CHAPTER 17

Introduction to Fund Accounting

BRIEF OUTLINE
17.1 Introduction 17.5 Fund Accounting
17.2 Classifications of Nonbusiness Organizations 17.6 Reporting Inventory and Prepayments in the Financial
17.3 Distinctions between Nonbusiness Organizations Statements
and Profit-Oriented Enterprises Appendix: City of Atlanta Partial Financial Statements
17.4 Financial Accounting and Reporting Standards (Available online at www.wiley.com/collete/jeter)
For Nonbusiness Organizations

INTRODUCTION

The topics we’ll cover in the next three chapters are probably very new to you – the study of accounting
for nonbusiness entities. What’s a nonbusiness entity? FASB says any organization that doesn’t have
profit as its ultimate goal is not a business, so that means all organizations like the college or university
where you go to school, the hospital where you were born, and the church, synagogue, or mosque where
you might attend religious services are probably all nonbusiness organizations. A big group of
nonbusiness organizations are the federal, state and local government entities that we see working all
around us. It’s that group we’ll look at first.

CHAPTER OUTLINE

17.1 Introduction
1. Fund accounting is accounting for nonbusiness organizations
2. Nonbusiness organizations are economic entities that are organized to provide socially
desirable services without regard to financial gain.
17.2 Classifications of Nonbusiness Organizations
A. Governmental units
1. Federal government entities
2. State government entities
3. Local government entities
a. Counties
b. Townships
c. Municipalities
d. School districts
e. Special districts – port authority, sanitation district, etc.
B. Hospitals and other health care providers
1. Hospitals
2. Clinics
3. Nursing care facilities
C. Colleges and universities
D. Voluntary health and welfare organizations
1. Many people would refer to these as charities
2. They usually operate on donations from the general public
3. Most are identifiable charitable organizations – American Heart Association, Diabetes
Foundation, American Cancer Society
E. All other nonbusiness organizations
1. A wide variety of organizations
2. Trade associations or unions – AFL-CIO, Teamsters
Study Guide to accompany Jeter and Chaney, Advanced Accounting

3. Professional associations – AICPA, ABA, AMA

4. Arts organizations – performing arts, museums
5. Religious organizations – churches, etc. and church-related charities
6. Research and scientific organizations
17.3 Distinctions between Nonbusiness Organizations and Profit-Oriented Enterprises
A. Some characteristics of nonbusiness organizations
1. Earning a profit is not the primary goal of a nonbusiness organization
2. These organizations are often called nonprofit or not-for-profit
3. People who contribute to the organization don’t get any equity
4. The people who receive services from the nonbusiness organization often are not charged
for those services
5. The people who donate often don’t get any tangible return
6. We can’t use the net income concept because the expense recognition (matching)
principle doesn’t work anymore
B. There’s a regulator in a for-profit organization
1. In the long-run, a business must operate profitably to survive
2. In the short-run, the goal of profitability can affect management decision making
C. There’s no regulator in a nonbusiness organization
1. There are more controls
a. Some controls are legally imposed
b. Some controls are imposed by the governing board
2. Resources for nonbusiness organizations are often restricted
a. Funds received for a specific purpose – designated grants or gifts
b. Funds may not be spent, but any income received on the funds may be used –
endowment
D. Fund accounting – a very specific accounting method which addresses the differences of a
nonbusiness organization
1. Separates accounting for assets, liabilities and fund balance (“equity”)
2. Many separate accounting entities (funds) can be found inside a single nonbusiness
organization
17.4 Financial Accounting and Reporting Standards for Nonbusiness Organizations
A. History
1. For many years, no one paid too much attention to accounting standards for nonbusiness
organizations. The standards were not established by one unique standard setting body.
2. In 1980, FASB issued SFAC No. 4, “Objectives of Financial Reporting by Nonbusiness
Organizations.”
3. In 1984, the Financial Accounting Foundation created GASB – the Governmental
Accounting Standards Board – an entity similar to FASB
a. GASB’s purpose is to create a conceptual framework for governmental accounting,
starting with the primary objective of accounting for governmental units
b. GASB is also charged with promulgating standards for governmental accounting
which are consistent with the new conceptual framework
B. Current status
1. GASB – responsible for standard setting for all governmental units, including federal and
state hospitals and state universities
2. FASB – responsible for standard setting for all nonbusiness organizations except
governmental units
3. There is some confusion because of the different standards
4. In 2009, the Federal Accounting Standards Board (FASAB) issues Statement of Federal
Financial Accounting Standards 36, “Reporting Comprehensive Long-term Fiscal
Projections for the U.S. Government”

