Introduction

1. Introduction

2. Overview of session 1. The modernisation project 2. Accrual V. Cash accounting 3. IPSAS and the E.C. accounting rules 4. Some IPSAS key concepts 5. Questions

3. Introduction 1. The modernisation project

4. Issues addressed Accounting User requirements IT platforms Accrual accounting in compliance with IPSAS Decentralised Implementation Enhancements to data security and consistency Centralised Information Integration of financial and accounting IT platforms

5. Converting to IPSAS- The big picture 1/1/2005 Phase 1 Phase 2 Phase 3 Phase 4 2.1 Project Set-Up 2.2 Component Evaluation & Issues Resolution 2.3 Initial Con- version Integrate Change • Publication of annual accounts • Stabilization Feasibility Study

6. Introduction 2. Accrual V. Cash accounting

7. A basis of accounting that recognises transactions and other events when cash is received or paid. Measures financial results for a period as the difference between cash received and cash paid. A basis of accounting under which transactions and other events are recognized when they occur (and not only when cash or its equivalent is received or paid). Therefore, the transactions and events are recorded in the accounting records and recognised in the financial statements of the periods to which they relate. The elements recognised under accrual accounting are assets, liabilities, net assets, revenue and expenses. Cash-basis V. Accrual-basis Cash-basis Accrual-basis

8. Cash + Accrual E.C. Decision Budgetary = Cash-basis IPSAS = Accrual-basis

9. The benefits of cash accounting • Simple / Easy to understand by non-accountants • Is less subject to estimates • Cash accounting is adapted to the principle of annual parliamentary authority - Useful for assessing compliance with cash budgets / Easy follow up of budget implementation • Useful for monitoring and estimating a government’s cahs resources • Information on cash raised and spent remains the best indicator of the impact of the public sector on the economy

10. Why adopt accrual accounting in addition? • Both cash and accrual accounting address the question of the « affordability » of a public entity’s programmes and operations: • Budgets and cash accounting-based financial statements lay out a public entity’s spending and how it is financed • Accrual accounting-based financial statements provide additional information in describing a public entity’s financial position and actual results • Accrual accounting distinguishes expenditure which provides economic benefits in the short-term (i.e. for current consumption) from that which will benefit the E.C. (and the E.C. citizens) well into the future (i.e. capital expenditure).

11. Enhanced information to the “external world” Enhanced management information Why adopt accrual accounting in addition? Parliament General public Increased transparency Increased accountability

12. New « Public Management Approaches » • European impetus towards reforming governmental accounting and budgeting: • Democratic pressure for increased transparency and accountability in government • Consumer pressure for improved delivery of public services • Cost pressure to provide more and better infrastructure and services, more efficiently

13. More complete information • Presentation of a proper combined picture of financial position and performance: • Complete information on the utilisation of resources (assets) • Complete information on total borrowing and indebtedness Assets Net assets Liabilities Revenues • Information about the total cost of policies and activities • Comparison of revenue from « tax-payers » and the cost of policies and activities <Expenses> Net surplus/(deficit)

14. Worked example: Australia What does this tell? Australia: 2002-2003 Budget at a glance Underlying Budget cash surplus of $2.1 billion, or 0.3 per cent of GDP. Using accrual accounting concepts, however, the fiscal balance is forecast to be $0.2 billion.

15. Worked example: Australia (cont’d) By reporting the full picture, accrualaccounting shows that tax to be leviedin 2002/03 is enough to financethe current policies and activities – but that in addition the Australiangovernment is either disinvesting inassets or increasing liabilities – future taxation or other revenues are already committed to paying off debt ormaintaining assets

16. Worked example: Belgium A l’occasion de cette rentrée parlementaire, le Gouvernement fédéral fait plus fort encore, avec l’opération Belgacom. En reprenant ses obligations en matière de pension, à concurrence de € 5 milliards […], et en faisant passer cela comme une recette, […] il oublie […] de dire qu’à cet actif correspond une dette transférée de Belgacom à l’Etat et contractée à l’égard de chaque pensionné de l’entreprise; tôt ou tard, l’Etat devra honorer cet engagement. Dès lors, […] en dérogation de toutes règles de comptabilité, il enregistre également cette recette comme un produit qui flatte ses comptes de résultat des années 2003 et 2004 (de respectivement € 3,6 et 1,4 milliards), […].Sans cette opération effrontée, le budget de Verhofstadt II serait en déficit de 0,9 % du PIB en 2003 et de 0,4 % en 2004. Quant au surplus primaire hors Belgacom, il s’effrite jusqu’à 4,4 % cette année et 4,9 % en 2004, selon nos estimations. […] Et en 2005 ? […] Il n’y aura plus de nouvelle opération Belgacom. Par contre, l’Etat fédéral assumera déjà la charge des pensions de l’entreprise publique […]

17. Worked example: Belgium (cont’d) Accrual accounting would have provided information on the Belgian State’s overall financial position and current stock of liabilities. Future revenues or additional borrowing will be needed in the longer term to satisfy the non-recognised liability. Generally said, under cash-based accounting, spending controls can be circumvented by deferring payments or hiding liabilities.

