The User's Perspective
The GASB Marks 25 Years of Standards-Setting
The Governmental Accounting Standards Board marks its 25th year of standards setting for state and local governments. To recognize the GASB’s silver anniversary, this article touches upon some of the more significant issues it has taken up since June 1984 and discusses how those efforts relate to the GASB’s mission to establish and improve accounting and financial reporting standards, with the ultimate aim of supporting the accountability relationship between governments and their constituents and making decision-useful information available publicly.
This article underscores that what guides the GASB are not simply lofty ideals that sound good on paper, but principles that are central to the work it has done year in and year out over the past quarter-century. With the benefit of hindsight it is possible to observe that perhaps one of the reasons the GASB’s efforts have been able to withstand the test of time is that it has been able to refocus its course in the short term without losing sight of the notions that guide it over the long term.
Getting to Work, Deliberately
Creating a new blueprint or model for the annual financial reporting was the dominant task given to the GASB when it assumed the mantle of standards setting from the National Council on Governmental Accounting in June 1984. Ultimately, it would take 15 years—from 1984 to 1999—to establish the model with Statement No. 34, Basic Financial Statements—and Management's Discussion and Analysis—for State and Local Governments.
Why did it take so long? W hile the GASB certainly strives to address accounting and financial reporting matters in a timely way, it is equally concerned with making sure that its constituents’ voices are heard during its extensive “due process” procedures. Furthermore, w orking on the model was not all that the GASB was doing during that time. During those intervening years it set forth nearly three dozen new standards of governmental accounting and financial reporting that formed the model’s foundation.
To ensure that Statement 34 would work, a great deal of care was taken to establish the proper foundation to support it. Statement No. 14, The Financial Reporting Entity, set the boundaries for what would be reported on in the new financial statements. Statement No. 33, Accounting and Financial Reporting for Nonexchange Transactions, laid out the necessary accounting and financial reporting for the most common governmental transactions—nonexchange transactions under which a government gives or receives value without directly receiving an offsetting amount in return. For example, when taxes are paid to a government, services generally are not received directly in return, nor necessarily in proportion to the amount paid. Likewise, most government services are provided without respect to how much each resident or business has paid in taxes. Before the types of financial statements that comprise the new model could be established, these and other critical accounting and financial reporting guidance needed to be completed.
Statement 14 was issued eight years before Statement 34. (Interestingly, the GASB is in the process of reviewing Statement 14 to ensure that it continues to provide decision-useful information. See the Statement 14 Reexamination project page.) The notion of the financial reporting entity as it is defined in Statement 14 is rooted in accountability. Financial reporting based on accountability should enable financial statement readers to focus on the body of organizations that are related by a common thread of accountability to its citizens. The financial statements of the reporting entity allow users to discern the primary government—such as a state, county, city—from its component units, legally separate entities for which the primary government is financially accountable. Public authorities that provide services such as mass transit, housing, and economic development are common examples of component units. Financial statements communicate information about component units and their relationship with the primary government without creating the perception that they are all one and the same.
When the financial reporting model project was finished—for which Statement 34 was the crowning achievement—users of financial statements could pull aside the curtain to get the big-picture view of a government’s finances for the first time, and see the cost of the services governments provide, including infrastructure costs. Another important innovation of the new model was that it required governments to present management’s discussion and analysis (MD&A) of financial activities during the year in narrative form. MD&A significantly changed how governments communicate financial information to citizens, the media, creditors, bond raters, legislative oversight bodies, and others interested in how a government is doing financially. (See the accompanying article in this issue about Statement 34.)
Is That All There Is?
Once Statement 34 was in place, there were certainly those who said "Bravo, GASB! Well done, mission accomplished…right?" The GASB certainly was pleased with the results of its work in establishing Statement 34. But the GASB knew that the new model would point out that standards did not exist to ensure that certain significant transactions would be accurately represented in the new accrual-based, government-wide financial statements. If Statements 1 through 33 are the foundation and Statement 34 the framework, then the GASB still needed to install the plumbing, electrical, and HVAC.
