Title: Modified Accrual Accounting — A Practical Guide for Governments and Organizations
Key takeaways
– Modified accrual accounting blends cash-basis rules for short-term items with accrual-basis rules for longer-term items.
– It recognizes revenues when they are “measurable and available” and records most expenditures when liabilities are incurred.
– It’s the standard for governmental “fund” financial statements (per GASB) because it highlights current financial resources and compliance with budgets.
– Private businesses rarely use it for external reporting because it does not fully comply with GAAP/IFRS; some small entities may use it internally.
What modified accrual accounting is
Modified accrual accounting uses a hybrid approach:
– For short-term events and operating-period results (current financial resources), it behaves like cash accounting—revenues are recognized when they are both measurable and available to finance current period expenditures; most expenditures are recognized when the related liability is incurred.
– For long-term items (capital assets, long-term debt), it applies accrual-like treatment—assets are capitalized and long‑lived costs are allocated over future periods (depreciation, amortization) where appropriate for government‑wide reporting.
Why governments use it
– Governmental entities are primarily concerned with whether current-year revenues are sufficient to meet current-year obligations and whether resources were used according to legally adopted budgets. Modified accrual highlights short‑term resources and obligations and supports fund accounting (separating resources into restricted/use-specific funds).
– The Governmental Accounting Standards Board (GASB) prescribes accounting standards for state and local governments, and modified accrual is required for governmental fund statements. (Government-wide statements, however, use full accrual.)
Core concepts and definitions
– Current financial resources measurement focus: modified accrual emphasizes inflows/outflows of spendable resources during the period.
– Measurable: amount can be reasonably determined.
– Available: collectible soon enough to be used to pay current period liabilities (GASB commonly interprets “available” as collectible within the current period or a defined subsequent period—often 60 days—for many revenues; local policies can specify exact windows).
– Deferred inflows/outflows: when revenue or expense recognition is postponed because it’s not yet measurable/available, modified accrual uses deferrals (deferred inflows of resources, deferred outflows of resources).
Recording short-term events (practical rules and examples)
Rules
– Recognize revenue when it is both measurable and available to finance current expenditures.
– Record expenditures when the related liability is incurred (not when paid), except for certain long-term items (e.g., capital outlays) depending on fund type.
Examples (journal-style entries)
1) Tax revenue collected and available:
– When cash is received and deemed available:
– Dr Cash
– Cr Revenues—Property Taxes
– If taxes are assessed but not yet available (not collectible within the required availability period):
– Dr Taxes Receivable
– Cr Deferred Inflow of Resources (or similar liability/deferral)
2) Short-term payable recognized:
– When a bill is received for supplies used:
– Dr Expenditure—Supplies
– Cr Accounts Payable
Recording long-term events (practical rules and examples)
Rules
– Capital assets: For governmental funds under modified accrual, the purchase of a capital asset is generally recorded as an expenditure in the period of acquisition (i.e., it reduces fund balance). The asset and related depreciation, however, are recorded on government-wide (full-accrual) statements.
– Long-term debt: Proceeds and repayments are often recorded differently in fund statements versus government-wide statements—debt service principal repayments are expenditures in governmental funds; the long-term liability is recorded only on government-wide statements.
Examples
1) Capital purchase in a governmental fund:
– At purchase (gov’t fund statements):
– Dr Expenditure—Capital Outlay
– Cr Cash
– At government-wide level (full accrual):
– Dr Capital Asset
– Cr Cash (or Amount Due)
– Later: record depreciation expense on government-wide statements.
2) Long-term bond issuance:
– Governmental fund (receipt of cash):
– Dr Cash
– Cr Other Financing Sources—Proceeds of Long-Term Debt
– Government-wide (recognize liability):
– Dr Cash
– Cr Bonds Payable
Special considerations and common adjustments
– Fund accounting: Maintain separate fund ledgers (general fund, special revenue, capital projects, debt service, etc.) to ensure legal compliance and restricted-use resources are tracked.
– Timing policies: Adopt a clear “available” period (e.g., 60 days after fiscal year-end) for recognizing revenues to promote consistency and auditability.
– Year-end adjustments: Reconcile receivables, payables, deferred inflows/outflows, and interfund balances; prepare government-wide converting entries (to full accrual) if required.
– Capitalization policy: Define a dollar threshold and useful lives for capitalizing assets; specify depreciation methods.
– Disclosures: Provide notes explaining significant accounting policies (measurement focus, revenue recognition criteria, depreciation methods, long-term debt, etc.).
Practical steps to implement modified accrual accounting (checklist)
1) Assess legal and reporting requirements
– Confirm GASB or other authoritative requirements that apply. For governments: confirm that governmental fund statements use modified accrual and government‑wide statements use full accrual.
