Accrual Accounting-Transition From Cash To Accrual

Transition from Cash to Accrual Accounting – Tarun Das
Transition from Cash to Accrual Accounting
This report describes the basic requirements and the steps

for successful transition from cash to accrual accounting.
Prof. Tarun Das1

Glocom Inc. (USA)
Strategic Planning Expert
Ministry of Finance
Government of Mongolia
November 2007
1
This report is primarily based on the Government Finance Statistics Manual 2001 (GFSM 2001) and a
working paper (IMF/WP/02/240) entitled “Performance Budgeting- Is Accrual Accounting Required” by
Jack Diamond, published by the International Monetary Fund (IMF), Washington, D.C. It may be
mentioned here that the present author was a Member of the Expert Group Meeting at IMF, Washington
D.C. in February 2001 to discuss the Draft GFS Manual 2001 and to incorporate final round changes and
conclusions in GFSM 2001 (refer the Preface by Mrs. Carol S. Carson, the then Director, Statistics
Department, IMF in the GFS Manual 2001, p.ix).The present author was also Country Reporter for India
on IMF Government Finance Statistics when he worked as Economic Adviser in the Ministry of Finance,
Government of India during 1989-2006.
Glocoms Inc. (USA) 1 MOF, Govt. of Mongolia


Prof. Tarun Das2
CONTENTS
Executive Summary
1. Different compilation approaches by member countries

1.1 Cash and Accrual Reporting
1.2 Data for IMF GFS Yearbook
2. Preconditions for the move to accrual
3. Steps for successful transition from cash to accrual accounting
4. Migration to IMF GFSM 2001 reporting
5. Current Status of IMF GFSM 2001 in Mongolia
Selected References
Annex-1: Capital Charges for the Government of Mongolia, Report by Jim

Yardley, Accounting Advisor and Andrew Hilton, Valuation Consultant, 25
November 2005.
2
This report is primarily based on the Government Finance Statistics Manual 2001 (GFSM 2001) and a
working paper (IMF/WP/02/240) entitled “Performance Budgeting- Is Accrual Accounting Required” by
Jack Diamond, published by the International Monetary Fund (IMF), Washington, D.C. It may be
mentioned here that the present author was a Member of the Expert Group Meeting at IMF, Washington
D.C. in February 2001 to discuss the Draft GFS Manual 2001 and to incorporate final round changes and
conclusions in GFSM 2001 (refer the Preface by Mrs. Carol S. Carson, the then Director, Statistics
Department, IMF in the GFS Manual 2001, p.ix).The present author was also Country Reporter for India
on IMF Government Finance Statistics when he worked as Economic Adviser in the Ministry of Finance,
Government of India during 1989-2006.


Professor Tarun Das
Executive Summary
Transition to an accrual based accounting and budgeting systems is an integral

part of overall fiscal reforms and wider public sector governance reforms.
However, as OECD (2002) concluded “accruals basis is not a magic bullet for
improving performance of the public sector. It is simply a tool for getting better
information about the cost of government. It needs to be used effectively and in
tandem with a number of other management reforms in order to achieve the
desired improvement in decision making in government.”
An accounting system performs two important functions. First, it provides an

account of the financial position of the government for the fiscal year as required
by the legal system to ensure accountability for public funds. Second, day-to-day
recording of government financial transactions provides useful information for
formulation of desired public policies and to aid management decision making.
It is generally recognized that an accrual accounting is better than cash

accounting as an accrual system identifies, measures and reveals all government
liabilities and revenues, both balance-sheet and off-balance-sheet items, which
may be concealed in cash accounting. Since accrual accounting also allows the
generation of cash accounts, these systems should not be regarded as mere
substitutes.
IMF GFSM 2001 recognizes that in a developing country like Mongolia with
constraints in resources, technical manpower and information technology,
transition to a full fledged accrual accounting and budgeting and GFSM 2001
reporting systems cannot be created overnight and have to be evolved through
various stages over a number of years. These stages span from a cash basis
accounting to cash-plus-accrual accounting (alternatively known as modified
accounting or partial accounting) to full accrual accounting. However, the
transitional path and the journey time can be shortened and better planned by
learning lessons from international experiences and best practices.
Migration to IMF GFSM 2001 reporting
Government of Mongolia already adopts some amount of accrual data,

particularly for government commitments towards terminal benefits of
government staff. It is also making an attempt to list and value physical assets.
Usually, the accounting of assets may not include common assets such as
infrastructure assets (e.g. roads, rails, sea ports, air ports, brides and water

supply). So, it will be opportune to adopt a “cash plus accruals” strategy based
on the availability of accrual-based data. The conversion path to the IMF GFSM
2001 reporting system and can follow the path outlined in Flow Chart-1.
Stage one: Restructure existing cash data
Without the need of additional data, cash data may be reorganized on the basis
of new statements required under IMF GFSM 2001. This will require preparing
operating statements and balance sheets (for details, see “Accrual Accounting
Rules for GFS” prepared by Tarun Das). In brief, taxes and other current
revenues, wages and salaries, purchases of goods and services, interests and
other current payments are included in a cash operating account. Purchases of
non-financial assets are classified to an investment account and changes in
financial assets and liabilities are shown in a separate financing account.
It is necessary to prepare consolidated general statement of financial position,