One also should be cognizant that the government environment is dynamic, not static. As practices change and innovations arise, the need for additional guidance may become apparent. For instance, the use of derivative rapidly increased in volume and value in the past decade. Hence, the GASB issued Statement No. 53, Accounting and Financial Reporting for Derivative Instruments, in June 2008.
The standards issued in the years after Statement 34 was established did not so much change the model as flesh it out and keep it up-to-date.Since 1999, the GASB has taken up a list of topics and specific transactions that arose from the new accrual-based financial reporting model, including other postemployment benefits (OPEB), pollution remediation obligations, and intangible assets, and from developments in the field, such as derivative instruments.
The GASB’s standards relating to pensions and OPEB—principally retiree healthcare—have drawn a great deal of attention and interest, perhaps because such vast amounts of money are at stake.Many governments provide their employees with postemployment benefits as a part of their total compensation package in order to attract and retain their services. Before the GASB developed its pension standards and the conceptually similar OPEB standards that came after them, localities promised these benefits without necessarily having a complete picture of what level of resources they were committing their taxpayers to provide.
Besides crafting a new financial report, the most significant task handed the GASB originally was developing standards for reporting pension benefits. The GASB’s pension standards—Statements No. 25, Financial Reporting for Defined Benefit Pension Plans and Note Disclosures for Defined Contribution Plans, and No. 27, Accounting for Pensions by State and Local Governmental Employers, were released in 1994. (Like Statement 14, the pension standards have been in effect long enough that the GASB is now evaluating their effectiveness and has issued an Invitation to Comment regarding the issues it has identified. See the Postemployment Benefits project page for more information.) The GASB then began to work on its standards for OPEB, but the work eventually was suspended temporarily in order to focus resources on completing Statement 34. The OPEB standards—Statements No. 43, Financial Reporting for Postemployment Benefit Plans Other Than Pension Plans, and No. 45, Accounting and Financial Reporting by Employers for Postemployment Benefits Other Than Pensions—ultimately were issued in 2004.
The standards that the GASB established for pensions and OPEB have been a significant advance in both accountability and the usefulness of information for making decisions. The costs of postemployment benefits are recognized each year as they are earned, a much more robust accounting of cost than simply reporting the amount actually contributed each year. The total long-term obligation is reported in the notes to the financial statements and in required supplementary information (RSI) schedules that follow the notes. The RSI schedules set the amount of the obligation in context by comparing it to (1) the amount of assets set aside to pay benefits in the future (the funded ratio) and (2) the total covered payroll. The notes also divulge useful information about how the actuarial estimates of obligations and costs are arrived at, including key assumptions and methods.
Pollution Remediation Obligations
The responsibility to clean up pollution or contamination—whether it involves removing mercury or lead contamination at a public grade school, or the asbestos tiling from city hall—can pose significant obligations with large price tags for governments. Prior to the issuance of GASB Statement No. 49, Accounting and Financial Reporting for Pollution Remediation Obligations , the application of contingent liability guidance was sporadic. Consequently, little or no information about these obligations appeared in financial reports until after the clean up was underway. As a result, the various users of financial reports were often in the dark about these potential demands on a government’s resources, and this meant that they had to make decisions based on incomplete information.
Application of guidance provided under the GASB’s standards on accounting and financial reporting for pollution remediation obligations often results in liabilities related to pollution remediation being reported in the financial statements earlier than before. Specifically, Statement 49 explains when pollution remediation-related obligations should be reported and how costs and liabilities related to those obligations should be determined. The Statement also requires note disclosures about the liabilities.
Statement 49 introduced a new method to determine the amounts to be reported as liabilities and expenses—the expected cash flow technique. This method identifies potential outcomes—in terms of the possible cash flows that may be necessary to remediate the pollution—and assigns probabilities to each potential outcome. A weighted average of the potential outcomes is reported as the liability and adjusted over time as more precise information becomes available about the likely actual outcome.
