Test Bank for Essentials of Accounting for Governmental_3 pot

Apago PDF Enhancer Accounting for Other Governmental Fund Types: Capital Projects, Debt Service, and Permanent It rivals anything in the history of the world built by men.. This ch

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Accounting for Other

Governmental Fund

Types: Capital Projects,

Debt Service, and

Permanent

It rivals anything in the history of the world built by men (Matthew Amorello,

chairman of the Massachusetts Turnpike Authority on the completion of

Boston’s “Big Dig,” a $14.6 billion underground highway Since opening, the

project has gained notoriety for a criminal investigation into faulty materials

and problems with hundreds of leaks In July 2006, 12 tons of ceiling tiles fell

to the roadway, killing one person.)

I place public debt as the greatest of the dangers to be feared Thomas

Jefferson, 3rd president of the United States, whose administration negotiated

the Louisiana Purchase, financing 80 percent of the purchase with

govern-ment debt

Learning Objectives

Apply the modified accrual basis of accounting in the recording of typical

•

transactions of capital projects, debt service, and permanent funds

Prepare the fund-basis financial statements for governmental funds

special revenue funds This chapter describes and illustrates the accounting for

the remaining governmental funds: capital projects, debt service, and permanent

Chapter Five

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ILLUSTRATION 5–1 Summary of Governmental Type Funds

General Fund Special Revenue

Accounts for all financial resources not required

to be reported in another fund.

Accounts for legally restricted revenue sources, other than those restricted for capital projects or debt service.

Accounts for financial resources to be used for acquisition or construction of major capital facili- ties (other than those financed by proprietary or fiduciary funds).

Accounts for financial resources to be used for payment of interest and principal on general long-term debt (not needed for debt paid from proprietary or fiduciary funds).

Accounts for resources that are legally restricted

to the extent earnings (but not principal) may be used to support government programs.

From the period funds are first mulated until the final interest and principal payment is made.

accu-Indefinite life, beginning with the initial contribution.

Modified Accrual Basis Financial Resource Focus Record Budgets Encumbrances

*Debt service funds are required to report only matured interest and principal payments as current liabilities Unmatured principal installments and accrued interest,

although due shortly after year-end are not required to be reported as liabilities in the debt service fund until due.

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Representative transactions and fund-basis financial statements are presented for

the Village of Elizabeth

Illustration 5–1 provides a summary of governmental funds Many of the

prac-tices described in Chapter 4 apply to capital projects, debt service, and permanent

funds All of the governmental funds use the modified accrual basis of accounting

and the current financial resources measurement focus Budgets are typically not

recorded for capital projects, debt service, and permanent funds Similarly,

encum-brance accounting is typically not used for debt service and permanent funds

Governmental fund types account for revenues, other financing sources,

expendi-tures, and other financing uses that are for capital outlay and debt service purposes,

as well as for current purposes General fixed assets that are acquired with

govern-mental fund resources are recorded as expenditures in the governgovern-mental funds but

are displayed as capital assets in the government-wide financial statements

Simi-larly, the proceeds of general long-term debt incurred for governmental activities

are recorded as other financing sources in governmental funds but the liability is

displayed as long-term debt in the government-wide statements

Since long-term liabilities are not recorded in the governmental funds, payments

of principal are recorded as expenditures, rather than reductions of outstandings

li-abilities Capital projects funds and debt service funds, in particular, are used to

ac-quire major fixed assets and to issue and service long-term debt, although the General

Fund may also be used for these purposes Adjustments needed to record the general

fixed assets and long-term debt transactions prior to preparing the government-wide

statements are identified in this chapter but are illustrated more fully in Chapter 8 of

this text The general fixed assets and long-term debt for the Village of Elizabeth are

included in the government-wide statements illustrated in Chapter 8

Permanent funds reflect resources that are restricted so that principal may not

be expended and earnings are used to benefit the government or its citizenry If

both earnings and principal may be expended, the activities should be reported in

a special revenue fund In this chapter, a cemetery perpetual care fund is used to

illustrate permanent funds

CAPITAL PROJECTS FUNDS

A major source of funding for capital projects funds is the issuance of long-term

debt In addition to debt proceeds, capital projects funds may receive: grants

from other governmental units, proceeds of dedicated taxes, transfers from other

funds, gifts from individuals or organizations, or a combination of several of these

sources

Capital projects funds differ from General Funds in that a capital projects fund

ex-ists only for the duration of the project for which it is created In some jurisdictions,

governments are allowed to account for all capital projects within a single capital

projects fund In other jurisdictions, laws require each project to be accounted for by

a separate capital projects fund Even in jurisdictions that permit the use of a single

fund, managers may prefer to use separate funds to enhance control over individual

