The Governmental Accounting Standards Board decided Tuesday to add a project to its technical agenda to re-examine the financial reporting model for state and local governments.
The project aims to improve the model, particularly Statement No. 34, Basic Financial Statements—and Management’s Discussion and Analysis—for State and Local Governments, and several related pronouncements. Among other benefits, the improvements are intended to enhance the effectiveness of the model in providing information essential for decision-making and assessing a government’s accountability.
Statement 34, which was issued in 1999, established the current structure for state and local government financial reporting, including the format and measurement focus of the basic financial statements, certain related notes to the financial statements, and the required supplementary information, such as management’s discussion and analysis, or MD&A.
In addition, it introduced government-wide financial statements containing accrual information, which notably included the reporting of infrastructure, other capital assets, and long-term liabilities.
“GASB 34 established the current financial reporting model, and it really represents the core of governmental GAAP,” said GASB chairman David Vaudt in an interview with Accounting Today. “It established the blueprint for state and local government financial reporting in setting forth both the format and the measurement focus we use today. Our advisory council, the Governmental Accounting Standards Advisory Council, which is made up of stakeholders, has ranked the re-examination of the financial reporting model as the top priority over the last few years because it has high importance to all of our stakeholders—preparers, auditors and users.”
The re-examination will be guided by research the GASB staff has conducted over the past two years on how the financial reporting model is really functioning in practice.
“This topic was actually added to our pre-agenda research in 2013, and that research was recently completed,” said Vaudt. “The research really focused very heavily on stakeholder outreach. In 2013, we held nearly a dozen roundtables with approximately 150 preparers, auditors and users. The data that we gathered in those roundtables was then used to develop surveys—one for preparers, one for auditors, and one for users. In 2014, we received responses from 265 preparers, 164 auditors and 184 users. The survey data that we gathered was then used to conduct deeper-dive interviews with individuals, including preparers, auditors and users, and we did about 150 in-depth interviews. The results of all that pre-agenda research really showed that most components of the financial reporting model are effective. However, a number of areas were identified where improvements could be made.”
Potential Areas of Improvement
The project will consider a number of improvements to financial reporting model components, including:
• MD&A—explore options for enhancing the financial statement analysis component and clarify guidance for presenting currently known facts, decisions, or conditions expected to have a significant effect on financial position or results of operations.
• Government-Wide Financial Statements—explore alternatives for the format of the statement of activities and consider whether a government-wide statement of cash flows should be required and, if so, how those cash flows should be presented.
• Major Funds—explore options for providing additional information about debt service funds, either individually or in aggregate in the financial statements or the notes.
• Governmental Fund Financial Statements—explore a conceptually consistent measurement focus and basis of accounting and develop a related presentation format for governmental fund financial statements.
• Timeliness/Reducing Complexity—explore options that would permit more timely financial reporting or that would reduce complexity overall.
“The most fundamental issue of this project will be the measurement focus and the basis of accounting used by governmental funds,” said Vaudt. “The modified accrual basis of accounting is currently used, so we’ll explore ways there can be improvements in that area to provide a more conceptually sound approach, one that can be consistently applied across all governments so it’s a more consistent measure.”
In the area of government-wide financial statements, some users raised concerns about the format of the statement of activities, that is, the net cost approach.
“We’ll take a look to see if there’s a way to improve the presentation or format of the statement of activities, and we’ll also explore the possibility of a statement of cash flows on a government-wide basis to see if that would be useful,” said Vaudt.
In the realm of measurement fund reporting, the main gripe that GASB heard from its user group is that generally debt service funds don’t meet the major fund reporting requirements, and they would like debt service funds to be considered major funds.
“We’ll take a look at the possibilities of expanding the major fund guidance that will also include debt service funds,” said Vaudt.
In the area of MD&A, the main focus will be to see if GASB can make this section more meaningful.
“We’ll look at whether there are certain sections that maybe could be eliminated and then how we could enhance the guidance that we provide in other areas,” Vaudt explained. “For example, could we do better in providing guidance when it comes to describing changes from year to year? Concerns that we heard raised from the user group were that the why behind changes was often missing. There would be an explanation that it changed from X to Y from year to year, but no real explanation of why that change occurred. So we’ll be taking a look at ways that we can maybe enhance what’s given in the MD&A section to help users and readers of the financial statements.”
Throughout the whole project, a key part of GASB’s work will be to continually look for opportunities to reduce the complexity and length of the financial statements.
“One of the primary criticisms of government financial reporting is that they’re not available on a timely basis,” said Vaudt. “Throughout all of our work we’re going to keep a keen eye on appropriate changes that we can make to the financial reporting model that could positively impact the timeliness of government financial reports, so I think this could be a real positive impact of the process that we’re going through.”