17-2
 CHAPTER 17 – Introduction to Fund Accounting

a. titled the ‘sustainability project’.

b. required a basic financial statement, supplementary information, and disclosures by
the U.S. Government.
5. Chapters 17 and 18 cover governmental accounting, Chapter 19 looks at nongovernment
nonbusiness organizations
17.5 Fund Accounting
A. Introduction
1. Fund accounting is used mostly for internal reporting and control
2. It doesn’t necessarily meet all reporting needs for nonbusiness organizations
B. Expendable fund entities
1. Net financial resources used for a specific purpose
2. Each nonbusiness organization might have a number of expendable funds
3. Definitions
a. Financial resources – cash, receivables, and short-term investments
b. Claims to resources – liabilities, encumbrances
c. Fund balance – financial resources less claims
d. Balance sheet reflects fund resources, claims to resources and fund balance
4. Financial resources are intended to be spent, not saved
a. Focus is on resource flows:
Financial resource inflows (by source)
- Financial resource outflows (by function)
Change in fund balance (not net income!)
b. Increases in financial resources can come from revenues, transfers from other funds,
proceeds from debt issues
c. Decreases in financial resources are called expenditures, not expenses, because
expense implies the matching principle, not cash flow
5. Control of expendable funds is through budgeting
a. Comparison of actual inflows and outflows to budgeted inflows and outflows
replaces income and expense measures
b. Compliance becomes an important measure of performance
C. Restricted and Unrestricted Fund Entities
1. Expendable fund may be further classified as restricted or unrestricted.
2. Unrestricted expendable fund
a. Funds which are available for current payment
b. Controlled by the governing board
c. General operating activities
3. Restricted expendable fund
a. Use of funds is limited by outsiders
b. Board cannot use funds for anything other than the designation
D. Proprietary Fund entities
1. A fund entity that is very similar to a business
a. Quasi-commercial activities – public utilities, rental property
b. The traditional fund system doesn’t provide adequate information
2. The records very closely parallel traditional business organization records
a. The balance sheet –
Current + Noncurrent Assets = Current + Noncurrent Liabilities + Net Assets
b. The income statement –
Operating Revenue
- Operating Expenses
Operating Income

17-3
Study Guide to accompany Jeter and Chaney, Advanced Accounting

+ Nonoperating Revenues and Expenses, Capital Contributions, Additions to

Endorsements
Income before Other Items
+ Other Revenue and Expenses
Increase (Decrease) in Net Assets (Fund Balance)
+ Beginning Net Assets
Ending Net Assets
E. Fiduciary Fund Entities
1. Fiduciary funds include trust and agency funds.
2. In trust funds, government acts as trustee for an individual or organization (e.g. pension
funds).
3. An agency fund accounts for resources of various taxes, bonds and other receipts held for
individuals, outside organizations, and/or other funds.
F. Budgetary Fund Entities
1. A fund entity where the budget is part of the accounting records
2. Useful for the compliance model of fund accounting
3. Appropriations are estimated expenditures that are actually recorded as budgeted
expenditures
G. Basis of accounting
1. Two sections of financial statements are: government-wide financial statements and fund
financial statements
2. Government-wide financial statements report on all the non-fiduciary activities.
Government-wide Statements of Activities (income statement) and Net Assets (balance
sheet) are prepared using accrual accounting as well as traditional modified accrual
statements
3. Government units generally use a modified accrual accounting system
a. With an expendable fund, revenues are recorded when a receivable can be recorded
and expenditures are recorded when a liability is incurred
b. Matching is not an issue in that there is no attempt to allocate costs
4. Definitions
a. Profit-oriented entities
i. Revenue – increase in net assets (equity) from sale of goods or services
ii. Expense – cost of resources used to produce current revenues
iii. Unusual, infrequent and extraordinary items – gains or losses that cannot be
predicted
a. Unusual or infrequent items are not reported net of tax
b. Extraordinary items are reported net of tax
b. Expendable fund entities
i. Revenue – increase in net current financial resources except transfers and debt
issues
ii. Expenditure – decrease in net financial resources except transfers
iii. Other financial sources and uses (and transfers) – transfers to and from other
funds, resources from debt issues
iv. Special and extraordinary items – unusual and/or infrequent items not covered
above
H. Classification of revenues
1. Classification by fund– tied to where money comes from
2. Within each fund, revenues are classified by source – look at the examples in your book
in Illustration 17-2
I. Other financing sources
1. Debt issue proceeds – increase inflow but not recorded on the books as debt