statement of financial performance, and cash flow statement. Attempts may also
be made to prepare consolidated public sector accounts.
• Adopt simplifying recognition rules
For revenue recognition, adopt a rule that is very close to cash realisation while
recognizing tax revenues on accrual basis. For expenses, do not adopt category
no.22 “use of goods and services” (see Flow Chart-1), and distinguish between
current expenditure and longer lasting materials assets acquisitions. In respect of
these assets, adopt a 100 percent first year depreciation rule (as used in
Canada). Also do not adopt category no.23 “consumption of fixed capital”, a
periodic depreciation of fixed assets.
Article 26.3 of the Public Sector Management and Finance Act (PSMFA, 27 June
2002) of Mongolia mandates that “Cost of outputs shall be determined on the
basis of full accrual cost of production, including management overheads and
capital charges”. In our opinion, inclusion of capital charge may not be necessary
for Mongolia as most of the surplus public assets have been privatized, and most
of the budgetary bodies do not have their own resources and depend on the
central government for investment.
The issues on depreciation and capital charges have earlier been examined by
international consultants Jim Yardley and Andrew Hilton in November 2005 (see
Annex-1). They concluded that “Capital charges and current value
accounting are complicated, expensive, and may not provide much benefit
in return.” Depreciation estimated on the basis of the book value of capital
investment may provide reliable and inexpensive approximations of capital
charge for five or ten years. We agree with their conclusions.
Stage two: Use partial accrual data

• Accommodate some elements of statement of economic flows
Most flows under this category involve revaluation of fixed and financial assets
and liabilities at market prices. At the early period, only some flows may be
recognized such as write-off of assets, revaluation of financial assets/ liabilities
due to exchange rate fluctuations, windfall gains/ losses due to natural disasters,
unforeseen accretion to wealth due to discovery of new mineral assets;
privatisation of corporations with unremunerative assets (by reclassification) etc.
• Progressive recognition of existing financial and nonfinancial assets.
A possible transition path is as follows: first priority is financial assets including

on-lending, and then easily quantifiable non-financial assets such as government
buildings and lands. The most difficult assets like public infrastructure assets
(e.g. roads, rails, air ports, sea ports etc.) would follow, but can be avoided for an
indefinite period, and can be assumed to be sunk capital stock. Only at the last
stage, a developing country like Mongolia may make an attempt to include
mineral resources and other hard-to-define assets like forest wealth, national
parks, and heritage assets. It may be mentioned here that even the developed
countries have not yet developed methodologies for valuation of heritage assets.
• Begin to replace cash transactions in the operating account by the

corresponding accrual transactions.
All liabilities, including contingent liabilities (like placed orders for supply), be
recognized as soon as they arise by opening account heads to capture accounts
receivable in revenues and accounts payable in expenses. The depreciation cost
could also be included as an expense for these assets. For this stage, it is
necessary to prepare GFSM 2001 compatible chart of accounts and to generate
new fiscal reports consistent with partial accrual accounting.
• Stage three: A progressive move to full accrual data.
GFSM 2001 recognizes that since GFS is a reporting system, it can differ in
many respects from the budgeting accounting systems of a country. It is possible
for a country (e.g. Australia) operating an accrual accounting system with
national accounting standards and coding structures, which are different from
those of GFSM 2001. Alternatively, it is possible to adopt GFSM 2001 accrual
based system but with significant dilutions of accrual concepts e.g. depreciating
new buildings 100 percent in the first year so as to reflect the entire capital cost
as an expenditure in the same fiscal year (as Canada); eliminating difference
between expense and expenditure by assuming immediate consumption of
stocks, or valuing heritage assets by a token value etc.
Flow Chart-1: Steps for Migration to IMF GFSM 2001

Source: Jack Diamond, IMF WP/02/240, Washington D.C., December 2002.


Professor Tarun Das
1. Different Compilation Approaches for Member Countries
The GFSM 2001 recommends recording economic stocks and flows on an

accrual basis. However, it is recognized that, in most countries, the development
of accrual information will take time. Therefore, for each sub-sector of general
government, a country may complete GFS tables according to the accounting
rules underlying the fiscal data currently being compiled by the reporting country.
The accounting method (cash, accrual or others) for each sub-sector of general
government should be indicated clearly.
Countries may use different approaches for compiling statistics in accordance

with the GFSM 2001 framework. The approaches may vary according to the
country’s accounting and budgeting practice, and the amount of resources
devoted to the process. Most governments currently use a cash basis of
recording in their accounting and budgeting systems. Some have started to use
an accrual basis of recording and others use various stages along a wide
spectrum between cash and accrual. The GFSM 2001 analytic framework,
though conceived from an accrual perspective, can be used to present data
generated by a variety of accounting practices.
1.1 Cash and Accrual Reporting
The majority of 133 countries reported cash data for publication in the
Government Finance Statistics Yearbook 2006, and will, most likely, continue to
do so for the foreseeable future. Beginning with the 2003 GFSY, the historical
cash data that were reported in accordance with the 1986 methodology are
published in the GFSM 2001 framework. The conversion of the historical cash
data to the framework of the GFSM 2001 results in a number of coverage and
classification gaps and does not lead to accrual accounting.
1.2 Data for IMF GFS Yearbook
Information for IMF GFS Yearbook requires that a country is required to provide
a brief description of the GFSM 2001 implementation status and plans of the
country. If a country plans to migrate to the GFSM 2001(or has already started
doing so), it is required to indicate the main steps of the plan and their target
dates. If a country has not yet developed plans to migrate to the GFSM 2001,
they may indicate so. Implementation of the GFSM 2001 can take numerous
forms and will depend on each country’s circumstances. For countries that have
data only on a cash basis, a first step could be to reclassify these data in the
GFSM 2001 framework. Introduction of accrual reporting can take the form of

either (i) the implementation of ad hoc adjustments to the cash data (for example,
the recognition of in-kind transactions and the accrual of interest) or (ii) the
implementation of accrual accounting for the source data.
2. Preconditions for move to accrual
As discussed in the earlier report on Accrual Accounting and Accrual Budgeting