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projects In such cases, a fund is created when a capital project or a series of related

projects is legally authorized; it is closed when the project or series is completed

GASB standards require capital project fund-basis statements to be reported

using the modified accrual basis of accounting Proceeds of debt issues should

be recognized by a capital projects fund at the time the debt is actually incurred,

rather than at the time it is authorized, because authorization of an issue does not

guarantee its sale Proceeds of debt issues are recorded as Proceeds of Bonds

or Proceeds of Long-Term Notes rather than as Revenues and are reported in

the Other Financing Sources section of the Statement of Revenues, Expenditures,

and Changes in Fund Balances Similarly, revenues raised by the General Fund or

a special revenue fund and transferred to a capital projects fund are recorded as

Transfers In and reported in the Other Financing Sources section of the

operat-ing statement Taxes or other revenues raised specifically for a capital project are

recorded as revenues of the capital projects fund Grants, entitlements, or shared

revenues received by a capital projects fund from another governmental unit are

considered revenues of the capital projects fund, as is interest earned on temporary

investments of the capital projects fund

Expenditures of capital projects funds generally are reported in the capital outlay

character classification in the Governmental Funds Statement of Revenues,

Expen-ditures, and Changes in Fund Balances Capital outlay expenditures result in

addi-tions to the general fixed assets reported in the government-wide Statement of Net

Assets Even though budgetary reporting is not required for capital projects funds,

encumbrance accounting is used

Illustrative Case

The following case illustrates representative transactions of a capital projects

fund Assume that early in 2012 the Village Council of the Village of Elizabeth

authorized an issue of $1,200,000 of 8 percent 10-year regular serial tax- supported

bonds to finance construction of a fire station addition The total cost of the fire

station addition was expected to be $2,000,000, with $600,000 to be financed

by grants from other governmental units and $200,000 to be transferred from an

enterprise fund of the Village of Elizabeth The project would utilize land already

owned by the Village and was to be done partly by a private contractor and partly

by the Village’s own working force Completion of the project was expected within

the year Transactions and entries are illustrated next For economy of time and

space, vouchering of liabilities and entries in subsidiary ledger accounts are not

illustrated

The $1,200,000 bond issue, which had received referendum approval by

taxpay-ers, was officially approved by the Village Council No formal entry is required A

memorandum entry may be made to identify the approved project and the means of

financing it

The sum of $100,000 was borrowed from the National Bank for defraying

engi-neering and other preliminary costs incurred before bonds could be sold The notes

will be repaid in the current period and are recorded as a liability in the capital

project fund

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1 Cash

Bond Anticipation Notes Payable

Debits 100,000 Credits 100,000 The receivables from the enterprise fund and the other governmental units were recorded; receipt was expected during the current year 2 Due from Other Funds

Due from Other Governmental Units

Other Financing Sources—Transfers In

Revenues Control

200,000 600,000 200,000 600,000 Total purchase orders for supplies, materials, items of minor equipment, and con-tracted services required for the project amounted to $247,698 3 Encumbrances Control

Budgetary Fund Balance—Reserve for Encumbrances

247,698 247,698 A contract was issued for the major part of the work to be done by a private con-tractor in the amount of $1,500,000 4 Encumbrances Control

Budgetary Fund Balance—Reserve for Encumbrances

1,500,000 1,500,000 Special engineering and miscellaneous preliminary costs that had not been en-cumbered were paid in the amount of $97,500 5 Construction Expenditures

Cash

97,500

97,500

When the project was approximately half-finished, the contractor submitted

bill-ing for a payment of $750,000 The followbill-ing entry records conversion of a

commit-ment (Encumbrances) to a liability, eligible for paycommit-ment upon proper authentication

