CHAPTER 1

Overview of financial reporting for governmental and NFP entities

IPSASB=International Public Sector Accounting Standards Board® (IPSASB)
IPSAS=International Public Sector Accounting Standards
IPSASB=International Public Sector Accounting Standards Board
FASB=Financial Accounting Standard Board
GASB=Government Accounting Standard Board
FASAB=Federal Accounting Standards Advisory Board
1.1. Distinguishing Characteristics of Governmental and Not-for-Profit Entities
Governmental and not-for-profit organizations differ in important ways from business
organizations. Not surprisingly then, accounting and financial reporting for governmental and
not-for-profit organizations are markedly different from accounting and financial reporting for
businesses. An understanding of how these organizations differ from business organizations is
essential to understanding the unique accounting and financial reporting principles that have
evolved for governmental and not-for-profit organizations.
It is not always easy to distinguish among governmental, not-for-profit, and for-profit
organizations. The distinction lies less in the functions these entities perform than in the details
of how the entities are organized, governed, and financed. For example, hospitals may be for-
profit, not-for-profit, or governmental organizations. A hospital is not necessarily a governmental
one just because it was financed partly with tax-exempt debt issued by a governmental agency.
An entity is not necessarily a not-for-profit one just because it was created under a state’s not-
for-profit corporation law.
Governmental entities include the following:
 Federal government
 General-purpose political subdivisions (such as states, counties, cities, and towns.
 Special-purpose political subdivisions (such as school districts).
 Public corporations and bodies corporate and politic (such as state-operated toll roads and
toll bridges).
Other organizations created by governments by statute or under not-for-profit corporation laws
are governmental if they possess one or more of the following characteristics:

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 1. Their officers are popularly elected, or a controlling majority of their governing body is
appointed or approved by governmental officials;
2. They possess the power to enact and enforce a tax levy;
3. They hold the power to directly issue debt whose interest is exempt from federal taxation;
or
4. They face the potential that a government might dissolve them unilaterally and assume
their assets and liabilities.
Not-for-profit organizations exhibit certain basic characteristics that distinguish them from
business enterprises. Not-for-profit entities: -
1. Receive contributions of significant amounts of resources from resource providers
who do not expect equivalent value in return;
2. Operate for purposes other than to provide goods and services at a profit;
3. Lack of ownership interests like those of a business enterprise.
As a result, not-for-profit organizations may obtain contributions and grants not normally
received by business enterprises. On the other hand, not-for-profit organizations do not engage in
ownership-type transactions, such as issuing stock and paying dividends. Four broad categories
of not-for-profit organizations are discussed in this text: voluntary health and welfare
organizations, health care organizations, colleges and universities, and other not-for-profit
organizations.
1.2. Sources of Financial Reporting
Standards
Figure 1.1 shows the primary sources of accounting and financial reporting standards for
business and not-for-profit organizations, state and local governments, and the federal
government. Specifically, the FASB sets standards for for-profit business organizations and
nongovernmental not-for-profit organizations; the GASB sets standards for state and local
governments, including governmental not-for-profit organizations; and the Federal Accounting
Standards Advisory Board (FASAB) sets standards for the federal government and its agencies
and departments.
Authority to establish accounting and reporting standards for not-for-profit organizations split
between the FASB and the GASB because a sizeable number of not-for-profit organizations are
governmentally owned, particularly public colleges and universities and government hospitals.

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The FASB is responsible for setting accounting and reporting standards for the great majority of
not-for-profit organizations, those that are independent of governments. Governmental not-for-
profit organizations follow standards established by the GASB.
The GASB and the FASB are parallel bodies under the oversight of the Financial Accounting
Foundation. The foundation appoints the members of the two boards and supports the boards`
operations by obtaining contributions from business corporations; professional organizations of
accountants, financial analysts, and other groups concerned with financial reporting; CPA firms;
debt-rating agencies; and state and local governments (in the case of the GASB). The federal
Sarbanes-Oxley Act greatly enhanced financial support for the FASB by mandating an assessed
fee on corporate security offerings. Because of the breadth of support and the lack of ties to any
single organization or governmental unit, the GASB and the FASB are referred to as
“independent standards-setting boards in the private sector.”

