors and other interested parties an important piece of information about a potentially very significant liability and a given government's general financial state.

Some governments may complain about the impact of such liabilities being moved to financial statements, but Eric S. Berman, deputy comptroller of Massachusetts, said that, in his opinion, the bigger controversy will be over the estimated cash flow technique of recording these contingent liabilities.

"There's going to be some heavy discussion," Berman said. "I don't like to say that something is so blown out of the water that it's not going to work. With time, money and ingenuity, anything is possible. In this case, it's going to take a little ingenuity to get through."

Currently, governments record these potential liabilities when payments become probable. The PV document proposes that once one of five obligating events occurs - such as being named as a responsible party by an environmental regulator - governments would record the potential liabilities as soon as their ranges become estimable. If a liability is seen as having, for example, a 10 percent probability of occurring, the government would record 10 percent of the estimated cost.

While GASB has no existing standard for pollution remediation, by default, governments have generally been following the guidance of the Financial Accounting Standards Board's Statement 5, "Accounting for Contingencies," which requires recognition only when the liability is considered probable, which is normally interpreted to mean that the probability of the cost actually occurring is more than 50 percent, and in many cases over 70 percent.

"This is a decent proposal," Berman said, speaking for himself, rather than for Massachusetts. "But it's a dramatic change of a quarter-century of accounting theory in the way that contingent liabilities are presented. That's going to take a lot for some accountants to swallow. FASB Statement 5 is one of the few pronouncements that have been adopted as Level One generally accepted accounting principles for governments. However, should this be enacted, GASB clearly can apply it to other areas as it moves toward a principles-based approach to standard-setting."

Berman also suggested that such a requirement to report remotely possible liabilities could hit legal obstacles. In the case of litigation, for example, a plaintiff in a pollution-related suit might claim that a government's recognition of a liability might imply recognition of guilt.

GASB project manager Wesley A. Galloway noted that the same concern over litigation exists under FASB Statement 5. "Even if a government records a probable contingency for a lawsuit, the liability is not an admission of guilt," Galloway said.

Overall, however, Berman said that the general concept and intent of the document is workable, though it is sure to bring out many opinions from government accountants and financial officers.

"This is a good start," he said of the suggestions in the document, "but it might be a while before you see final fruition."

Berman cited the case of GASB Statement 34, which instituted a new financial reporting model. Between 1992 and 1999, it evolved through various forms of proposal before being approved. Though the PV on pollution remediation is not as controversial as the reporting model, recognition of contingent liabilities is sensitive.

Berman agreed that if an estimable and verifiable liability does exist for a government, it should be presented in its financial reports. He also praised the way the document suggests allocation of liabilities in cases where remediation obligations fall on various entities.

"In today's litigious society," he said, "allocation of liability is important, as state and local government may not be the ultimate payee of last resort in the case of Superfund clean-ups."

GASB hopes to be able to issue a final statement by the third quarter of 2006.

Attmore welcomed all comments pro and con, and he fully expects that some of them will be opposed to the proposal. "This is the first time that GASB will have used this approach," he said. "It's not something we invented. The Financial Accounting Standards Board uses an expected cash flow technique in several of its newer standards."

While FASB does not use such a technique in Statement 5, it appears in statements and interpretations on asset retirement obligations, guarantees on the indebtedness of others, variable interest entities, and fair value.

Under the proposed guidance, the amount recognized would be larger than required under FASB Interpretation 14, "Reasonable Estimation of the Amount of a Loss."

While that interpretation requires the use of the lower end of a range of an estimated liability when an amount in the range is a better estimate than others, the expected cash flow calls for a weighted average of potential costs.

GASB technical director David Bean noted that the suggestion of using an estimated cash flow may be seen by some as a move away from Statement 5 in governmental accounting.

"We decided to start this project with a PV document because of the introduction of the expected cash flow technique," Bean said. "It could have implications for other kinds of liabilities in future standards, so we wanted to give our constituents ample opportunity to respond to the approach."

Galloway said that the board took on the project in part because governments were asking for more guidance. It was often unclear, Galloway said, how to apply a FASB Statement 5 notion to the remediation obligations of governmental entities.

Accounting for pollution

The document suggests a three-step process for recognizing pollution remediation obligations. It entails information that governments are already required to collect, and it does not in any way change clean-up requirements. It does not apply to pollution prevention or control obligations.

The recognition process begins with an event that triggers a requirement that a government determine whether components of expected remediation can be reasonably estimated and whether subsequent outlays should be accrued as a liability or, in limited circumstances, capitalized when goods and services are acquired.

Triggering events are the occurrence of imminent endangerments compelling a government to take remedial action, a violation of a license related to pollution prevention, evidence of impending litigation, being named a responsible party by a regulator, or voluntary commencement of remediation.

Outlays would be capitalized only if they will be incurred to prepare property for sale, or if the property was acquired with known pollution that had to be remediated, or if the outlays will be used to perform remediation that restores a pollution-caused decline in service utility that was recognized as an asset impairment.

Most outlays would, however, be accrued as a liability. If a government cannot reasonably estimate the range of all components of the liability, it would recognize a range for each component as they become estimable. Examples of components would include legal services, site investigation and post-remedial monitoring.

For pollution situations unfamiliar to the government, the GASB document proposes a series of recognition benchmarks that governments should consider when determining when components of remediation become estimable.

"You can consider the triggering events and the benchmarks as tempering factors," Bean said.

Attmore emphasized that GASB was not proposing any changes in pollution prevention or clean-ups.

"We are not asking people to go out and search for opportunities to remediate pollution," Attmore said. "This proposal doesn't make every financial officer a pollution detective."

The document also proposes that governments disclose the nature and source of the remediation obligations. Governments would also be required to disclose the nature of pollution remediation outlays that are not reasonably estimable.

The PV document is preliminary to work on an exposure draft of a proposed standard. Depending on the comments received on the PV, GASB hopes to issue an exposure draft by the fourth quarter of 2005.

The preliminary views document is available on the Web at Comments are requested by June 24. A public hearing will be held in San Antonio on June 29 in conjunction with the annual conference of the Government Finance Officers Association.

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