Contracts Payable records the status of a claim under a contract between the time of

presentation and verification for payment

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6 Budgetary Fund Balance—Reserve for Encumbrances

Construction Expenditures

Encumbrances Control

Contracts Payable

Debits 750,000 750,000 Credits 750,000 750,000 The transfer ($200,000) was received from the enterprise fund, and $300,000 was received from the other governmental units 7 Cash

Due from Other Funds

Due from Other Governmental Units

500,000 200,000 300,000 The bond issue, dated January 2, was sold at a premium of $12,000 on that date In this example, as is generally the case, the premium must be used for debt service and is not available for use by the capital projects fund; therefore, the premium is transferred to the debt service fund Entry 8a records the receipt by the capital proj-ects fund of the proceeds of the bonds, and 8b records the transfer of the premium amount to the debt service fund 8a Cash Other Financing Sources—Proceeds of Bonds

Other Financing Sources—Premium on Bonds

8b Other Financing Uses—Transfers Out

Cash

1,212,000 12,000 1,200,000 12,000 102,500 If bonds were sold at a discount, either the difference would be made up by a transfer from another fund, or the capital projects fund would have fewer resources available for the project Generally, bond issue costs would be involved and would be recorded as expenditures If bonds were sold between interest dates, the government would collect from the purchaser the amount of interest accrued to the date of sale, because a full six months’ interest would be paid on the next interest payment date Interest payments are made from debt service funds; therefore, cash in the amount of accrued interest sold at the time of bond issuance should be recorded in the Debt Service Fund The Village of Elizabeth’s Capital Projects Fund pays the bond anticipation notes and interest (assumed to amount to $2,500), and records the following journal entry: 9 Bond Anticipation Notes Payable

Interest Expenditures

Cash

100,000 2,500

102,500

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The contractor’s initial claim (see entry 6) was paid, less a 5 percent retention

Retention of a contractually stipulated percentage from payments to a contractor is

common until the construction is completed and has been inspected for conformity

with specifications and plans

10 Contracts Payable

Cash

Contracts Payable—Retained Percentage

Debits 750,000 Credits 712,500 37,500 Upon final acceptance of the project, the retained percentage is paid In the event that the government finds it necessary to spend money correcting deficiencies in the contractor’s performance, the payment is charged to Contracts Payable—Retained Percentage Disbursements for items ordered at an estimated cost of $217,000 (included in the amount recorded by entry 3) amounted to $216,500 11 Budgetary Fund Balance—Reserve for Encumbrances

Construction Expenditures

Encumbrances Control

Cash

217,000 216,500 217,000 216,500 Assume the contractor completes construction of the fire station and bills the Village of Elizabeth for the balance on the contract: 12 Budgetary Fund Balance—Reserve for Encumbrances

Construction Expenditures

Encumbrances Control

Contracts Payable

750,000 750,000 750,000 750,000 Assume the amount remaining from other governmental units was received: 13 Cash

Due from Other Governmental Units

300,000

300,000

Invoices for goods and services previously encumbered in the amount of $30,698

were received and approved for payment in the amount of $30,500 Additional

con-struction expenditures, not encumbered, amounted to $116,500 The entire amount

was paid in cash

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14 Budgetary Fund Balance—Reserve for Encumbrances

Construction Expenditures

Encumbrances Control

Cash

Debits 30,698 147,000 Credits 30,698 147,000 Assuming that inspection revealed only minor imperfections in the contractor’s performance, and upon correction of these, the contractor’s bill and the amount previously retained were paid, entry 15 should be made: 15 Contracts Payable—Retained Percentage

Contracts Payable

Cash

37,500 750,000 787,500 After entry 15 is recorded, $36,500 in cash remained in the capital projects fund That amount was transferred to a debt service fund for the payment of bonds: 16 Other Financing Uses—Transfers Out

Cash

36,500 36,500 Upon completion of the project and disposition of any remaining cash, the fol-lowing closing entry was made: 17 Revenues Control

Other Financing Sources—Transfers In

Other Financing Sources—Proceeds of Bonds

Other Financing Sources—Premium on Bonds

Construction Expenditures

Interest Expenditures

Other Financing Uses—Transfers Out

600,000 200,000 1,200,000 12,000

1,961,000 2,500 48,500

Financial statements for the Fire Station Addition Capital Projects Fund are

pre-sented as part of the Governmental Funds Balance Sheet (Illustration 5–3) and the