2) Define policies and thresholds
– Adopt definitions for “measurable” and “available,” capitalization thresholds, useful lives, and depreciation methods. Document in an accounting policy manual.
3) Structure funds and chart of accounts
– Create fund-based ledgers and a chart of accounts that separates operating revenues/expenditures, capital outlays, and transfers.
4) Map transaction workflows
– Identify sources of revenues (taxes, grants, service charges) and determine when they meet measurable/available criteria. Define approval and documentation steps for recognizing expenditures and liabilities.
5) Configure accounting systems
– Set up your ERP/accounting software to record revenues when available, track deferred inflows/outflows, and segregate capital transactions versus operating expenditures. Include sub-ledgers for receivables, payables, fixed assets, and long-term debt.
6) Train staff and implement internal controls
– Train finance staff on revenue recognition windows, fund accounting, and year-end conversions. Establish controls for segregation of duties, reconciliations, and approvals.
7) Prepare converting entries for government‑wide reporting and audits
– At year-end, prepare and document entries that convert modified-accrual fund statements to full-accrual government‑wide statements (capitalize assets, record long-term liabilities, record depreciation).
8) Maintain disclosures and supporting schedules
– Produce supporting schedules: capital asset rollforwards, long-term debt schedules, deferred inflows/outflows, and budgetary comparisons.
9) Coordinate with auditors
– Discuss policies, significant judgments (e.g., “available” period), and material estimates with external auditors early in the process.
Common sample journal entries (summary)
– Cash tax collected and available:
– Dr Cash
– Cr Revenues—Taxes
– Tax assessed but not available:
– Dr Taxes Receivable
– Cr Deferred Inflow of Resources
– Purchase of supplies billed:
– Dr Expenditure—Supplies
– Cr Accounts Payable
– Capital purchase (fund statements):
– Dr Expenditure—Capital Outlay
– Cr Cash
– Capital purchase (government-wide conversion):
– Dr Capital Asset
– Cr Capital Outlay Expenditure (or Capitalization Adjustment)
– Then record depreciation on government-wide statements
Pros and cons
Pros
– Emphasizes current financial resources and budgetary compliance — useful for public sector stewardship and accountability.
– Simpler for short-term operating reporting than full accrual.
– Permits fund accounting and legal/contractual separation of resources.
Cons
– Not fully GAAP-compliant for private-sector external reporting under full accrual GAAP/IFRS.
– Can be confusing when preparing both fund (modified accrual) and government‑wide (full accrual) statements—requires additional converting entries and reconciliations.
– May understate long-term obligations in fund statements since long-term debt and assets may not appear on those fund balance sheets.
When businesses might use it
– Some small entities and not-for-profits may use a modified cash basis or modified accrual for internal reporting or for simplicity; however, audited external financial statements for public companies must meet GAAP or IFRS (except for certain small companies permitted by specific tax/accounting rules). The IRS and FASB have guidance on accounting method choices—check regulatory thresholds and filing requirements before adopting modified accrual for tax or statutory purposes.
Resources and authoritative guidance
– Governmental Accounting Standards Board (GASB) — GASB sets accounting standards for U.S. state and local governments; see GASB Concepts Statement No. 1 and GASB pronouncements for guidance on measurement focus and the “available and measurable” criteria.
– Financial Accounting Standards Board (FASB) — general U.S. accounting standards-setting body for private sector (background on GAAP).
– Internal Revenue Service (IRS), Publication 538 — guidance on accounting periods and methods (for business tax accounting method rules).
– For concise industry explanation: Investopedia’s “Modified Accrual Accounting” article (background and examples).
Final practical tips
– Document your “available” period and revenue recognition rules in writing—consistency and transparency help audits and oversight.
– Separate accounting for fund (modified accrual) and government‑wide (full accrual) reporting from the start to reduce year‑end conversion burden.
– Use accounting software with strong fund- and fixed-asset modules to automate recognition, deferrals, and converting entries.
– Engage auditors or GASB-experienced advisors early when changing policies or implementing new systems.
References
– Governmental Accounting Standards Board (GASB), About the GASB; GASB Concepts Statement No. 1.
– Financial Accounting Standards Board (FASB), About the FASB.
– Internal Revenue Service, Publication 538: Accounting Periods and Methods.
– Investopedia, “Modified Accrual Accounting” (overview and examples).
If you’d like, I can:
– Provide sample journal entries converted to your organization’s chart of accounts, or
– Draft an implementation checklist tailored to a particular fund structure (e.g., general fund + capital projects + debt service). Which would be most helpful?