(Tarun Das, October 2007), the experiences of the OECD countries indicate that
the implementation of accrual accounting is not easy; and it takes time and
requires political commitment. For any country, much preparatory works are
needed to launch the new accounting system. The costs and challenges of
introducing accrual accounting are great for most of the developing countries.
Complete and consistent accounting rules, methodology, standards, practices
and codes need to be developed. Information bases need to be built up and a
significant capacity building is required to upgrade the information technology, to
train the people preparing and using the new information and to enhance the skill
of accountants and auditors engaged in the job. In sum, a significant amount of
investment is required in introducing the accrual system and to reform the budget
management system to gain the full benefits.
For all these reasons, it is necessary to have full political commitment to move
towards accrual accounting. Ministers and politicians need to be convinced about
the benefits of accrual accounting as indicated in Box-1.
Box-1: Benefits of Accrual Accounting for Government
• Facilitate assessment of program performance by showing the full cost of programs

(including the capital costs and government’s future commitments towards the terminal
benefits of government employees).
• Facilitate assessment of financial position by recognizing all resources and all obligations.
• Enhance the accountability of management for their performance.
• Act as a spur to better performance management due to increased transparency.
• Provide a wider range of information needed for decision making.
• Enable more effective use to be made of a given level of resources.
• Provide a more effective basis for decisions about such matters as user charges for
government supply of goods and services, identifying savings options to finance high
priority objectives, and workplace contracts.

One example is the introduction of capital charge. Traditional budgets based on

cash accounting are very weak in asset management. A major change in accrual
accounting is to consider investments of assets and to account for depreciation
and capital charge. Alternative models for capital charge are shown in Table-1.
Table-1: Designs of Capital Use Charge

3. Steps for successful transition from cash to accrual accounting
Jack Diamond (IMF WP/02/240, December 2002) has suggested the following
steps for successful transition from cash to accrual accounting.
Stage one: Get cash accounting to work well.
This requires supplementing the cash accounts with items to improve fiscal
reporting and to introduce memoranda items for government’s future liabilities.
Stage two: Integrate operating accounts and financial asset and liability
accounts to move to modified accrual.
An essential requirement of modified accrual accounting is to introduce payables

and receivables in the government accounts.
• Accounts payable: This allows for the recording of liabilities that have not
resulted in the payment of cash in the current accounting period. It includes
goods delivered but not paid for and agreements to pay subsidies and grants
to the private sector.
• Accounts receivable: This allows for the recording of revenue earned by the
government that has not resulted in the receipt of cash although it is
sufficiently close to cash receipts. It includes taxes and non-tax revenues that
are due but not paid and also credit sales of goods and services.
Other measures required at this stage are indicated in Box-2.
Box-2: Measures involved in moving to modified accrual accounting

• Adopt a classification structure that facilitates the recording of revenues, expenses, assets,
liabilities and cash flows as per requirements by GFSM 2001.
• Ensure that the general ledger is based on double-entry system.
• Explore best option for recording and reporting selected assets and liabilities.
• Generate and agree trial balances.
• Establish process of reconciliation of assets and liabilities in the general ledger with
subsidiary records, such as accounts receivable and payable and fixed assets.
• Reconcile accounts with independent third party information where available (e.g. ledger
balances with bank statements).
• Publish statements of contingent liabilities and outstanding commitments as part of budget
documentation.
• Establish and train an asset valuation unit, which will develop appropriate valuation methods
and value all government financial assets.
• Prepare a list of government financial assets (initially at historic cost, unless market
valuation has already been done) including investments in all parastatals and liabilities.

Stage three: Introduce more elements of accrual recording and move to a

partial accounting presentation in ex post reporting.
At this stage the following additional items of accrual accounting could be

considered:
• Provisions for employee entitlements such as contributions to pension,

provident, insurance and terminal benefits funds for the government staff.
• Prepayments received by government: These receipts can range from

deposits on the sale of assets to installment payments on the provisions of
government goods and services.
• Interests payable: Interests on debt can be significant drain on budget

resources and simply recording interests when paid may not provide
adequate information on government liabilities for interest payments in future.
This is particularly the case with the zero coupon bonds (see Box-3).
At this stage of accrual accounting, ex post reporting of budget performance

would include a partial balance sheet with selected financial assets and liabilities,
and the adjusted cash flow operating statement would include some items on an
accrual basis.

Stage four: Recognize non-financial assets- final stage of accrual

accounting
The transition from recognizing only financial assets to recognizing both financial
and non-financial assets leads to greater complexities in the accounting process.
This requires development of valuation techniques and continual valuation of all
government non-financial assets, many of which may not be easily subjected to a
market related assessment of value. Once this task is accomplished,
depreciation can be charged as an expense.
At this stage, full accrual ex post reporting may include the following items:
• Operating performance statement showing how revenues and expenses

explain the change in the net stock of assets;
• Balance sheet of financial position at the beginning and at the end of the
accounting period;
• Cash flow statement showing cash flows embodied in assets, liabilities,
revenues and expenses distinguished by operations, investments like loans
and advances and the financing of cash flows through the issue of
government securities.
Stage five: Move from accrual accounting to accrual accounting and

budgeting
Accrual budgeting should be differentiated from accrual accounting. As of

December 2002, only New Zealand, Australia and Iceland had moved to a
system of output budgeting, while all other OECD countries were adopting only
accrual accounting, but budgets were prepared on cash basis. Major additional
information are required to shift from accrual accounting to accrual budgeting:
• Movements in cash and cash equivalents, the cash being spent on purchase
of assets and receipts for sale of assets, and estimated financial
transactions;
• Movements in inventories, receivables, payables, employee entitlements

and other liabilities; and
• Details of asset depreciation policies.
Accrual budgets will show projected cash flow (as traditional budgets),
projected revenues, expenses, and operating statement; and projected
assets, liabilities, and equity in the statement of financial position.