Governmental Funds Statement of Revenues, Expenditures, and Changes in Fund

Balances (Illustration 5–4) provided near the end of this chapter Because the

Vil-lage’s fire station project was completed and the remaining resources transferred to

the debt service fund, there are no balances remaining in the fund and it does not

appear in the governmental funds Balance Sheet (Illustration 5–3) However, the

assets, liabilities, and fund balances of major capital projects continuing into the

next period would appear in governmental fund Balance Sheets Fund balances of

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capital projects funds are classified among the categories identified in GASB

State-ment 54: Nonspendable, Restricted, Committed, or Assigned In the case of capital

projects funds, it is common for net resources to be classified as Restricted For

example, the bond issue may be the result of a referendum in which the voters both

approved the debt issue and established its intended use Intergovernmental grants

and taxes dedicated to capital improvements are also likely to be classified as

Re-stricted Resources not meeting the definition of restricted are likely to be reported

as Committed Fund Balance GASB Statement 54 requires that resources intended

to fulfill contractual obligations (such as long-term construction contracts) be

re-ported as Committed Any remaining net resources would be rere-ported as Assigned,

the residual classification for funds other than the General Fund

The addition to the fire station, excluding interest, will be capitalized and shown

as an addition to the capital assets in the government-wide financial statements In

addition, the $1,200,000 in bonds will be recorded as a liability in the

government-wide statements See Chapter 8 for the adjustments necessary as a result of this

project

OTHER ISSUES INVOLVING ACQUISITION

OF CAPITAL ASSETS

Acquisition of General Fixed Assets by Lease Agreements

FASB SFAS No 13 defines and establishes accounting and financial reporting

stan-dards for a number of forms of leases including operating leases and capital

leases. GASB Statement No 13 accepts the FASB’s SFAS No 13 definitions of these

two forms of leases and prescribes accounting and financial reporting for lease

agreements of state and local governments If a noncancelable lease meets any one

of the following criteria, it is a capital lease:

The lease transfers ownership of the property to the lessee by the end of the lease

life of the leased property

The present value of rental or other minimum lease payments equals or exceeds

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90 percent of the fair value of the leased property

If none of the criteria are met, the lease is classified as an operating lease by

the lessee Rental payments under an operating lease for assets used by the

govern-mental funds are recorded by the governgovern-mental funds as current expenditures of the

period The GASB has issued specific guidelines for state and government entities

with operating leases with scheduled rent increases ( Statement No 13 ) Discussion of

this special case is beyond the scope of this text

If a government acquires general fixed assets under a capital lease agreement,

the asset should be recorded in the government-wide financial statements at the

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inception of the agreement at the lesser of (1) the present value of the rental and

other minimum lease payments or (2) the fair value of the leased property For

example, assume a government signs a capital lease agreement to pay $10,000 on

January 1, 2012, the scheduled date of delivery of certain equipment to be used by

an activity accounted for by a special revenue fund The lease calls for annual

pay-ments of $10,000 at the beginning of each year thereafter; that is, January 1, 2013,

January 1, 2014, and so on

There are 10 payments of $10,000 each, for a total of $100,000, but capital

outlays under capital leases are recorded at the present value of the stream of

annual payments, using the rate “the lessee would have incurred to borrow over a

similar term the funds necessary to purchase the leased asset.” Assuming the rate

to be 10 percent, the present value of the 10 payments is $67,590 If the fair value

of the leased property is more than $67,590, the asset should be reported in the

government-wide statement at $67,590, and the liability for $57,590 ($67,590 less

the payment of $10,000 at inception) should also be reported in the

government-wide statements GASB standards also require a governmental fund be used to

record the following entry at the inception of the capital lease:

Expenditures—Capital Outlay 67,590

Other Financing Sources—Capital Lease Agreements 57,590

Cash 10,000

Rental payments during the life of the capital lease are recorded in a

governmen-tal fund (such as a debt service fund) as illustrated later in this chapter

