Heading Their Separate Ways
The formation of the GASB in 1984 heralded a move toward accounting and reporting guidelines that differed significantly from those of the FASB. As the two boards' agendas continue diverging, higher education must step up. Events in 2010 highlight why.
By Sue Menditto
Over the past 25 years, many have felt that the shift away from unification of the higher education industry was the most significant issue in higher education financial accounting and reporting. The formation of the Governmental Accounting Standards Board (GASB) in 1984 set in motion a series of shock waves that threatened comparability between public and independent colleges and universities. The Financial Accounting Foundation (FAF) established the GASB to set accounting and reporting guidance for governmental entities, a focus that meant a different viewpoint from that of the Financial Accounting Standards Board (FASB).
Because GASB's original charter was a five-year commitment made by the FAF, higher education's anxiety over two standard-setting bodies peaked in the late 1980s, when the short-term commitment to the GASB began to look less like a temporary experiment and more like a permanent reality. The ultimate fear was of a financial reporting future with two sets of reporting guidance so different that a split industry would result.
In the 20 years following the GASB's formation, the content of NACUBO magazine articles and professional development programs often centered on the merits and differences between GASB and FASB reporting. Many believed the debate was brought to a head over the issue of depreciation. In 1987, the FASB required not-for-profit organizations to recognize and report depreciation. Subsequently, GASB guidance indicated that public colleges and universities (and other governmental entities that use certain specialized industry accounting and reporting principles and practices) should not change their accounting and reporting for depreciation of capital assets as a result of FASB guidance.
Fast-forward to a decade beyond the new millennium and what we now see are two unique and well-respected standard-setting authorities. Complex accounting and reporting changes over the decades make the concern over depreciation seem minor. Discussions about a united higher education industry continue—but for very different reasons. Policy makers and the public want to understand the business model of colleges and universities. Higher education administration leaders believe they know what stakeholders want and need to know. Yet, business officers spend tremendous effort complying with financial accounting and reporting changes that appear to only increase the number of pages in financial statements. Very few new accounting requirements are drafted with our industry in mind—and yet compliance is required.
Today the FASB is in the midst of a convergence effort with the International Accounting Standards Board (IASB). The genesis of the convergence project is a desire for one body of sound, conceptually based accounting and reporting standards that facilitate consistency among publicly traded companies with a worldwide presence. As a result, all recently proposed FASB guidance focuses on public companies and sweeps most independent higher education institutions into the scope because of the way the FASB defines public entities—as those with public or conduit debt. GASB, on the other hand, has a broad and complex governmental constituency. Governmental entities, such as public institutions that report as business-type activities (BTA), are a small percentage of GASB's constituents.
Today's unifying bond for the higher education industry is that we currently follow the standards set by two boards that may not even have us on their radar screens. With that said, let's examine how accounting guidance in 2010 continues to reinforce the split between public and independent institutions. The two boards have very different agendas.
In the nearly three decades since GASB's inception, the board has issued 62 accounting standards and five concepts statements. Although the GASB has spent the majority of its time on authoritative standards, its concepts statements provide insight into the organization's objectives. Concepts statements are intended to guide GASB as it deliberates financial reporting standards.
For example, last year Concepts Statement 4, "Elements of Financial Statements," began to influence accounting guidance and provides an interesting illustration of how far GASB has moved from FASB. Before Concepts Statement 4's release, every accounting student and practicing accountant embraced the foundational balance sheet construct that assets less liabilities equal net assets (or equity, for a business enterprise).
Concepts Statement 4 introduces financial reporting elements that go beyond assets, liabilities, and net assets. The additional elements are the following:
Deferred inflows of resources—defined as "an acquisition of net assets that is applicable to a future reporting period."
Deferred outflows of resources—defined as "a consumption of net assets that is applicable to a future reporting period."
Net position—equals the residual measure of assets plus deferred outflows of resources less the sum of liabilities and deferred inflows of resources.
Note that both deferred outflows and deferred inflows of resources are distinct from assets and liabilities.
In November 2010, the GASB issued an exposure draft, "Financial Reporting of Deferred Outflows of Resources, Deferred Inflows of Resources, and Net Position," that proposes guidance for the reporting of such amounts in a statement of financial position. This was a response to the fact that accounting standards addressing derivative instruments and service-concession arrangements require the use of deferred outflows of resources or deferred inflows of resources. When this proposal eventually becomes an accounting standard, the statement of financial position of public institutions will have five reporting categories—moving public institutions further away from presentation comparability with independent institutions.