Figure 1.1: Primary Sources of Accounting and Financial Reporting Standards for
Businesses, Governments, and Not-for-Profit Organizations. (Source: Statement on
Auditing Standards (SAS) 69, amended by SAS 91, April 2000, AICPA Professional Standards,
v.1, Au Sec. 411.)

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 Financial Accounting
Foundation

Financial Accounting Standards Governmental Accounting

Board (FASB) Standards Board (GASB)

Business Nongovern-mental
(for-profit) State and local Governmental
not-for-profit not-for-profit
organizations governmental
organizations organizations organizations

Before the creation of the GASB and the FASB, financial reporting standards were set by groups
sponsored by professional organizations: The forerunners of the GASB (formed in 1984) were
the National Council on Governmental Accounting (1973—84), the National Committee on
Governmental Accounting (1948—73), and the National Committee on Municipal Accounting
(1934—41). The forerunners of the FASB (formed in 1973) were the Accounting Principles
Board (1959—73) and the Committee on Accounting Procedure (1938—59) of the American
Institute of Certified Public Accountants.
Federal statutes assign responsibility for establishing and maintaining a sound financial structure
for the federal government to three officials: The Comptroller General, the Director of the Office
of Management and Budget, and the Secretary of the Treasury. In 1990, these three officials
created the Federal Accounting Standards Advisory Board (FASAB) to recommend accounting
principles and standards for the federal government and its agencies. It is understood that, to the
maximum extent possible, federal accounting and financial reporting standards should be
consistent with those established by the GASB and, where applicable, by the FASB.
1.3. Objectives of Financial Reporting for Governmental and NFP entities

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Note that the objectives of financial reporting for governments and not-for-profit entities stress
the need for the public to understand and evaluate the financial activities and management of
these organizations.
In its Concepts Statement No. 1, “Objectives of Financial Reporting,” the Governmental
Accounting Standards Board stated that “Accountability is the cornerstone of all financial
reporting in government. Accountability requires governments to answer to the citizenry  to
justify the raising of public resources and the purposes for which they are used.” The board
elaborated:
Governmental accountability is based on the belief that the citizenry has a’ “right to know,” a
right to receive openly declared facts that may lead to public debate by the citizens and
their elected representatives.
Financial reporting plays a major role in fulfilling government’s duty to be publicly accountable
in a democratic society. State and local governmental financial reporting is used in making
economic, social, and political decisions and assessing accountability.
Generally, governmental financial reporting is used primarily to: -
 Compare actual financial results with legally adopted budget.
 Assess financial condition and results of operations.
 Assist in determining compliance with finance related laws, rules and regulations.
 Assist in evaluating efficiency and effectiveness.
Unlike the FASB and the GASB, which base their standards on external financial reporting,
the FASAB and its sponsors in the federal government are concerned with both internal and
external financial reporting. Accordingly, the FASAB has identified four major groups of users
of federal financial reports: citizens, Congress, executives, and program managers. Given the
board role the FASAB has been assigned, its standards focus on cost accounting and service
efforts and accomplishment measures, as well as on financial accounting and reporting.
Accountability is also the foundation for the financial reporting objectives the Federal
Accounting Standards Advisory Board (FASAB) has developed for the federal government. The
FASAB’s Statement of Accounting and Reporting Concepts Statement No. 1 identifies four
objectives of federal financial reporting focused on evaluating: -
 budgetary integrity,  stewardship, and
 operating performance,  Adequacy of systems and controls.

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Financial reports of not-for-profit organizationsvoluntary health and welfare organizations,
private colleges and universities, private health care institutions, religious organizations, and
othershave similar uses. However, reporting objectives for not-for-profit organizations
emphasize decision usefulness over financial accountability needs, presumably reflecting the fact
that the financial operations of not-for-profit organizations are generally not subject to as
detailed legal restrictions as those of governments.
Generally, NFP financial reporting should provide information useful in: -
 Making resource allocation decisions
 Assessing services and ability to provide services
 Assessing management stewardship and performance
 Assessing economic resources, obligations, net resources, and changes in them
1.4. IPSAS versus IFRS

There are approximately 180 differences between International Public Sector Accounting
Standards (IPSAS) and the present International Financial Reporting Standards (IFRS). IPSAS
are financial reporting standards for use by public sector entities and developed by the IPSASB.
They are the public sector equivalent of International Financial Reporting Standards (IFRS),
which apply to private sector companies and are developed by the International Accounting
Standards Board (IASB).

