Accrual accounting in the public sector

Accrual accounting differs from cash-based accounting in two main dimensions: While some transactions generate a simultaneous cash payment, with transactions like the generation of a pension obligation and purchase of capital, they do not. ' Under accrual accounting: ' The building is included in the government's balance sheet as part of the government's assets. Specifically, the government's cash is reduced and the building is included as an asset instead. The annual cost of using the building (the depreciation in the reported value of the building) is recognized as an expense, as is the annual expense to operate and maintain the building. With accrual accounting, the annual surplus/deficit shows whether revenues exceed the year's costs of operations only, since costs include expense from the use of capital assets, but not the expense of acquiring new capital assets. As a result, if expenditure on new capital assets is greater than depreciation on existing capital, government debt can increase in a year when a surplus (on operations) is reported. The increase in debt would, however, show up on the balance sheet as a liability right away. For this reason, to understand the change in a government's financial position, the change in government debt is an "extremely significant" indicator. Further, a requirement to report changes in debt may "act as a check on a government spending beyond its means." Advocates of accrual accounting note that information provided with accrual accounting can be helpful when, for example, the government must decide whether to buy or lease a building, where buying may involve a large up-front cost. Under cash accounting a government subject to a balanced-budget rule may prefer to lease, only to avoid a large expense that leads to a current period deficit. With accrual accounting the large initial expenditure to buy a building does not enter the current year expenditures – only the depreciation of the building in the current year is included in the current year's budget. ==Concerns with accrual accounting in the public sector==

Incentives for spending on capital and borrowing With cash accounting the cost of capital assets is recognized in the budget in the year the expense is incurred. By contrast, under accrual accounting, for an asset that lasts, say 25 years, it is possible to commit resources in one year with the budgetary impact being spread for budget purposes over a 25-year period. Compounding the challenge for users, there is very little understanding in the media of the concept of accrual. In Australia, a country that uses both accrual and cash-based fiscal targets, stakeholders tend to focus on cash-based targets since they are more easily understood and "may be perceived as more reliable and relevant." The deficit is less useful as an in indicator of fiscal stimulus An advantage of measuring a government's fiscal balance (deficit or surplus) using its cash balance is that the cash deficit/surplus incorporates spending on capital, so it measures the demand from the government on the current resources of the economy: i.e., the net fiscal stimulus. By contrast, the accrual-accounting based deficit/surplus measures just the net operating balance. By including government expenditure on capital, the cash accounting deficit/surplus is a better indicator of the government's demand for resources and, therefore, its impact on the resources available to the private sector. A Norwegian government study argues that a jurisdiction using cash-based budgeting is better positioned to engage in countercyclical fiscal policy since there is a direct link between budget allocations and actual cash flows. Greater technical demands Accrual accounting is more costly than cash accounting, as new IT systems and more qualified accountants are usually needed. Introduction of the system is also a long process. The cost of moving to accrual accounting in Germany was estimated at €3.1 billion,{{cite web | url= https://www.eurosai.org/en/databases/audits/Intended-Implementation-of-harmonised-European-Public-Sector-Accounting-Standards-EPSAS-in-the-Member-States-of-the-European-Union/ ==Impact on public sector decision-making==

There is little research into whether accrual accounting improves public sector decision-making. A study of eleven OECD countries found scant evidence of an impact from the introduction of accrual accounting on budget preparation or fiscal policy, except that two countries said it had driven their government and parliament to create a fund to finance public sector (i.e. civil service) pensions. Requiring information on assets and liabilities in the government balance sheet may have pushed policy makers to make better decisions in the sense that it is more difficult to create future liabilities (such as pension benefits) without disclosing the financial implications. Also, New Zealand closed its civil service defined-benefit pension scheme to new employees when the first set of accrual accounts revealed the size of the plan liability.{{cite report | first=Timothy | last=Irwin | title=Accounting Devices and Fiscal Illusions | publisher=International Monetary Fund | date=28 March 2012 | url=https://www.imf.org/external/pubs/ft/sdn/2012/sdn1202.pdf ==The budget deficit/surplus under accrual accounting==

The budget deficit (or surplus) is defined differently under cash and accrual accounting, as a result of the different treatment of capital assets. Governments have been urged to prepare their financial accounts so that it is easier to compare and reconcile cash-based and accrual-based deficit measures. Accrual accounting and budget rules It is possible for fiscal rules to be applied on an accrual basis, but in a large majority of OECD countries, government spending limit rules are cash-accounting based. ==Public sector accrual accounting standards==

Accrual accounting in the public sector can be supported by different accrual-based standards for government financial reporting. International Financial Reporting Standards (IFRS) have been established for the private sector, and the International Public Sector Accounting Standards (IPSAS) are based on the IFRS, with adaptions where necessary for the public sector. and it achieves 96% compatibility in public sector accounting with the IPSAS. France has not explicitly adopted the IPSAS accounting standard but its general government accounting practice is 90% compliant with the IPSAS standard The European Union is incorporating accrual accounting as part of the development of European Public Sector Accounting Standards (EPSAS). One objective with EPSAS is harmonization of the accrual accounting standard. ==International adoption of accrual accounting in the public sector==

Accrual accounting has been standard in private businesses for over a century, but has become common in the public sector only since around the year 2000. Switzerland and some Scandinavian countries started using a form of government accrual accounting early in the 20th century, but New Zealand was a pioneer when it introduced accrual accounting at the central government level in 1990. Australia, Canada, the UK, and the US adopted central government accrual accounting around a decade later, and a wave of European countries followed. Around three quarters of OECD countries use accrual accounting. In 2020, 30% of 165 jurisdictions surveyed used accrual accounting, and the share is forecast to increase to 50% by 2025. The financial information from accrual accounting is meant to complement, rather than entirely replace, traditional cash budgeting. According to the IMF, governments need to establish a well-functioning cash accounting system before contemplating a move to accrual accounting, and effective monitoring of cash receipts and outlays will continue to be needed to assess government budgets even after moving to full accrual accounting. ==See also==