4. Migration to IMF GFSM 2001 reporting
Mongolia already adopts some amount of accrual data, particularly for

government commitments towards terminal benefits of government staff. It is also
making an attempt to list and value physical assets. Usually, the accounting of
assets does not include common assets such as infrastructure assets (e.g.
roads, brides and water supply). So, it will be opportune to adopt a “cash plus
accruals” strategy based on the basis of available data. The conversion path to
the IMF GFSM 2001 reporting can follow the path outlined in Flow Chart-1.
Stage one: Restructure existing cash data
Without the need of additional data, cash data may be reorganized on the basis
of new statements required under IMF GFSM 2001. This will require preparing
operating statements and balance sheets (for details, see “Accrual Accounting
Rules for GFS” prepared by Tarun Das). In brief, taxes and other current
revenues, wages and salaries, purchases of goods and services, interests and
other current payments are included in a cash operating account. Purchases of
non-financial assets are classified to an investment account and changes in
financial assets and liabilities are shown in a separate financing account. It is
necessary to prepare consolidated general govt financial statement and make an
attempt to prepare consolidated public sector accounts.
• Adopt simplifying recognition rules
For revenue recognition, adopt a rule that is very close to cash realisation while
recognizing tax revenues on accrual basis. For expenses, do not adopt category
no.22 “use of goods and services” (Flow Chart-1). Distinguish between current
expenditure and longer lasting materials assets acquisitions. In respect of these
assets, adopt a 100 percent first year depreciation rule (as used in Canada). Also
do not adopt category no.23 “consumption of fixed capital”, a periodic
depreciation of fixed assets. Article 26.3 of Mongolia PSMFA (27 June 2002)
mandates that “Cost of outputs shall be determined on the basis of full accrual
cost of production, including management overheads and capital charges”. In our
opinion, inclusion of capital charge may not be necessary as most of the surplus
public assets have been privatized, and most of the budgetary bodies donot have
their own resources and depend on the central government for investment.
The issues on depreciation and capital charges have earlier been examined by
international consultants Jim Yardley and Andrew Hilton in November 2005 (see
Annex-1). They concluded that “Capital charges and current value
accounting are complicated, expensive, and may not provide much benefit
in return.” However, depreciation estimated on the basis of the book value of
capital investment may provide reliable and inexpensive approximations of
capital charge for five or ten years. We agree with their conclusions.

Stage two: Use partial accrual data
• Accommodate some elements of statement of economic flows
Most flows under this category involve revaluation of fixed and financial assets
and liabilities at market prices. At the early period, only some flows may be
recognized such as write-off of assets, revaluation of financial assets/ liabilities
due to exchange rate fluctuations, windfall gains/ losses due to natural disasters,
unforeseen accretion to wealth due to discovery of new mineral assets;
privatisation of corporations with unremunerative assets (by reclassification) etc.
• Progressive recognition of existing financial and nonfinancial assets.
A possible transition path is as follows: first priority is financial assets including

on-lending, and then easily quantifiable non-financial assets such as government
buildings and lands. The most difficult assets like public infrastructure assets
(e.g. roads, rails, air ports, sea ports etc.) would follow, but can be avoided for an
indefinite period, and can be assumed to be sunk capital stock. Only at the last
stage, a developing country like Mongolia may make an attempt to include
mineral resources and other hard-to-define assets like forest wealth, national
parks, and heritage assets. It may be mentioned here that even the developed
countries have not yet developed methodologies for valuation of heritage assets.
• Begin to replace cash transactions in the operating account by the

corresponding accrual transactions.
All liabilities, including contingent liabilities (like placed orders for supply), be
recognized as soon as they arise by opening account heads to capture accounts
receivable in revenues and accounts payable in expenses. The depreciation cost
could also be included as an expense for these assets. For this stage, it is
necessary to prepare GFSM 2001 compatible chart of accounts and to generate
new fiscal reports consistent with partial accrual accounting.
• Stage three: A progressive move to full accrual data.
GFSM 2001 recognizes that since GFS is a reporting system, it can differ in
many respects from the budgeting accounting systems of a country. It is possible
for a country (e.g. Australia) operating an accrual accounting system with
national accounting standards and coding structures, which are different from
those of GFSM 2001. Alternatively, it is possible to adopt GFSM 2001 accrual
based system but with significant dilutions of accrual concepts e.g. depreciating
new buildings 100 percent in the first year so as to reflect the entire capital cost
as an expenditure in the same fiscal year (as Canada); eliminating difference
between expense and expenditure by assuming immediate consumption of
stocks, or valuing heritage assets by a token value etc.