At its December 2010 meeting, GASB approved release of Statement 62, "Codification of Accounting and Financial Reporting Guidance Contained in Pre-November 30, 1989, FASB and AICPA Pronouncements." This standard draws a line in the sand relative to past FASB pronouncements that could be applicable to governments. The impetus behind GASB's codification standard was FASB's Accounting Standards Codification, which became the single source of authoritative literature for nongovernmental entities when issued in July 2009. FASB's Codification made all previously issued FASB guidance nonauthoritative. The practical effect has been that the pre-Nov. 30, 1989, standards are no longer readily available to public institutions.
When issued, GASB's codification standard will not establish any new accounting guidance. Rather, the new standard will provide authoritative Category A guidance (the most authoritative in the hierarchy of generally accepted accounting principles, or GAAP) by presenting relevant pre-1989 FASB literature (not yet addressed by GASB) consolidated by topic. The wording of the Category A guidance will be modified where necessary to relate to the government environment, but the meaning will be retained.
The new GASB codification standard will also supersede GASB Statement No. 20, "Accounting and Financial Reporting for Proprietary Funds and Other Governmental Entities That Use Proprietary Fund Accounting." This statement notes that all proprietary activities should apply FASB pronouncements issued on or before Nov. 30, 1989, provided that those pronouncements do not conflict with or contradict GASB pronouncements. Further, paragraph 7 of Statement 20 provides that BTAs, such as public institutions, may elect to apply all FASB pronouncements issued after Nov. 30, 1989, except for those that conflict with or contradict GASB pronouncements. Consequently, public institutions that rely on paragraph 7 and elect to follow all post-1989 FASB standards (in addition to following authoritative GASB) will no longer be bound to analyze and follow new FASB literature not addressed by GASB.
A 2009 NACUBO survey of public institutions indicates that less than 15 percent of respondents follow post-1989 FASB standards. Public institutions that do should consult with their auditors about whether to continue following the post-1989 FASB standards. Using such standards will not be considered Category A GAAP, and discontinuing the use of the standards will likely be considered a change in accounting principle.
FASB Growth Is International
Since 2002, the FASB has been working with the IASB toward international convergence. A major objective of the effort is to establish a set of global reporting standards that support capital markets worldwide. The convergence project was rooted in the desire for one set of accounting and reporting standards for public issuers that have a global presence.
The convergence project excludes not-for-profit (NFP) entities from its scope and both boards appear to focus on a technical agenda for publicly traded companies. However, FASB's definition of "public entities" subjects many higher education institutions to guidance that is written without consideration of the needs of NFP entities in general—and independent institutions, in particular. According to FASB, a not-for-profit entity is a public entity if (1) it is a conduit bond obligor for conduit debt securities that are traded in a public market (a domestic or foreign stock exchange or an over-the-counter market, including local or regional markets), or (2) its debt or equity securities are traded in a public market, including those traded on a stock exchange or in the over-the-counter market.
NACUBO maintains that, although many independent institutions have access to the public bond market, higher education bond holders are fundamentally different from investors in publicly traded companies and are evaluated differently by bond underwriters and rating agencies. This assumption is being researched by NACUBO and will be discussed with FASB in the upcoming year.
A Busy FASB Overlooks Not-for-Profit Needs
The year 2010 began with FASB issuing Accounting Standards Update 2010-06, "Fair Value Measurements and Disclosures (Topic 820): Improving Disclosures about Fair Value Measure-ments." This ASU was the third in six months that changed fair value measurement disclosures. The guidance was issued in response to concerns that market changes would not be adequately reflected in the newer sensitivity disclosures. Sensitivity disclosure requirements are intended to help financial statement readers understand how assets and liabilities are categorized along a continuum from observable market inputs (Level 1) to unobservable market valuation inputs (Level 3). ASU 2010–06 is effective in FY12 and requires disclosures about significant transfers between Level 1 and Level 2 measurements and the reasons for the category change or transfer. Institutions must also separately disclose purchase, issuances, sales, and settlements in the Level 3 measurement category, and highlight valuation techniques used for Level 2 and 3 measurements.