The majority of IPSAS address financial reporting topics already covered by IFRS and require
essentially the same accounting treatment as in their equivalent IFRS or International Accounting
Standard (IAS). These IPSAS are termed “IFRS–converged IPSAS”. Each IFRS–converged
standard includes an appendix, which lists differences between the IPSAS and its equivalent
IFRS. Differences include terminology differences (for example, IPSAS use the term “entities”
rather than “companies”), revisions to address public sector specific issues (for example, IPSAS
17, Property, Plant and Equipment, has special requirements for heritage assets) and
implementation guidance to address public sector specific situations.
IPSAS are accounting standards for improving the quality of general-purpose financial reporting
by public sector entities leading to better informed assessment of the resource allocation while
IFRS are a set of accounting standards that determine how accounting evens should be reported
in your business financial statements.

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1.5. The IPSASB Conceptual Framework
The IPSASB Framework will draw on the work of the IASB where it is relevant to the public
sector. However, the objective of the IPSASB’s project is not simply to interpret the application
of the IASB Framework to the public sector, but rather to develop a public sector conceptual
framework that makes explicit the concepts, definitions, and principles that underpin the
development of IPSASs.
In developing the IPSASB Framework and the revised IASB Framework, the IPSASB and the
IASB will need to consider whether the social policy/service delivery objectives to which GBEs
may be subject will influence (a) the objectives of financial reporting by them, and/or (b) other
components of the IPSASB or IASB Framework that applies to them. The IPSASB will consider
its work plan and determine whether a separate project to address GBEs should be given priority.
The IPSASB encourages public sector entities to adopt the accrual basis of accounting, but
acknowledges that many public sector entities currently adopt the cash basis of accounting (or a
near-cash or modified-cash basis).
The IPSASB is committed to minimizing divergence from the statistical financial reporting
models. The extent to which this is achievable will depend on the significance of any differences
in the information needs of users of GPFRs and users of statistical reports.
1.5.1. Role and authority of the IPSASB framework
The IPSASB Framework will be a relevant source of guidance in dealing with such issues.
 Establishes concepts that underpin general purpose financial reporting by public sector
entities other than GBEs;
 IPSASB to apply concepts in developing IPSASs and non-authoritative guidance;
 Does not establish authoritative requirements or override requirements of current
IPSASs;
 Can provide guidance in dealing with issues not addressed by IPSASs;
 Mismatches between current IPSAS requirements and concepts likely to be addressed,
but in accordance with structured plan; and
 Will not happen overnight
1.5.2. Objectives and users of General-purpose Financial Reporting
The primary objective of most public sector entities is to deliver services to the public, rather
than to make profits and generate a return on equity to investors. GPFRs provide information to

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users for accountability and decision-making purposes. Therefore, users of the GPFRs of public
sector entities need information to support assessments of such matters as:
 Whether the entity provided its services to constituents in an efficient and effective
manner;
 The resources currently available for future expenditures, and to what extent there are
restrictions or conditions attached to their use;
 To what extent the burden on future-year taxpayers of paying for current services has
changed; and
 Whether the entity’s ability to provide services has improved or deteriorated compared
with the previous year.
The potential users of GPFRs are identified as:
 Service recipients and resource providers and their representatives (includes citizens but
broader)
 Legislature and legislators’ primary users in capacity as representatives of service
recipients and resource providers
A. Qualitative Characteristics
GPFRs present financial and non-financial information about economic and other phenomena.
The qualitative characteristics of information included in GPFRs are the attributes that make that
information useful to users and support the achievement of the objectives of financial reporting.
The qualitative characteristics of information included in GPFRs of public sector entities are
relevance, faithful representation, understandability, timeliness, comparability, and verifiability.
Pervasive constraints on information included in GPFRs are materiality, cost-benefit, and
achieving an appropriate balance between the qualitative characteristics.
Each of the qualitative characteristics is integral to, and works with, the other characteristics to
provide in GPFRs information useful for achieving the objectives of financial reporting.
However, in practice, all qualitative characteristics may not be fully achieved, and a balance or
trade-off between certain of them may be necessary.
Relevance: Financial and non-financial information is relevant if it is capable of making a
difference in achieving the objectives of financial reporting. Financial and non-financial
information is capable of making a difference when it has confirmatory value, predictive value,