Box-4: Steps for Migration to IMF GFSM 2001

5. Present Status of GFSM 2001 in Mongolia
The following table, obtained from the Government Finance Statistics Year Book
published by the International Monetary Fund, provides the Fiscal Statements
for Mongolian General Government sector for the year 2003 (January-
December) as per GFS Accounting standards. However, it has the following two
limitations: (a) It does not estimate the Consumption for Fixed Capital, and (b) It
does not provide the Statement for Cash Balance for 2003 (in this table the cash
balance is given for 2002, but not for the year 2003).
GFS Accounts for Mongolia General Government (GG) 2003 in Billion MNT
Billion B. Statement of sources and
A. Statement of govt operations MNT uses of cash (2002) Billion MNT
1 Cash receipts from
1. Revenue 599.94 operating activities 489.77
2. Expense 465.85 11 Taxes 287.27
GOB Gross operating balance (1-2) 134.09 12 Social securities 54.93
Less Consumption of fixed capital 0 13 Grants 19.31
NOB Net operating balance 134.09 14 Other receipts 128.26
2 Cash payments for
31 Net acquisition of nonfinancial assets 139.02 operating expenses 402.92
NLB Net lending/ borrowing (NOB-31) -4.93 21 Compen. of employees 112.1
32 Net acquisition of financial assets 54.86 22 Purchase of goods/services 163.93
33 Net incurrence of liabilities 63.22 24 Interest 20.04
NLB Statistical discrepancy 3.43 25 Subsidies 8.79
Statement of other economic flows 26 Grants 0.62
Balance sheet 27 Social Benefits 90.62
6 Net worth -449.42 28 Other payments 6.82
CIO Net cash inflow from
61 Nonfinancial assets 1306.79 oper.activities 86.85
31.1 Purchases of
62 Financial assets 0 nonfinancial assets 99.65
63 Liabilities 1756.21 31.2 Sales of nonfinan. assets 0
31 Net cash outflow from
investments in nonfinancial 99.65
assets
CSD Cash surplus/ deficit -12.8
32x Net acquisition of
fin.assets,excl.cash 37.04
321x Domestic 36.74
322x Foreign 0.3
323 Monetary gold and SDR 0
33 Net incurrence of liability 65.36
331 Domestic -16.86
332 Foreign 82.22
NFB Net cash inflow from
financial activities 28.32
NCB Net change in the stock
of cash 15.52
CSD Statistical discrepancy 0

Billion Table-2 Expense by economic Billion

Table-1 Revenue MNT type MNT
1 Revenue 599.94 2 Expense 465.85
21 Compensation of
11 Taxes 353.69 employees 142.92
111 taxes on income, profits, capital gains 97.58 211 Wages and salaries 117.34
1111 Individuals 28.8 212 Social contributions 25.58
1112 Corporations and other enterprises 68.78 22 Use of goods and services 178.23
23 Consumption of fixed
112 Taxes on payroll and workforce 0 capital 0
113 Taxes on property 12.66 24 Interest 17.65
114 Taxes on goods and services 209.96 25 Subsidies 9.38
1141 General taxes on goods and services 121.87 26 Grants 0.73
1142 Excises 58.58 261 To foreign governments 0
262 To international
115 Taxes on Intnl. trade & transactions 32.65 organisations 0.72
263 To other general govt
116 Other taxes 0.84 units 0.01
12 Social contributions 90.84 2631 Current 0.01
121 Social security contributions 90.84 2632 Capital 0
122 Other social contributions 0 27 Social Benefits 116.81
13 Grants 8.73 28 Other expense 0.13
281 Property expense other
131 From foreign governments 8.66 than interest 0
282 Miscellaneous other
132 From international organisations 0.06 expense 0.13
133 For other general govt units 0.01 2821 Current 0.13
14 other revenue 146.68 2822 Capital 0

Table-3 Transactions in assets &

liabilities Table-6 Balance Sheet
3 Change in net worth from transacts. 6 Net worth -449.42
31 Net acquisition of nonfinl. assets 139.02 61 Nonfinancial assets 1306.79
311 Fixed assets 100.14 611 Fixed assets 1140.59
3111 Buildings and structures 96.77 6111 Building and structures 788.79
3112 Machinery and equipment 1.38 6112 Machinery & equipment 309.16
3113 Other fixed assets 1.99 6113 Other fixed assets 42.64
312 Inventories 38.01 612 Inventories 165.97
313 Valuables 0 613 Valuables 0
314 Nonproduced assets 0.87 614 Nonproduced assets 0.23
3141 Land 0 6141 Land 0
3142 Subsoil assets 0 6142 Subsoil assets 0
3143 Other naturally occurring assets 0.64 6143 Other natural assets 0
3144 Intangible nonproduced assets 0.23 6144 Intangible nonprd. asset 0.23
32 Net acquisition of financial assets 54.86 62 Financial assets
by instruments by instruments 1477.94
3202 Currency and deposits 160.4 6202 Currency and deposits 162.96
3203 Securities other than shares 0 6203 Securities except shares 0
3204 Loans 19.17 6204 Loans 931.38
3205 Shares and other equity -19.37 6205 Shares and other equity 357.7
3206 Insurance technical services 0 6206 Ins. technical reserves 0
3207 Financial derivatives 0 6207 Financial derivatives 0
3208 other accounts receivables 0 6208 Other accounts payable 25.9
By debtor By creditor 1477.94
321 Domestic 62.67 621 Domestic 1477.94
322 Foreign -7.81 622 Foreign 0
323 Monetary gold and SDR 0 623 Monetary god and SDR 0
33 Net incurrence of liabilities 63.22 63 Liabilities 1756.21
by instruments by instruments
3302 Currency and deposits 0 6302 Currency and deposits 0
3303 Securities other than shares 78 6303 Securities except shares 108.84
3304 Loans -22.66 6304 Loans 1626.92
3305 Shares and other equity 0 6305 Shares and other equity 0
3306 Insurance technical reserves 0 6306 Insurance tech. services 0
3307 Financial derivatives 0 6307 Financial derivatives 0
3308 Other accounts payable 0 6308 other accounts payable 20.45
By creditor By debtor
331 Domestic 162.98 631 Domestic 320.72
332 Foreign -99.76 632 Foreign 1435.49
Table 4 Holding gains in assets & liabl. Memo. items
Table-5 Other changes in the volume of 6M2 Net financial worth -278.28
assets and liabilities 6M3 Debt at market value n.a.
6M35 Debt at face value n.a.
6M4 Debt at nominal value n.a.
6M5 Arrears n.a.
6M6 Obligation for social
security n.a.
6M7 Contingent liabilities n.a.