17-4
 CHAPTER 17 – Introduction to Fund Accounting

2. Transfers of resources from other fund – since the entity has many funds, resources are
often moved from one fund to another. They are neither revenues nor expenditures
J. Recognition of revenue
1. In an expendable fund entity, revenue is recognized when it
a. Can be objectively measured
b. Is available for current expenditures
2. Examples of government revenues
a. Property taxes
b. Income and sales taxes
c. Fees and forfeits
d. Sales of property
e. Pledges and grants
K. Classification of expenditures and other resource outflows
1. Classification by function and activity
a. Functions are broad purposes, and can be divided into subfunctions
b. Activities are the ways the organizational unit performs its functions
c. There’s a list in this section
2. Classification by organizational unit and by object class
a. Classification by organizational unit divides expenditures by the management
structure of the organization
b. Classification by object class divides expenditures into categories more like expenses
– what the organization gets for its resources
L. Transfers to other funds – decreases to a specific fund, but not a decrease to the entity as
a whole
M. Recognition of expenditures
1. Sequence of events: appropriation to encumbrance to expenditure to disbursement
2. Appropriation
a. Maximum authorized expenditures
b. Recorded in financial records so there is control over spending resources
2. Encumbrances
a. When a contract is signed that will later use resources, the funds are encumbered –
promised
b. Encumbrances help tie appropriations to what is left to spend
c. An encumbrance is formally recorded in the accounting records
3. Expenditures
a. The contract recorded in the encumbrance is fulfilled, so payment is expected
b. Tied to current period appropriations
c. Expenditures are recognized in the period in which the fund liability is incurred
4. Disbursements – actual payment is made
5. Capital expenditures
a. Expenditures for capital assets still use available resources
b. They decrease the unencumbered balance of appropriations
c. Capital assets are not included on the balance sheet nor are they depreciated
d. Sale of capital assets provides resources, so is accounted for as revenue
N. Recording budgeted and actual revenues and expenditures
To record appropriations
Estimated revenues (classified)
Appropriations (classified)
Unreserved Fund Balance (could be a debit)
To record revenue
Receivables or Cash

17-5
Study Guide to accompany Jeter and Chaney, Advanced Accounting

Revenues (classified)
To record encumbrances
Encumbrances (classified)
Reserve for Encumbrances
To record completion of encumbered contracts
Expenditures (actual amount) (classified)
Vouchers Payable
Reserve for Encumbrances
Encumbrances
To close revenue/estimated revenue
Revenue (actual)
Estimated Revenue
Unreserved Fund Balance (could be a debit!)
To close expenditures/appropriations
Appropriations
Expenditures
Encumbrances
Unreserved Fund Balance (could be a debit)
1. There can be encumbrances “held over” from one year to the next – there’s a restriction
of the fund balance for those contracts made in one year but completed in the next
O. Lapsing of appropriations
1. Generally, any encumbrances that have not been fulfilled in one year are carried over to
the next year, using the appropriation of the first year as the source of funds
2. If the appropriations lapse, any encumbrances made this year have to be rerecorded in the
next year and come out of next year’s appropriations
P. Comprehensive illustration – General Fund (study example in text)
R. Financial statements
1. See illustrations in text.
2. The statements are informative but not the same as traditional for-profit business
financial statements
a. Budgetary comparison schedule – general fund
i. A document which compares the inflows and outflows as budgeted with the final
amounts
ii. Much more like a managerial accounting variance report than a financial
accounting statement
b. Budgetary comparison schedule – budget to GAAP reconciliation
i. Shows sources and uses of resources
ii. Explains the differences between the budget and GAAP presentation
17.6 Reporting Inventory and Prepayments in the Financial Statements
A. Inventory
1. There are two ways to account for inventory in a fund accounting system
a. Consumption method – inventory is considered to be a financial resource and
becomes an expenditure when it is used
b. Purchases method – inventory is considered to be an expenditure when it is
purchased whether it is used or not
2. The consumption method is consistent with GASB Statement No. 34, and the purchases
method is not acceptable
3. Both methods are acceptable for fund accounting, however
B. Reserve for inventory
1. Purchases method
a. Even with the purchases method, some accountants believe that material amounts of
inventory should be reported on the financial statements

17-6
 CHAPTER 17 – Introduction to Fund Accounting

b. There’s an inventory account reported and a matching reserve for inventory in the
fund balance
2. Consumption method can also use a reserve for inventory by adjusting the unreserved
fund balance
C. Prepayments – can also use the consumption or purchase methods
Appendix: City of Atlanta Partial Financial Statements (see example of partial financial statements of
city of Atlanta (Available online at www.wiley.com/collete/jeter)

17-7
Study Guide to accompany Jeter and Chaney, Advanced Accounting

MULTIPLE CHOICE QUESTIONS

Choose the BEST answer to the following questions.