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or both. It may be capable of making a difference, and thus be relevant, even if some users
choose not to take advantage of it or are already aware of it.
Faithful Representation: To be useful in financial reporting, information must be a faithful
representation of the economic and other phenomena that it purports to represent. Faithful
representation is attained when the depiction of the phenomenon is complete, neutral, and free
from material error. Information that faithfully represents an economic or other phenomenon
depicts the substance of the underlying transaction, other event, activity or circumstance―which
is not necessarily always the same as its legal form.
Understandability: is the quality of information that enables users to comprehend its meaning.
GPFRs of public sector entities should present information in a manner that responds to the
needs and knowledge base of users, and to the nature of the information presented.
Understandability is enhanced when information is classified, characterized, and presented
clearly and concisely. Comparability also can enhance understandability.
Timeliness: means having information available for users before it loses its capacity to be useful
for accountability and decision-making purposes. Having relevant information available sooner
can enhance its usefulness as input to assessments of accountability and its capacity to inform
and influence decisions that need to be made. A lack of timeliness can render information less
useful.
Comparability: is the quality of information that enables users to identify similarities in, and
differences between, two sets of phenomena. Comparability is not a quality of an individual item
of information, but rather a quality of the relationship between two or more items of information.
Verifiability: is the quality of information that helps assure users that information in GPFRs
faithfully represents the economic and other phenomena that it purports to represent. Verification
may be direct or indirect. With direct verification, an amount or other representation is itself
verified, such as by (a) counting cash, (b) observing marketable securities and their quoted
prices, or (c) confirming that the factors identified as influencing past service delivery
performance were present and operated with the effect identified.
B. Constraints on Information Included in General Purpose Financial Reports
Materiality: is material if its omission or misstatement could influence the discharge of
accountability by the entity, or the decisions that users make on the basis of the entity’s GPFRs

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prepared for that reporting period. Materiality depends on both the nature and amount of the item
judged in the particular circumstances of each entity.
Cost-Benefit: Financial reporting imposes costs. The benefits of financial reporting should
justify those costs. Assessing whether the benefits of providing information justify the related
costs is often a matter of judgment, because it is often not possible to identify and/or quantify all
the costs and all the benefits of information included in GPFRs.
C. Reporting Entity

The concept of the reporting entity is derived from the objectives of financial reporting by public
sector entities. The objectives of financial reporting by public sector entities are to provide
information about the entity that is useful to users of GPFRs for accountability and decision-
making purposes.

A public sector reporting entity is a government or other public sector organization, program or
identifiable area of activity (hereafter referred to as an entity or public sector entity) that prepares
GPFRs. A public sector reporting entity may comprise two or more separate entities that present
GPFRs as if they are a single entity—such a reporting entity is referred to as a group reporting
entity.
D. Characteristics of a Reporting Entity

A public sector reporting entity are that:

 It is an entity that raises resources from, or on behalf of, constituents and/or uses
resources to undertake activities for the benefit of, or on behalf of, those constituents; and
 There are service recipients or resource providers dependent on GPFRs of the entity for
information for accountability or decision-making purposes.
E. Elements in financial statements
Financial statements portray the financial effects of transactions and other events by grouping
them into broad classes which share common economic characteristics. These broad classes are
termed the elements of financial statements. Elements are the building blocks from which
financial statements are constructed. These building blocks provide an initial point for recording,
classifying and aggregating economic data and activity in a way that provides users with
information that meets the objectives of financial reporting and achieves the qualitative

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characteristics of financial reporting while taking into account the constraints on information
included in GPFRs.
The elements that are defined are:
a) An asset is: A resource presently controlled by the entity as a result of a past event.
A Resource: is an item with service potential or the ability to generate economic benefits.
Physical form is not a necessary condition of a resource. Some resources embody an entity’s
rights to a variety of benefits including, for example, the right to:
 Use the resource to provide services;
 Use an external party’s resources to provide services, for example, leases;
 Convert the resource into cash through its disposal;
 Benefit from the resource’s appreciation in value; or
 Receive a stream of cash flows.

Service potential is the capacity to provide services that contribute to achieving the entity’s
objectives. Service potential enables an entity to achieve its objectives without necessarily
generating net cash inflows.