ASU 2010–06 will affect independent institutions with Level 3 assets, such as alternative investments. The level of effort to comply with the reconciliation and transaction detail for Level 3 assets may be substantial and could require a redesign of systems or internal reports. The background information for the guidance noted that the request for additional disclosures came primarily from the Securities and Exchange Commission (SEC), the International Monetary Fund (IMF), and the IASB. NACUBO comments to FASB pointed out that the types of concerns raised by these organizations do not necessarily apply to higher education institutions. The final standard, however, did not significantly alter the proposed disclosure requirements. FASB pushed forward with a technical agenda in 2010 that continued to be influenced by convergence efforts—and addressed fair value measurements once more. The list of meaningful exposure drafts on which NACUBO commented include:
Fair value measurement. The proposed ASU attempts to align fair value measurement and disclosure requirements between U.S. GAAP and International Financial Reporting Standards (IFRS). The proposal also addresses the concept of highest and best value, measuring fair value of financial instruments managed within a portfolio on the basis of (1) net exposure to a particular risk and (2) application of blockage factors and other premiums and discounts in fair value measurements.
New disclosure requirements would also include a measurement uncertainty analysis for recurring Level 3 fair value measurements. The requirement to include a measurement uncertainty analysis in the financial statements is likely to have the greatest impact on colleges and universities. The uncertainty analysis is complex and highlights the inexactness and risk associated with Level 3 valuations. It is also unclear how this requirement should be applied to instruments that are valued using the practical expedient.
Financial instruments proposal. This proposal was written with the financial services industry in mind. The volume of comment letters (more than 2,000) indicates that the proposal was among FASB's most controversial in 2010. The proposal would require many financial liabilities currently measured at amortized cost to be measured at fair value based on models with unobservable inputs. FASB suggests methodologies for banks and credit unions that use interest rate and credit standing adjustments. Such models would not make sense for colleges and universities with split-interest or debt-related liabilities.
Although FASB provides a scope exception for debt issued to fund capital projects, the board does not go far enough in providing practical scope exceptions that make sense for higher education. For example, FASB proposes that debt should be contractually linked to a capital project to be exempt from fair value measurement; such linkages are not common in practice. FASB proposes another exemption for consolidated entities with less than 50 percent of assets measured at fair value; such an exemption would not benefit colleges and universities with material endowment funds that are measured at fair value.
Exposure draft on loss contingencies. This proposal addresses quantitative and qualitative disclosure requirements for certain loss contingencies, including litigation and environmental remediation. To achieve these objectives, the ASU would:
- Expand the threshold for disclosure to include certain remote loss contingencies.
- Require quantitative disclosure of publicly available information and other relevant, nonprejudicial information about the contingency.
- For public entities, which would include higher education institutions that are conduit debt obligors, require a tabular roll-forward of recognized loss contingencies for each reporting period.
For independent institutions with a significant number of loss contingencies, gathering and reporting the data could be onerous and administratively burdensome. The additional disclosures could result in many pages of detailed information that would confuse the reader and potentially overstate the ultimate risk associated with the claims. Another concern is the potential increase in both legal and audit fees resulting from the proposed requirements.
Revenue recognition. FASB's proposed guidance seeks to create a single revenue recognition standard for IFRS and U.S. GAAP. The exposure draft covers exchange contracts for goods and services and proposes that revenue be recognized using performance obligations. A performance obligation is an enforceable promise, whether explicit or implicit, in a contract with a customer that transfers goods or services to the customer. Because research projects can extend over multiple years and lack intermittent defined deliverables, FASB's proposed guidance could alter the way this significant revenue stream is recognized by independent institutions.
Although FASB and GASB have agendas that are diverging, we believe that advocacy efforts must persistently remind both boards of the commonalities in their objectives.
Lease accounting and reporting. FASB's proposed ASU in this area was the result of a joint project with the IASB. The impetus for the proposed guidance is the increasing volume of operating leases, which can cause significant amounts of rent expense to obfuscate the true financing obligations of public companies. The proposed guidance will eliminate operating leases by requiring recognition of the assets and liabilities arising from all lease contracts.
The volume and variety of lease transactions in higher education may necessitate operational changes, if the proposal as written becomes an accounting standard. After all, colleges and universities enter into numerous lease transactions as both lessees and lessors. As a lessee, the institution may lease research, scientific, office, and fitness equipment; vehicles; real estate; and more. Transactions as a lessor include the leasing of apartments and dorm rooms to students as well as leases involving computers, bookstores, land, and real estate investment property. Another concern is that, while many leases may be immaterial individually, under the proposed guidance, it may be necessary to aggregate them for audit or financial statement presentation. Recognition of these leases that had previously been excluded from the statement of financial position will influence financial ratios and covenants and require extensive preparer time and effort.