_____ 1. What is a nonbusiness entity?

a. Any organization that loses money
b. An organization that doesn’t care if it makes a profit or not
c. An organization whose primary goal is to perform a service rather than making a profit
d. Any organization which gives most of its money to charity

_____ 2. Which of the following is NOT a governmental unit?

a. Municipality
b. United Way
c. State
d. Federal

_____ 3. Which of the following is NOT a characteristic of a nonbusiness organization?

a. People who contribute to the organization don’t get equity
b. People who receive the services often don’t have to pay
c. People who donate don’t get any tangible return
d. All of the above are characteristics of a nonbusiness organization

_____ 4. What is the primary standard-setting body for governmental units?

a. FASB
b. GASB
c. FAF
d. UPA

______ 5. What is the primary standard-setting body for other nonbusiness organizations?
a. FASB
b. GASB
c. FAF
d. UPA

_____ 6. An expendable fund entity is a fund which

a. has financial resources that can all be spent for a specific purpose
b. must keep all its resources intact
c. accumulates all the financial resources of a nonbusiness organization in a single place
d. operates similarly to a normal business

_____ 7. If a city owns a municipal power company, it would account for that power company as a(n)
a. expendable fund
b. budgetary fund
c. proprietary fund
d. none of these

_____ 8. An unrestricted fund has funds which are

a. available for current payment
b. controlled by a governing board
c. used for general operating activities
d. all of these

17-8
 CHAPTER 17 – Introduction to Fund Accounting

_____ 9. Governmental units should use

a. accrual accounting only
b. accrual accounting if possible or modified accrual accounting
c. cash basis accounting only
d. cash basis if possible or modified accrual accounting

_____10. What is an expenditure?

a. The same thing as an expense
b. The same thing as an encumbrance
c. A decrease in net financial resources
d. An increase in net financial resources

_____11. How are equity in a for-profit business and a nonbusiness organization different?
a. Equity for a nonbusiness organization is usually very small
b. Equity for a nonbusiness organization is often negative
c. For-profit businesses all have retained earnings
d. Nonbusiness organizations don’t have any equity

_____12. Which of the following is NOT a source of government revenue?

a. Property taxes
b. Income and sales taxes
c. Fees forfeits
d. Transfers from other funds

_____13. An appropriation is a(n)

a. formal way to record budgeted expenditures
b. promise to pay a contract in the future
c. debt which must be paid
d. expenditure for a capital asset

_____14. How are purchases of capital assets handled in a fund accounting system:
a. Added to noncurrent assets and depreciated
b. Added to noncurrent assets but not depreciated
c. Treated as expenditures and not depreciated
d. Fund accounting does not record purchases of capital assets

_____15. How are financial statements for nonbusiness organizations prepared?

a. The same as financial statements for businesses
b. The budgetary comparison schedule is similar to a managerial accounting variance report
c. There are no financial statements for a nonbusiness organization
d. There is an income statement, but no balance sheet

_____16. In the consumption method of accounting for inventory, inventory is considered to be a(n)
a. financial resource and becomes an expenditure when it is used
b. expenditure when it is purchased whether it is used or not
c. asset when purchased and expense when used
d. expense when purchased, and asset for any left over at year end

17-9
Study Guide to accompany Jeter and Chaney, Advanced Accounting

MATCHING

Match the terms in the list to the definitions below. Each term may be used only once.