Presently controlled by the Entity: An entity must have control of the resource. Control of the
resource entails the ability of the entity to use the resource (or direct other parties on its use) so
as to derive the benefit of the service potential or economic benefits embodied in the resource in
the achievement of its service delivery or other objectives.
Past Event: The definition of an asset requires that a resource that an entity presently controls
must have arisen from a past transaction or another past event. The past transactions or other
events that result in an entity gaining control of a resource and therefore an asset may differ.
b) A liability is: A present obligation of the entity for an outflow of resources that results
from a past event.
A Present Obligation: Public sector entities can have a number of obligations. A present
obligation is a legally binding obligation (legal obligation) or non-legally binding obligation,
which an entity has little or no realistic alternative to avoid. Obligations are not present
obligations unless they are binding and there is little or no realistic alternative to avoid an
outflow of resources.
An Outflow of Resources from the Entity: A liability must involve an outflow of resources
from the entity for it to be settled. An obligation that can be settled without an outflow of

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resources from the entity is not a liability.
Past Event: To satisfy the definition of a liability, it is necessary that a present obligation arises
as a result of a past transaction or other event and requires an outflow of resources from the
entity.

c) Revenue is: Increases in the net financial position of the entity, other than increases
arising from ownership contributions.
d) Expense is: Decreases in the net financial position of the entity, other than decreases
arising from ownership distributions.
e) Ownership contributions are: Inflows of resources to an entity, contributed by external
parties in their capacity as owners, which establish or increase an interest in the net
financial position of the entity.
f) Ownership distributions are: Outflows of resources from the entity, distributed to
external parties in their capacity as owners, which return or reduce an interest in the net
financial position of the entity.
1.6. Objectives of IPSASB
The objective of the IPSASB is to serve the public interest by developing high-quality
accounting standards and other publications for use by public sector entities around the world in
the preparation of general-purpose financial reports.
In fulfilling its objective, the IPSASB develops and issues the following publications:
 IPSASs as the standards to be applied in the preparation of general-purpose financial
reports of public sector entities.
 Recommended Practice Guidelines (RPGs) to provide guidance on good practice that
public sector entities are encouraged to follow.
 Studies to provide advice on financial reporting issues in the public sector. They are
based on study of the good practices and most effective methods for dealing with the
issues being addressed.
 Other papers and research reports to provide information that contributes to the body of
knowledge about public sector financial reporting issues and developments. They are
aimed at providing new information or fresh insights and generally result from research

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 activities such as: literature searches, questionnaire surveys, interviews, experiments,
case studies and analysis.
1.7. Fundamental concepts, recognition, measurement and disclosure concepts.
1.7.1. Recognition in financial statements

Recognition is the process of incorporating and including in amounts displayed on the face of the
appropriate financial statement an item that meets the definition of an element and can be
measured in a way that achieves the qualitative characteristics and takes account of the
constraints on information included in GPFRs.
The recognition criteria are that:
 An item satisfies the definition of an element; and
 Can be measured in a way that achieves the qualitative characteristics and takes account
of constraints on information in GPFRs.
DE recognition: DE recognition is the process of evaluating whether changes have occurred
since the previous reporting date that warrant removing an element that has been previously
recognized from the financial statements, and removing the item if such changes have occurred.
In evaluating uncertainty about the existence of an element the same criteria are used for de-
recognition as at initial recognition.
1.7.2. Measurement of assets and liabilities in financial statements
The objective of measurement is: To select those measurement bases that most fairly reflect
the cost of services, operational capacity and financial capacity of the entity in a manner that is
useful in holding the entity to account, and for decision-making purposes. The selection of a
measurement basis for assets and liabilities contributes to meeting the objectives of financial
reporting in the public sector by providing information that enables users to assess:

 The cost of services provided in the period in historical or current terms;

 Operational capacity—the capacity of the entity to support the provision of services in
future periods through physical and other resources; and
 Financial capacity—the capacity of the entity to fund its activities.
Measurement Bases and their Selection