18. Enhanced management information The benefits to the E.C. of the modernisation project Enhanced consistency(ABAC for budgetary accounting, general accounting and management information) New information

19. Enhanced management information New management functionalities - examples: Follow-up of clearing ofpre-financingsthroughintermediary/finalpayments Master file of allnew contractors and contracts per legal entity Immediate, straight-forwardassessment of the exposureor liability to any third party(commitments, payments,collections, …) Inventory ofguarantees received Inventory ofassets

20. Enhanced management information:Asset and liability management Examples: Accrual accounting focuses decisions-makers on: • The broad range of options available in managing assets: under a cash-based system, there is a tendency to focus on whether or not to spend on new assets – while under an accrual-based system, the focus also extends to whether to retain or upgrade existing assets • Financial assets and ensuring that they are measured realiably (the E.C. cannot make appropriate financing decisions without objectively assessing the recoverability of assets)

21. Enhanced management information: Expenses Accrual accounting will provide the E.C. with information on the full costs of their activities so that they can: • consider the cost consequences of particular policy objectives and the cost of alternative mechanisms for meeting these objectives; • better allocate responsibility for managing particular costs; and • develop performance indicators.

22. Enhanced management information –Example: Loans • Unlike commercial loans, some E.C. loans may provide the borrower for concessions – e.g. below-market interest rates • If the E.C. lend from borrowed funds at rates lower than it pays to borrow money, they do so at a cost • If accounted for on a cash basis, there is little impact in the year the loan is made • But over time, the costs accumulate • Future revenues are in fact being committed to meet the growing difference between the interest rate the E.C. pay for money and the rate they earn on funds they have lent

23. Currently: In budgetary accounting, the loan is not even recorded as an asset In the 2002 financial report, all loans are reported at face value – i.e. no information is given on the future cost of the concession granted to the borrower Under the new accrual-based E.C. rules: Interest-free loans or loans at a rate below market rates for similar products to similar debtors will be recorded at an amount equal to the present value of all future cash receipts discounted using the prevailing market rates any additional amount lent = the cost of the concession to the borrower = a reduction of income or an expense Enhanced management information –Example: Loans (cont’d) The same will apply to interest-freepre-financings: this will measurethe cost of pre-financingcontractors / beneficiaries

24. Introduction 3. IPSAS and the E.C. accounting rules

25. Why IPSAS? • World-wide impetus to enhance corporate financial reporting and its comparability – not only in the public sector: • In the EU, listed companies are required to publish their consolidated financial statements under IAS/IFRS for each financial year starting on or after 1 January 2005 (IAS/IFRS regulation of 7 June 2002). This applies to c. 7,000 listed companies

26. Why IPSAS? • The only international comprehensive set of accounting standards for the public sector 1: • Elaborated from International Accounting Standards • Easier understanding • Easier future convergence of national standards of Member States • Adopted by the OECD; being adopted by the NATO 1Public sector refers to: international organisations; national governments; regional governments (state, provincial, territorial); local governments (city, town); and related governmental entities (agencies, boards, commissions and enterprises)

27. The E.C. accounting rules Basis of preparation Financial statements Net surplus or deficitfor the period,fundamental errors andchanges in accounting policies Group accounting Foreign currencytransactions Related parties andKey management disclosures Financial assets andfinancial liabilities Revenues andreceivables Cash andcash equivalents Pre-financing Payables andexpenses Inventories Property, plant andequipment Intangible assets Provisions,Contingent Assets andContingent Liabilities Leases

28. Tools and resources http://www.cc.cec/budg/ Procedural guidelines by operation Consoli-dation Manual Accounting Standards Accounting Manual

29. Overview of training

30. Introduction 4. Some IPSAS key concepts

31. Substance over form • Accounting policies should reflect the economic substance of events and transactions and not merely their legal form – the definition of accounting policies requires the exercise of judgment • Examples: • From a risk and rewards perspective leasing an asset may in substance be equivalent to owning it • Control (and the obligation of consolidating another entity) refers to an entity’s power to govern the financial and operating policies of another entity and does not necessarily require an entity to hold a majority shareholding or other equity interest in the other entity

32. Carrying value • Carrying value = the amount for which an asset or a liability are recognised in the financial statements • Implies an initial measurement (e.g. the cost of acquisition of an asset) then subsequent measurements (e.g. the recognition of the value consumption of an asset through depreciation)

33. Depreciation • Depreciation = the systematic allocation of the depreciable amount of an asset over its useful life • Depreciable amount = The cost of an asset, or other amount substituted for cost in the financial statements (e.g. fair value), less its residual value • Useful life = Either: (a) the period of time over which an asset is expected to be used by the entity; or (b) the number of production or similar units expected to be obtained from the asset by the entity.

34. Fair value Fair value = the amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm’s length transaction • Several standards require that assets or liabilities be measured at their fair value (rather than at historical cost or cost of acquisition): e.g. items of property, plant and equipment gifted; financial assets held for trading; …

35. Introduction 5. Questions