A. Fund accounting F. Budgetary fund K. Object class

B. Nonbusiness entity G. Restricted fund L. Appropriation
C. Proprietary fund H. Unrestricted fund M. Encumbrance
D. Expendable fund I. Expenditure N. Consumption method
E. GASB J. Function O. Purchases method

_____ 1. A category where expenditures are organized like expenses

_____ 2. A governmental unit where the revenues are intended to be spent in total

_____ 3. The outflow of a fund’s resources

_____ 4. The organization which creates accounting standards for governmental units

_____ 5. A fund which must be spend for a specific purpose

_____ 6. A contract between a governmental unit and another entity

_____ 7. The process of accounting for a nonbusiness entity

_____ 8. A fund where estimated revenues are recorded as well as actual earned revenues

_____ 9. Inventory is a resource until it is used

_____10. An organization whose primary purpose is not to earn a profit

_____11. A fund whose resources are all available for immediate expenditure, as opposed to a fund
which has restricted access to resources

_____12. A category of expenditures by its broad purpose

_____13. Inventory is an expenditure when it is purchased, whether it’s used or not

_____14. A fund that operates very much like a business

_____15. A budgeted expenditure

17-10
 CHAPTER 17 – Introduction to Fund Accounting

EXERCISES

1. The City of Ridgeway had the following transactions for 2013. Journalize the transactions in the
General Fund.
a. The budget is approved. Tax levies and additional revenues are expected to be $5,000,000.
Expenditures of $5,100,000 are authorized, along with a $50,000 payment to be made to the Debt
Service Fund.
b. The appraised value of property in the city is $505 million. The tax rate is $0.85 per $100 of
assessed valuation and 2 percent of the taxes levied are not expected to be collected.
c. Equipment estimated to cost $800,000 is ordered.
d. Half of the above equipment is received and an invoice for $390,000 is approved for payment.
e. An old city truck is sold for $5,000. The truck had cost $25,000, 5 years ago and was estimated to
have a life of 10 years at that time
f. Encumbrances of $4 million were made.
g. Payment is made to the debt service fund.
h. Expenditures of $4.1 million were made on the encumbrances from f. above.
j. The vouchers payable were paid.

17-11
Study Guide to accompany Jeter and Chaney, Advanced Accounting

2. The City of Nodine had the following balances after recording its relevant transactions for 2013.
Journalize all the closing entries for the General Fund.

Expenditures $390,000
Estimated revenues 460,000
Reserve for encumbrances, 2013 10,000
Revenues 450,000
Expenditures chargeable to 2013 reserve 9,900
Appropriations 430,000
Encumbrances 32,000

17-12
 CHAPTER 17 – Introduction to Fund Accounting

SOLUTIONS

MULTIPLE CHOICE

1. C 5. A 9. B 13. A
2. B 6. A 10. C 14. C
3. D 7. C 11. D 15. B
4. B 8. D 12. D 16. A

MATCHING

1. K 5. G 9. N 13. O
2. D 6. M 10. B 14. C
3. I 7. A 11. H 15. L
4. E 8. F 12. J

EXERCISES

1.
a1. To record appropriations
Estimated Revenues 5,000,000
Unreserved Fund Balance 100,000
Appropriations 5,100,000
a2. To record transfers to other funds
Transfers to Debt Service Fund 50,000
Due to Debt Service Fund 50,000
b. To record property tax revenue
Property Tax Receivable 4,292,500
Estimated Uncollectible Taxes 85,850
Revenue 4,206,650
c. To record encumbrances
Encumbrances 800,000
Reserve for Encumbrances 800,000
d. To record completion of encumbered contracts
Expenditures (actual amount) 390,000
Vouchers Payable 390,000
Reserve for Encumbrances (estimated amount) 400,000
Encumbrances 400,000
e. To record sale of capital asset
Cash 5,000
Revenue 5,000
f. To record encumbrances
Encumbrances 4,000,000
Reserve for Encumbrances 4,000,000
g. Payment to debt service fund
Due to Debt Service Fund 50,000
Cash (or vouchers payable) 50,000
h. To record completion of encumbrances
Expenditures 4,100,000
Vouchers Payable 4,100,000
Reserve for Encumbrances 4,100,000
Encumbrances 4,100,000

17-13
Study Guide to accompany Jeter and Chaney, Advanced Accounting

To pay vouchers
Vouchers payable (4,100,000 + 390,000) 4,490,000
Cash 4,490,000

2.
To record completion of contracts encumbered in prior year
Reserve for Encumbrances, 2013 10,000
Expenditures, 2013+ 9,900
Unreserved Fund Balance 100
To close revenue/estimated revenue
Revenue (actual) 450,000
Unreserved Fund Balance 10,000
Estimated Revenue (budget) 460,000
To close expenditures/appropriations
Appropriations (budget) 430,000
Expenditures (actual) 390,000
Encumbrances (actual) 32,000
Unreserved fund balance 8,000

17-14