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It is not possible to identify a single measurement basis that best meets the measurement
objective at a Conceptual Framework level. Therefore, the Conceptual Framework does not
propose a single measurement basis (or combination of bases) for all transactions, events and
conditions. It provides guidance on the selection of a measurement basis for assets and liabilities
in order to meet the measurement objective.
The following measurement bases for assets are identified and discussed in terms of the
information they provide about the cost of services delivered by an entity, the operating capacity
of an entity and the financial capacity of an entity, and the extent to which they provide
information that meets the qualitative characteristics:
 Historical cost;  Net selling price; and
 Market value;  Value in use.
 Replacement cost;
Historical cost for an asset is: The consideration given to acquire or develop an asset, which is
the cash or cash equivalents or the value of the other consideration given, at the time of its
acquisition or development.
Market value for assets is: The amount for which an asset could be exchanged between
knowledgeable, willing parties in an arm’s length transaction.
Replacement cost is: The most economic cost required for the entity to replace the service
potential of an asset (including the amount that the entity will receive from its disposal at the end
of its useful life) at the reporting date.
Net selling price is: The amount that the entity can obtain from sale of the asset, after deducting
the costs of sale.
Value in use is: The present value to the entity of the asset’s remaining service potential or
ability to generate economic benefits if it continues to be used, and of the net amount that the
entity will receive from its disposal at the end of its useful life.
Measurement bases for liabilities are identified and discussed in terms of (a) the information they
provide about the cost of services delivered by an entity, the operating capacity of an entity and
the financial capacity of an entity; and (b) the extent to which they provide information that
meets the qualitative characteristics:
 Historical cost;  Market value;
 Cost of fulfillment;  Cost of release; and

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  Assumption price.

Historical cost for a liability is: The consideration received to assume an obligation, which is
the cash or cash equivalents, or the value of the other consideration received at the time the
liability is incurred.
Cost of fulfillment is: The costs that the entity will incur in fulfilling the obligations represented
by the liability, assuming that it does so in the least costly manner.
Market value for liabilities is: The amount for which a liability could be settled between
knowledgeable, willing parties in an arm’s length transaction.
Cost of Release: is the term used in the context of liabilities to refer to the same concept as “net
selling price” in the context of assets. Cost of release refers to the amount of an immediate exit
from the obligation. Cost of release is the amount that either the creditor will accept in settlement
of its claim, or a third party would charge to accept the transfer of the liability from the obligor.
Assumption Price: is the term used in the context of liabilities to refer to the same concept as
replacement cost for assets. Just as replacement cost represents the amount that an entity would
rationally pay to acquire an asset, so assumption price is the amount which the entity would
rationally be willing to accept in exchange for assuming an existing liability. Exchange
transactions carried out on arms-length terms will provide evidence of assumption price—this is
not the case for non-exchange transactions.
1.7.3. Presentation in general purpose financial reports
Presentation is linked to the objectives of financial reporting, users’ needs, the qualitative
characteristics, constraints on information included in GPFRs and the reporting entity all
influence presentation decisions. For information reported in the financial statements,
presentation is also linked to the definitions of the elements, recognition criteria and
measurement bases identified in:
 The definition of the elements affects the items that can be presented in the financial
statements;
 Application of the recognition criteria affects the location of information; and
 The selection of measurement bases impacts the information presented on measurement
methodologies.
Presentation: is the selection, location and organization of information that is reported in the
GPFRs. Presentation aims to provide information that contributes towards the objectives of

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financial reporting and achieves the qualitative characteristics while taking into account the
constraints on information included in GPFRs. Decisions on selection, location and organization
of information are made in response to the needs of users for information about economic or
other phenomena.
Presentation decisions may:
 Result in the development of a new GPFR, the movement of information between
reports, or the amalgamation of existing reports; or
 Be detailed decisions on information selection, location and organization within a GPFR.
Decisions on information selection, location and organization are interlinked and, in practice, are
likely to be considered together. The amount or type of information selected could have
implications on whether it is included in a separate report or organized into tables or separate
schedules. The following three sections separately focus on each presentation decision.
1.7.4. Disclosure
The failure to recognize items that meet the definition of an element and the recognition criteria
is not rectified by the disclosure of accounting policies, notes or other explanatory detail.
However, disclosure can provide information about items that meet many, but not all the
characteristics of the definition of an element. Disclosure can also provide information on items
that meet the definition of an element but cannot be measured in a manner that achieves the
qualitative characteristics sufficiently to meet the objectives of financial reporting. Disclosure is
appropriate when knowledge of the item is considered to be relevant to the evaluation of the net
financial position of the entity and therefore meets the objectives of financial reporting.

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