Construction of General Fixed Assets Financed by Special

Assessment Debt

A special assessment is a tax levy that is assessed only against certain taxpayers—

those taxpayers who are deemed to benefit from the service or project paid for by the

proceeds of the special assessment levy Special assessments may be either service

types or construction types Service-type special assessments, such as an assessment

to downtown businesses for special garbage removal or police protection, would be

accounted for in the appropriate fund, often the General or a special revenue fund

Construction-type special assessment projects account for longer-term projects

that often require debt financing For example, assume that a government issued

$500,000 in debt to install street lighting and build sidewalks in a newly annexed

subdivision Five-year special assessment bonds were issued to finance the

proj-ect, which is administered by the city Since city law requires that the provision of

lighting and sidewalks is the responsibility of property owners, a special

assess-ment (property tax) is levied against the property owners in that subdivision for a

five-year period The proceeds of the assessment are used to pay the principal and

interest on the debt

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Special assessment projects may be accounted for in one of two ways If the

government is either primarily or secondarily liable for the payment of debt

prin-cipal and interest, the project is accounted for as if it were a governmental

proj-ect A capital projects fund should account for the proceeds of the debt and the

construction expenditures The capitalized cost of the project will be recorded in

the wide statements The debt should be recorded in the

government-wide statements, and the special assessment tax levy and debt service expenditures

should be recorded in a debt service fund, as illustrated for general government debt

in this chapter

Alternatively, if the government is not liable for the special assessment debt

di-rectly or through guarantee, the special assessment is accounted for in an agency

fund Accounting for agency and other fiduciary funds is discussed and illustrated

in Chapter 7

DEBT SERVICE FUNDS

As we just observed, major capital additions are commonly financed through bond

or other debt issues Another fund type, the debt service fund, is used to account

for financial resources that are intended to provide payments of interest and

prin-cipal as they come due Debt service funds are not created for debt issues where

the activities of proprietary funds are intended to generate sufficient cash to make

interest and principal payments

If taxes and/or special assessments are levied specifically for payment of

inter-est and principal on long-term debt, those taxes are recognized as revenues of the

debt service fund More commonly, undesignated taxes are levied by the General

Fund and transferred to a debt service fund to repay debt In that case, the taxes are

recorded as revenues by the General Fund and as transfers to the debt service fund

Because the amounts of bond issues and the associated capital projects are often

ap-proved by the voters, bond premiums and unexpended capital project resources are

generally required by state law to be transferred to debt service funds

The Modified Accrual Basis—As Applied to Debt Service Funds

GASB standards require debt service accounting to be on the same modified accrual

basis of accounting as General, special revenue, and capital project funds One

pe-culiarity of the modified accrual basis as applied to debt service accounting is that

interest on long-term debt is not accrued; it is recognized as an expenditure in the

year in which the interest is legally due For example, if the fiscal year of a

gov-ernment ends on December 31, and the interest on its bonds is payable on April 1

and October 1 of each year, interest payable would not be reported as a liability

in the Balance Sheet of the Debt Service Fund prepared as of December 31 The

rationale is that, since interest is not legally due until April 1 of the following year,

resources need not be expended in the current year The same reasoning applies to

principal amounts that mature in the next fiscal year; expenditures and liabilities

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are recognized in the debt service fund in the year for which the principal is legally

due The only exception permitted by GASB is that if a government has resources

available for payment in a debt service fund and the period of time until interest or

principal payment is due is no more than one month, then the interest or principal

payment may be accrued

Additional Uses of Debt Service Funds

Debt service funds may be required to service, in addition to term and serial bonds,

debt arising from the use of notes, capital leases, or warrants having a maturity more

than one year after the date of issue Although each issue of long-term debt is a

separate obligation, all debts to be serviced from tax revenues may be accounted for

by a single debt service fund, if permitted by state laws and covenants with

credi-tors If more than one debt service fund is required by law, as few funds of this type

should be created as possible

In some jurisdictions, there are no statutes that require the debt service function

to be accounted for by a debt service fund Whether or not required by statute or

local ordinance, bond indentures or other agreements with creditors are often

con-strued as requiring the use of a debt service fund Unless the debt service function

is very simple, it may be argued that good financial management would dictate the

establishment of a debt service fund even when it is not legally required If neither

law nor sound financial administration requires the use of debt service funds,

the function may be performed within the accounting and budgeting framework

of the General Fund In such cases, the accounting and financial reporting standards

discussed in this chapter should be followed for the debt service activities of the