(for Table-8 Transactions in

Table-7 Outlays by functions of govt. 2002) financial assets
7 Total outlays 502.58 and liabilities by sector
82 Net acquisition of
701 General public services 88.94 financial assets 54.87
7017 Public debt transactions 20.04 821 Domestic 62.68
7018 General transfers between levels of
govt 0 8211 General government -35.3
702 Defense 24.91 8212 Central bank 58.57
8213 Other depository
703 Public order and safety 29.76 corporations 20.37
8214 Financial corporations
704 Economic affairs 95.88 n.i.e. 0
8215 Nonfinancial
7042 Agriculture and allied 15.07 corporations 15.81
8216 Households & NPIs
7043 Fuel and energy 17.28 serving households 3.23
7044 Mining, manufacturing, construction 3.57 822 Foreign -7.81
7045 Transport 31.78 8221 General government 0
8227 International
7046 Communications 20.4 organisations 0
8228 Financial operations
705 Environmental protection 1.47 other than -7.81
international
706 Housing and community services 7.57 organisations
707 Health 52.54 8229 Other non-residents 0
7072 Outpatient services 48.7 823 Monetary gold and SDR 0
83 Net incurrence of
7073 Hospital services 0 liabilities 63.22
7074 Public health services 3.84 831 Domestic 162.98
708 Recreation, culture and religion 15.88 8311 General government -34.73
709 Education 88.23 8312 Central bank 169.28
8313 Other depository
7091 Pre-primary and primary education 67.25 corporations 19.55
8314 Financial corporations
7092 Secondary education 15.12 n.i.e. 0
8315 Nonfinancial
7094 Tertiary education 5.86 corporations 8.88
8316 Households & NPIs
710 Social protection 97.4 serving households 0
7 Statistical discrepancy, total outlay 0 832 Foreign -99.76
8321 General government 0
8327 International
organisations 0
8328 Financial operations
other than 0
international
organisations
8329 Other non-residents -99.76

Selected References
Das, Tarun (2007a) Accrual Accounting and Accrual Budgeting- Basic Concepts
and Methodology, pp.1-43, Ministry of Finance, Government of Mongolia,
Ulaanbaatar, October 2007.
_______ (2007b) Accrual Accounting Rules for Government Finance Statistics,

Ministry of Finance, Government of Mongolia, Ulaanbaatar, December 2007,
under preparation.
_______ (2007c) Accrual Accounting and Government Finance Statistics

Glossary, Ministry of Finance, Government of Mongolia, Ulaanbaatar, December
2007, under preparation.
Dees, Martin and Paul Neelissen (2004) Five Countries Pioneering Accrual
Budgeting and Accounting in Central Government, International Journal of
Auditing, January 2004
Diamond, Jack (2002) Performance Budgeting: Is Accrual Accounting

Required?, Working Paper WP/02/240. Washington, DC: IMF.
International Federation of Accountants (IFAC) (1996) Perspectives on

Accrual Accounting. Occasional Paper 3, Public Sector Committee, New York.
______ (1998) Guidelines for Government Financial Reporting, Public Sector

Committee, New York.
______ (2002) Transition to the Accrual Basis of Accounting: Guidelines for

Governments and Government Entities, Study 14, New York.
International Monetary Fund (2001) Government Finance Statistics Manual

(GFSM) 2001, International Monetary Fund (IMF), Washington D.C., USA.
_______ (2002) Government Finance Statistics 2001 Companion Material.

Washington, DC.
_______ (2005) Balance of Payments Manual, Washington, DC.
_______ (2006a) Government Finance Statistics (GFS) Yearbook 2006,

International Monetary Fund (IMF), Washington D.C., USA.
_______ (2006b) Government Finance Statistics (GFS) Yearbook 2006

Accompanying Document, international Monetary Fund (IMF), Washington D.C.

_______ (2007a) Monetary and Financial Statistics Manual (MFSM),

Washington, DC.
_______ (2007b) Monetary and Financial Statistics (MFS): Compilation Guide,

Washington, DC.
Lakshman Athukorala, S. and Barry Reid (2003) Accrual Budgeting and

Accounting in Government and its Relevance for Developing Member Countries,
Asian Development Bank, Manila.
OECD Public Management Committee (2002) Accrual Accounting and

Budgeting: Key Issues and Recent Developments, prepared for the Twenty-third
Annual Meeting of OECD Senior Budget Officials at Washington D.C., 3-4 June
2002, published by the PUMA/SBO (2002)10, Paris.
Yardley, Jim and Andrew Hilton (2005) Capital Charges for the Government of
Mongolia, pp.1-5, Consultancy Report prepared for the Ministry of Finance,
Government of Mongolia, Ulaanbaatar, 25 November 2005.
_______________________________________________________________________
_

Annex-1
Capital Charges for the Government of Mongolia
Jim Yardley, Accounting Advisor, and

Andrew Hilton, Valuation Consultant
25 November 2005
Government is considering the implementation of a system of capital charges.