GASB is likely to begin deliberations on the project next month and is expected to issue an initial due process document for public comment and feedback by the end of 2016.
The road to a final standard will probably take five or six years. “We’ll probably go through various due process documents,” said Vaudt. “The project timeline for this would be that there would not be a final statement until probably June of 2020 or June of 2021. We’ll go through a series of due process documents. We could start with an invitation to comment, or we could start with preliminary views, both of which would precede an exposure draft, which is where the board kind of solidifies around what a standard would look like. There will be multiple opportunities for stakeholders to participate, in addition to all of the research that they’ve already participated in.”
Vaudt expects to hear some disagreement over several of the proposed changes before they finally take effect. “Our stakeholder groups all have different perspectives,” he said. “It would be so easy if everybody all thought the same way, but they don’t. I will tell you that GASB 34 when it first came out was a very controversial project. But it’s been interesting as I’ve traveled the country, the main thing I hear is, ‘Oh no, you’re not going to touch the financial reporting model. Are you?’ Usually my response is, ‘By the time this becomes effective, you’ll be retired.’ People resist change. I’m sure we’ll hear lots of different things just because there are different views from stakeholders, but that’s the key—to hear from everybody and hopefully come up with the best solution.”
He anticipates there will be some people who will be very supportive of some changes, while other people won’t be ready to jump on board so soon. “There are always the stakeholder groups with the different perspectives, but what we try to do is listen to the broad group, listen to everyone and consider everyone’s position, and try to make the best selections from all the alternatives that are available,” said Vaudt.
Probably the most controversial proposal will be the one involving the governmental fund financial statements. “That’s going to include the most fundamental issue we’ll address in this project, which is the basis of accounting,” said Vaudt. “I think that will be the biggest decision the board will go through.”
In that area, GASB will be looking at possible alternatives to the current basis, which is modified accrual basis.
“There is no decision on that,” said Vaudt. “It’s just going to be exploring alternatives, to adjusting the modified accrual basis or looking at another basis of accounting. All those options will be on the table that we’ll be exploring with our stakeholder groups.”
Vaudt acknowledged that in the meetings with stakeholders so far, there have been some recommendations for improving the modified accrual basis, while there have been other recommendations to go to a full accrual. “Differing views from different stakeholders, so that’s why we’ll be taking a look at the various options that might be available that would enhance the current reporting that we’re doing.”
While the impact of the changes may be wide-ranging, Vaudt is skeptical that the new reporting model will improve state and local government budgeting and thereby avoid some of the sudden drastic budget cuts that were seen after the financial crisis.
“The budgeting basis is usually on a different basis, but I think these reports—especially to the extent that we continue to enhance what’s presented—will help them reach decisions on a more timely basis,” he said. “Hopefully we can make improvements, but obviously when it comes to a lot of the budgeting cutbacks, they’re usually on a different basis than what’s presented in some of the GAAP financial statements.”
The new model may help make it easier to audit financial statements of state and local governments. “One of the things that we’ll be looking at is the length and the complexity of the financial statements, and the length and the complexity definitely impact not only the preparer’s cost, but also the auditor’s cost,” said Vaudt. “To the extent that we can simplify and make the financial statements a little less complex and shorter, I think that will have some positive impact, so hopefully there will be some ways that a lot of people will benefit from the process.”
GASB’s new model might also help the federal government improve its often maligned financial reporting.
“I think the federal government is also talking a look at their reporting model, and we both look to each other’s standards as we set our standards,” said Vaudt. “As always, as we continue to make improvements, they’ll probably take a look at some of the things that we’re doing too. All of the standard setters try to leverage the work of the other boards and make sure that we work with each other. FASAB [the Federal Accounting Standards Advisory Board] at the federal level has been following our leases project and carefully considering what we’ve made for tentative decisions, so there’s good cooperation amongst the boards to leverage each other’s work.”
GASB’s revised model could also influence the work being done at its sister standard-setter, the Financial Accounting Standards Board, for financial reporting in the private sector.
“Russ [FASB chairman Russ Golden] and I work closely together and make sure that we consider what the other boards are doing,” said Vaudt. “Definitely we’ll be looking at some of the things they’ve been doing in the not-for-profit arena, and obviously in the business type activities, we’ll be looking to some of the for-profit standards. We do work closely together and leverage each other’s work.”
GASB will be keeping an eye on any changes that FASB makes in its recent proposals for changes in nonprofit accounting standards. “We’ll definitely be looking to what they’re doing there and how they modify based upon the input that they get,” said Vaudt. “Wherever there are projects that can provide assistance to the other board, we’re constantly monitoring and working with the staff to make sure that we’re leveraging their work and learning from what they’ve learned.”
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