General Fund

Debt Service Accounting for Serial Bonds

The principal on serial bonds is paid over the term of the bonds, rather than

in a lump sum at the end Usually the government designates a bank as fiscal

agent to handle interest and principal payments for each debt issue The assets

of a debt service fund may, therefore, include Cash with Fiscal Agent, and the

expenditures, and liabilities may include amounts for the service charges of

fis-cal agents

There are four types of serial bonds: regular, deferred, annuity, and irregular If

the total principal of an issue is repayable in a specified number of equal

ments over the life of the issue, it is a regular serial bond issue If the first

install-ment is delayed for a period of more than one year after the date of the issue, but

thereafter installments fall due on a regular basis, the bonds are known as deferred

serial bonds. If the amount of annual principal repayments is scheduled to increase

each year by approximately the same amount that interest payments decrease

(in-terest decreases, of course, because the amount of outstanding bonds decreases) so

that the annual debt service payments remain relatively uniform over the term of the

issue, the bonds are called annuity serial bonds Irregular serial bonds may have

any pattern of repayment that does not fit the other three categories

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Illustrative Case—Regular Serial Bonds

Accounting for regular serial bonds is illustrated by a debt service fund created to

pay principal and interest for the fire station project for the Village of Elizabeth

dis-cussed earlier in this chapter Recall that, early in 2012, the Village Council of the

Village of Elizabeth authorized an issue of $1,200,000 of 8 percent tax-supported

bonds At the time of authorization, no formal entry is required in the capital

proj-ects fund; at that time, a memorandum entry may be made in the capital projproj-ects

fund and provision made to account for debt service of the new debt issue in a debt

service fund

Assume that the bonds in this example are dated January 2, 2012, that interest

payment dates are June 30 and December 31, and that the first of the 10 equal

an-nual principal payments will be on December 31, 2012

The bonds were sold on January 2, 2012, at a premium of $12,000, which was

recorded in the capital projects fund (see entry 8a of this chapter) The premium was

transferred to the debt service fund (see entry 8b):

18 Cash 12,000

Other Financing Sources—Transfers In 12,000

While GASB standards do not require the reporting of budget-actual schedules

for debt service funds, prudence would dictate internal budgetary planning

Assum-ing the $12,000 amount was known at the time of budgetary plannAssum-ing, the followAssum-ing

would reflect debt service needs related to this project:

Semiannual Interest, June 30 ($1,200,000 ⫻ 08 ⫻ 6 ⁄ 12 ) $ 48,000

Semiannual Interest, December 31 ($1,200,000 ⫻ 08 ⫻ 6 ⁄ 12 ) 48,000

Principal, December 31 ($1,200,000/10) 120,000

Total Cash Needed 216,000

Less: Premium 12,000

Cash Needs (Net) for 2012 $204,000

Assume cash was transferred from the General Fund in the amount of $204,000

(see entries 21a and 21b of Chapter 4):

19 Cash 204,000

Other Financing Sources—Transfers In 204,000

On June 30, $48,000 was paid to a local bank to make the first interest payment

An expenditure and a liability were also recorded:

Matured Interest Payable 48,000

When the fiscal agent reports that checks have been issued to all bondholders,

entry 21 is made:

21 Matured Interest Payable 48,000

Cash with Fiscal Agent 48,000

On December 31, the next interest payment of $48,000 is due; also on that date,

a principal payment of $120,000 is due The debt service fund pays $168,000 to the

local bank for payment and records the expenditures and liabilities for principal and

Matured Bonds Payable 120,000

Matured Interest Payable 48,000

The bank reported that all payments had been made as of December 31, 2012:

23 Matured Bonds Payable 120,000

Matured Interest Payable 48,000

Cash with Fiscal Agent 168,000

It should be noted that, if principal and/or interest payment dates were other than

at the end of the fiscal year, for example, May 1 and November 1, accruals would

not be made for the fund financial statements, following modified accrual

account-ing However, accruals for interest would be made when preparing the

government-wide financial statements

Entry 16 of the capital projects fund illustration in this chapter reflected a

trans-fer of $36,500 to the debt service fund, representing the unused construction funds