Higher Education Responds to FASB
Through our comments to FASB proposals, NACUBO and its Accounting Principles Council (APC) have emphasized that independent higher education institutions are nonpublic organizations. Although the issuance of tax-exempt debt by institutions results in a designation as "public" by FASB, such a designation is an unfair leap to an international accounting convergence effort intentionally designed for publicly traded companies. Consequently, NFP colleges and universities are being swept into an international convergence effort from which NFPs have been explicitly scoped out. We contend that despite the fact that institutions have publicly traded debt, they have a different focus, distinctive financial statements, and a different set of financial statement readers and stakeholders than for-profit and publicly traded companies. We believe that while much of FASB guidance and proposals of late may make sense for businesses and other public‐interest entities that are moving toward the use of IFRS, requiring the same financial reporting for all entities results in NFPs providing significant amounts of information—at a great organizational cost—that their financial statement users have not requested and may not find particularly valuable.
Standards Commonalities and Variances
When it comes to accounting guidance that affects both independent and public institutions, GASB and FASB both focus on resources, obligations, and restrictions. GASB additionally considers service capacity and potential. In the government environment this means resources that can be drawn on to provide services to the citizenry. Resources are also analyzed to evaluate the potential for future service capacity.
GASB and service capacity. GASB standards and exposure drafts issued in 2010 illustrate the board's thinking around service capacity. After more than two decades of extensive research and constituent outreach, the GASB issued Suggested Guidelines for Voluntary Reporting, "SEA Performance Information," in July 2010. This first-of-its-kind guidance is not an accounting standard, but offers guidelines to governments that elect to report service efforts and accomplishments (SEA).
SEA performance information communicates how a government performs in providing services to its citizens. Such additional information is intended to complement the external general purpose financial statements. As such, SEA is a means of conveying a government's accountability to its stakeholders. Through the inclusion of objectives, key measures, and a discussion and analysis of results, SEA information shines a light on the qualitative characteristics of service capacity.
GASB also released a preliminary views document on pension accounting and reporting. (When topics are considered complex, GASB typically extends the due diligence process by using a preliminary views document before issuing an exposure draft.) The pension project lays the foundation for reconsideration of all major postemployment-benefit accounting and financial reporting issues. The scope of the project is a post-implementation review of current pension standards. In this review of pension accounting and reporting, the board and staff are carefully studying how the benefit expense and liability for the employment exchange—that includes the promise of future defined pension benefits—is best measured and reported. Ultimately at stake is recognition of a pension liability—perhaps at tremendous effort-with a magnitude that could affect current and future service capacity for governments.
Even if the magnitude of liabilities is less than significant, determining a fair postemployment liability allocation across numerous and diverse governments within a state may well be daunting. Regardless of allocation methodology decisions, as state governments adjust to newly recognized expenses and liabilities, any impact on current service capacity has the potential to influence funding to public institutions.
FASB and economic utility. Considering not-for-profit organizations, FASB concepts appear to support the notion that external financial statements should provide information that allows present and future resource providers to make resource decisions. For higher education, this means decisions related to donations, grants, lending, or use of programmatic services. This decision utility is also important to GASB, although GASB must also consider how financial statement information influences the economic, social, and political environment.
In 2011, NACUBO and its Accounting Principles Council hope to work with FASB through its Not-for-Profit Advisory Committee (NAC), which was formed in 2010. Several APC members will regularly observe NAC meetings and participate in related focus groups. Stephen D. Golding, vice president for finance and treasurer, University of Pennsylvania, is a NAC member representing higher education.
The information needs of not-for-profit financial statement users is likely the focal point of NAC's work. This central theme will help FASB examine the NFP reporting model and better understand what the meaningful distinctions are between not-for-profits that are considered public and those defined as nonpublic.
The Next 25
We know what higher education accounting and reporting looked like 25 years ago. In today's complex world, we are certainly challenged to imagine what changes might take place by 2035! Although FASB and GASB have agendas that are diverging, we believe that advocacy efforts must persistently remind both boards of the commonalities in their objectives and ways in which those shared goals relate to the needs of the higher education industry's financial statement users.
Perhaps higher education must also spend time enumerating and evaluating what is needed by rating agencies, underwriters, creditors, governments, parents, and students. In higher education administration's infancy, the industry came together to develop consistent fund and reporting definitions. Maybe it's time again to develop future-oriented industry guidance based upon the needs of our many interested stakeholders.
SUE MENDITTO is director of accounting policy at NACUBO.