The objective is twofold:
• To encourage the sale of excess government assets, and
• To assess the full cost of delivering services by budgetary bodies.
The purpose of this paper is to discuss the use of capital charges to accomplish
these objectives and to describe alternative methods that could achieve similar
results. The resulting recommendation is that government should not implement
a system of capital charges. Alternative methods can achieve the objectives at a
lower cost.
Sale of Excess Assets
Capital charges assist in the identification and sale of excess assets as follows:
• Capital charges are computed by multiplying a rate times the value of

assets and reporting the charge as an expense for the period. If a
budgetary body has a large asset value, its capital charge will be large.
To avoid a large charge each period, management will dispose of
excess assets.
This scenario assumes:
1. The capital charges are large enough relative to the budgetary body’s
financial performance to make a difference.
2. A system is in place to evaluate management’s financial performance and
the evaluation has serious consequences for management.
First assumption
To meet the first assumption, the asset value used to compute capital charges
must be current market value. An alternative asset value is book value.
However, book value is inappropriate for this purpose.
Traditionally, the purpose of financial reporting is to measure income (or revenue

and expenses in the case of government) using the matching principle. Matching

means that expenditure is subtracted from revenue in the period that revenue is
earned. If expenditure is incurred now to earn revenue in the future, the
expenditure is not charged against current revenue; it is held in the balance
sheet as the “value” of an asset.
As revenue generated by the expenditure is earned, portions of the expenditure

are matched against revenue on the income statement. A book value,
traditionally, is simply a past expenditure that is waiting to be matched with
revenue. For government, an asset is a past expenditure that will be matched
with service delivery in the future.
Book value is not an attempt to value an asset; it is a measure of past

expenditure that has not been used to provide service. Depreciation is a process
of allocation and is not a process of valuation.
For the purpose of identifying excess assets, computing capital charges using
book value will not work. The book value decreases as the asset ages. Excess
assets probably are older assets that still have market value but have little book
value. Capital charges based on book value would not be large enough to make
a difference in the financial performance of a budgetary body.
Current market valuation is an expensive process. Accountants are not trained

to perform asset valuations and do not have the time to perform the number of
valuations required. If current market values are used in the financial
statements, international accounting standards require re-valuation every five
years.
We estimate that, if current value accounting is implemented for government

buildings only, the cost to government will be approximately $100,000 every
year. If all government assets are current valued, the cost multiplies. This cost
will be even greater if valuations are performed more often than every five years;
five years is sufficient for accounting standards but may not be sufficient for
identification of excess assets.
Second assumption
The second assumption is that management’s financial performance will be

assessed using capital charges and serious consequences will result from the
evaluation. The evaluation of financial performance using financial statements is
a complicated analysis that requires appropriate educational background, training
and experience. It helps to have an accounting background with additional
education in finance and management. The consequences must be carefully
considered so that management receives a reprimand but service delivery of the
budgetary body is not disturbed. The processes for evaluating and imposing
consequences are not yet established and may prove difficult.

An alternative method
An alternative method for identifying excess assets and assuring fair value when
they are sold is a combination of regularly scheduled performance audits and
proper asset disposal procedures.
A performance management system should be supported by regular

performance audits – similar to financial audits. Performance audits can include,
as an audit objective, the discovery of excess assets. Every five years, this
objective can be included in the performance audit to identify excess assets. Any
excess assets that are discovered can be scheduled for sale.
Government should have procedures regarding the sale of government assets.

Usually these procedures include a valuation by a professional valuator. If so, at
the time of the sale of an asset, a current valuation is available. All assets are
not valued; only those assets identified for sale are valued at the time of their
sale to assure that government receives approximate fair value on the sale.
A system of performance auditing and procedures for sale of government

property should prevent the build-up of excess assets and assure that
government receives fair value for assets sold. This system should cost
considerably less, be more reliable, and provide more relevant information than a
system of capital charges. We recommend this alternative method to a system
that requires current values for all assets and computes capital charges.
Determining Full Cost
An important aspect of performance management assessment by government is

determining the full cost of providing services. Cash expenditures are easiest to
measure, but full cost is not properly reflected in cash expenditures. Capital
charges attempt to measure the cost of government’s capital investment in a
budgetary body.
Using capital charges as a measure of government’s capital costs assumes:

1. Capital charges provide a meaningful measure of cost of capital.
2. Management has the ability to control the capital charges.
First assumption
In a business environment, capital charges are usually based on the equity

invested in an entity and not on the current value of the assets purchased by the
equity. The current value of an asset is unrelated to the capital provided.
Rather, the current value of assets is a function of the marketplace for those
assets. Often neither the investor nor the entity has control over changes in
current value. Therefore, most businesses do not measure return on invested

capital, or evaluate management, by assessing current value of assets held by

an entity.
In government, however, there is no equity investment. It is presumed that the

annual “investment” (i.e., the budget) is spent during the year. If accrual
accounting is employed, a net asset amount (total assets – total liabilities) serves
as a balancing figure on the balance sheet instead of equity. However, net asset
is not equity; it is not a measure of government’s investment in the entity. In fact,
for many governments, liabilities exceed assets and the net asset figure
approximates national debt.
If current value of assets is used as a substitute for government’s equity, a

greater distortion is introduced. Current value does not represent government’s
capital investment in the entity. Government’s capital investment is the cost of
the asset and not the current value. Current value represents equity only if sale
of the asset is eminent.
Second assumption
If management is held responsible for financial performance, and part of financial

performance is capital charges based on current values, management is being
held responsible for changes in asset values that management cannot control.
Given that management cannot control asset values, what flexibility will
government give management to react to value changes?
For example, assume that a budgetary body occupies a building that is in a

valuable location. The budgetary body is charged a large sum for occupying a
building with such large current value. If management determines that the
location is too costly, can management decide to move to a less costly location?
If not, management has no control over financial performance and cannot be
held accountable. But, as discussed previously, capital charges effectively
identify and lead to the disposal of excess assets only if management faces
consequences when capital charges are too high.
An alternative method
Depreciation is a charge for prior expenditure to the current cost of delivering

services. If prior expenditure is government’s investment, depreciation is an
estimated charge for that investment. In fact, the calculation of capital charges
and straight-line depreciation are identical: multiple a base number times an
estimated rate. The only difference is the amounts.
If current value of assets is measured every five years, the capital charge
computed each year between valuations is straight-line depreciation. For assets
with a useful life of five years or less, capital charging is irrelevant. Cost and
current value are the same at time of purchase, and depreciation approximates a
capital charge.