The corresponding entry is made in the debt service fund:

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Debits Credits

24 Cash 36,500

Other Financing Sources—Transfers In 36,500

At year-end, the debt service fund would reflect the following closing entry:

25 Other Financing Sources—Transfers In 252,500

Expenditures—Bond Principal 120,000

Expenditures—Bond Interest 96,000

Fund Balance 36,500

Financial statements for the Fire Station Addition Debt Service Fund are

pre-sented as part of the Governmental Funds Balance Sheet (Illustration 5–3) and the

Governmental Funds Statement of Revenues, Expenditures, and Changes in Fund

Balances (Illustration 5–4) provided near the end of this chapter Fund balances of

debt service funds are classified among the categories identified in GASB

State-ment 54: Restricted, Committed, or Assigned Unexpended resources transferred

to the debt service fund from the General Fund would typically be classified as

Assigned Fund Balance In the case of term bonds, debt agreements may require a

government to set aside cash in a sinking fund If a sinking fund is required by

credi-tors or law, the unexpended resources would be classified as Restricted

OTHER ISSUES INVOLVING PAYMENT

OF LONG-TERM DEBT

Debt Service Accounting for Deferred Serial Bonds

If a government issues bonds other than regular serial bonds, debt service fund

ac-counting is somewhat more complex than just illustrated A government that issues

deferred serial bonds will normally have several years without principal repayment

during which, if it is fiscally prudent, amounts will be accumulated in the debt

service fund for payment when the bonds mature If this is the case, debt service

fund cash should be invested in order to earn interest revenues Material amounts of

interest receivable on investments should be accrued at year-end

Debt Service Accounting for Term Bonds

Term bond issues mature in their entirety on a given date, in contrast to serial bonds,

which mature in installments Term bond debt service requirements may be

deter-mined on an actuarial basis or on less sophisticated bases designed to produce

ap-proximately level payments during the life of the issue The annuity tables used for

an actuarial basis assume that the investments of a debt service fund earn interest at

a given percentage Accounting for a term bond debt service fund would be similar

to the method of accounting for a deferred serial bond issue

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Debt Service Accounting for Capital Lease Payments

Earlier in this chapter, the section headed “Acquisition of General Fixed Assets by

Lease Agreements” gave an example of the necessary entry in a governmental fund

at the inception of a capital lease

Commonly, governments use the General or a debt service fund to record capital

lease payments Like an annuity serial bond, part of each lease payment is interest at

a constant rate on the unpaid balance of the lease obligation, and part is a payment

on the principal Each annual payment on the capital lease in this example amounts

to $10,000; for the payment on January 1, 2013, assuming $5,759 is payment of

interest ($57,590 ⫻ 10) and $4,241 is payment on principal, the entry in the Debt

Service Fund would be as follows:

Expenditures—Interest 5,759

Expenditures—Principal 4,241

Cash 10,000

As indicated previously in this chapter, a worksheet entry would be made for the

government-wide statements, recording the fixed asset and capital lease obligation

at the present value of lease payments As a result of the above transaction, the

capi-tal lease obligation would be reduced by $4,241

For the payment on January 1, 2014, the interest would be ($57,590 ⫺ $4,241 ⫽

$53,349) ⫻ 10, or $5,335 (rounded), and the principal expenditure would be $4,665

($10,000 ⫺ $5,335)

Bond Refundings

Governments occasionally refund bonds, that is, issue new debt to replace old debt

This may be to obtain better interest rates, to get away from onerous debt covenants,

or to change the maturity of the debt A current refunding exists when new debt

is issued and the proceeds are used to call the existing debt Assume a government

wishes to refund debt with a new bond issue of $10,000,000 The entries to record

the replacement of the old debt with new would be:

Cash 10,000,000

Other Financing Sources—Refunding of Existing Debt 10,000,000

Other Financing Uses—Refunding of Existing Debt 10,000,000

Cash 10,000,000

Alternatively, an advance refunding exists when the proceeds are placed in an

escrow account pending the call date or the maturity date of the existing debt In

this case, the debt is said to be defeased for accounting purposes That means the

old debt is not reported in the financial statements and is replaced by the new debt

Extensive note disclosures are required for both current and advance refundings