GASB Statement No. 51, Accounting and Financial Reporting for Intangible Assets, provided guidance for a concept first raised in Statement 34. Intangible assets in the governmental arena include easements (the right to use land for a specific purpose, such as building a highway), land use rights (such as the right to remove minerals or other resources from land), computer software, patents, and trademarks.
The identification of intangible assets as a kind of capital asset in Statement 34 prompted many questions about how to identify and report these assets. Statement 51 generally points toward applying the capital asset requirements of Statement 34 to intangible assets. The Statement provided new guidance for internally generated intangible assets, such as computer software, regarding how and when to capitalize the related outlays and recognize an asset. The Statement also addressed amortization issues that are unique to intangible assets. For instance, intangible assets that have indefinite useful lives (a perpetual water right, for example) should not be amortized at all.
Perhaps no aspect of government finance has changed more rapidly and consistently during the GASB’s lifetime than investments and other financial instruments. The GASB’s first major pronouncement—Statement No. 3, Deposits with Financial Institutions, Investments (including Repurchase Agreements), and Reverse Repurchase Agreements—was intended to provide users with information about the risks associated with the manner in which governments held and invested their financial assets. The effectiveness of this statement was reviewed by the GASB in 1999 and 2000. As a result of the research findings and after extensive due process, Statement No. 40, Deposit and Investment Risk Disclosures (an amendment of GASB Statement No. 3), was released in 2003.
Statement No. 31, Accounting and Financial Reporting for Certain Investments and for External Investment Pools, issued in 1997, established the requirement that most investments be reported in the financial statements at their fair value—essentially, what they would sell for in an open market between willing parties on a given date, or the net present value of their future cash flows. Furthermore, both the income from investments and the changes in their fair values from year to year would be reported as revenue.
One type of financial instrument that has garnered significant attention has been derivatives. Derivative instruments have been seen for years as innovative risk-spreading or investment tools, but ones that could carry significant new risks. GASB Technical Bulletin 94–1, Disclosures about Derivatives and Similar Debt and Investment Transactions, clarified that existing standards required governments to provide more information about their derivatives dealings than users were typically finding. Technical Bulletin 2003–1, Disclosure Requirements for Derivatives Not Reported at Fair Value on the Statement of Net Assets, required governments to disclosure significantly more information about the provisions of and risks associated with derivative instruments, including their fair value.
However, a requirement that derivatives be reported at fair value in the financial statements themselves did not exist until Statement 53, which requires governments to measure most derivative instruments at fair value as assets or liabilities in their accrual-based financial statements. The annual changes in fair value are reported as investment income, unless a derivative is an effective hedge—in other words, it substantially offsets the changes in cash flows or fair values of the outstanding debt, investment, or other hedgeable item. The fair value changes for effective hedging derivatives are accumulated and reported as deferrals, rather than as annual income, until the derivative ends, is terminated, or ceases to be effective.
In many ways, the GASB is still engaged in perfecting the financial reporting model, which took 15 years and numerous Statements to establish and has been improved upon during the subsequent 10 years by additional Statements. As it currently is doing with the reporting entity and pension standards, the GASB will continue to reexamine its pronouncements over time to test and, if necessary, improve their effectiveness.
“Will the GASB’s work ever be done?” That question can be answered in this way: As long as new transactions and financial instruments are being developed, there will be a need to establish and improve standards of state and local governmental accounting and financial reporting to guide how they should be accounted for and reported on by governmental entities.
While it is impossible to say with any certainty what the GASB’s Technical Plan will look like in another decade, let alone in another quarter-century, what we can say for certain is that as long as the GASB is entrusted with being the independent standards setter for state and local governments, it will continue to strive to establish high-quality standards that improve public accountability and give rise to more useful information for decision making for its constituents.