Long-lived assets, like buildings and equipment, may still have value after they
are fully depreciated. However, when an asset is fully depreciated, its estimated
useful life is over. If that asset continues in use, the cost of repair and
maintenance increases dramatically.
Older buildings, for example, must be continually repaired; wiring and fixtures
must be updated; walls must be moved and removed. If the cost of
improvements is significant, the additional investment is capitalized in the cost of
the building and depreciated. Otherwise, the annual financial performance
reflects the repair and maintenance costs. All of these costs are at current value.
For older assets, increased repair and maintenance charges and/or additional
depreciation charges are analyzed by management. When the amounts are
larger than the annual depreciation charges of a replacement, management
should purchase a new asset. Each year, repair and maintenance costs and
depreciation charges provide an estimate of the cost of holding assets.
We recommend this alternative method for estimating full-cost.
Conclusion
Is depreciation a best estimate of capital charge? Is book value a best

estimate of capital investment? May be not, but they are reliable,
inexpensive approximations that provide decent information for five or ten
years.
Is current value a better estimate of capital investment? Is a percentage of

current value a better estimate of capital charges? Maybe, but is the benefit of a
better estimation worth the additional cost?
The danger inherent in current value is that management is being evaluated on

uncontrollable variables. The danger inherent in capital charges is that
management may be discouraged from investing in the future. There are
consequences to current value and capital charges; not all are intended or
desirable.
Capital charges and current value accounting are complicated, expensive,

and may not provide much benefit in return.

Accrual Accounting-Transition From Cash To Accrual

Uploaded by

Document Information

Original Description:

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Accrual Accounting-Transition From Cash To Accrual

Uploaded by

Copyright:

Available Formats

Transition from Cash to Accrual Accounting – Tarun Das

Transition from Cash to Accrual Accounting

This report describes the basic requirements and the steps

Prof. Tarun Das1

Glocoms Inc. (USA) 1 MOF, Govt. of Mongolia

Transition from Cash to Accrual Accounting

1. Different compilation approaches by member countries

2. Preconditions for the move to accrual

3. Steps for successful transition from cash to accrual accounting

4. Migration to IMF GFSM 2001 reporting

5. Current Status of IMF GFSM 2001 in Mongolia

Annex-1: Capital Charges for the Government of Mongolia, Report by Jim

Glocoms Inc. (USA) 2 MOF, Govt. of Mongolia

Transition from Cash to Accrual Accounting

Transition to an accrual based accounting and budgeting systems is an integral

An accounting system performs two important functions. First, it provides an

It is generally recognized that an accrual accounting is better than cash

Migration to IMF GFSM 2001 reporting

Government of Mongolia already adopts some amount of accrual data,

Glocoms Inc. (USA) 3 MOF, Govt. of Mongolia

Stage one: Restructure existing cash data

It is necessary to prepare consolidated general statement of financial position,

• Adopt simplifying recognition rules

Glocoms Inc. (USA) 4 MOF, Govt. of Mongolia

• Accommodate some elements of statement of economic flows

• Progressive recognition of existing financial and nonfinancial assets.

A possible transition path is as follows: first priority is financial assets including

• Begin to replace cash transactions in the operating account by the

• Stage three: A progressive move to full accrual data.

Flow Chart-1: Steps for Migration to IMF GFSM 2001

Glocoms Inc. (USA) 5 MOF, Govt. of Mongolia

Source: Jack Diamond, IMF WP/02/240, Washington D.C., December 2002.

Glocoms Inc. (USA) 6 MOF, Govt. of Mongolia

Transition from Cash to Accrual Accounting

1. Different Compilation Approaches for Member Countries

The GFSM 2001 recommends recording economic stocks and flows on an

Countries may use different approaches for compiling statistics in accordance

1.1 Cash and Accrual Reporting

1.2 Data for IMF GFS Yearbook

Glocoms Inc. (USA) 7 MOF, Govt. of Mongolia

2. Preconditions for move to accrual

As discussed in the earlier report on Accrual Accounting and Accrual Budgeting

Box-1: Benefits of Accrual Accounting for Government

• Facilitate assessment of program performance by showing the full cost of programs

• Enhance the accountability of management for their performance.

• Act as a spur to better performance management due to increased transparency.

• Provide a wider range of information needed for decision making.

• Enable more effective use to be made of a given level of resources.

Source: Jack Diamond, IMF WP/02/240, Washington D.C., December 2002.

Glocoms Inc. (USA) 8 MOF, Govt. of Mongolia

One example is the introduction of capital charge. Traditional budgets based on

Table-1: Designs of Capital Use Charge

Source: Jack Diamond, IMF WP/02/240, Washington D.C., December 2002.

Glocoms Inc. (USA) 9 MOF, Govt. of Mongolia

3. Steps for successful transition from cash to accrual accounting

Stage one: Get cash accounting to work well.

An essential requirement of modified accrual accounting is to introduce payables

Other measures required at this stage are indicated in Box-2.

Box-2: Measures involved in moving to modified accrual accounting

Glocoms Inc. (USA) 10 MOF, Govt. of Mongolia

Stage three: Introduce more elements of accrual recording and move to a

At this stage the following additional items of accrual accounting could be