Accounting Principles and Concepts

Accounting principles and concepts provide a basic framework for accounting and financial reporting. They ensure the users of financial information are not misled by varying accounting practices which conflict with the spirit of the accounting profession. Accounting principles and concepts are integral to GAAP. Included here are some of the principles and concepts to reference when determining how to handle various accounting transactions.

General Accounting and Concepts

  • Arm’s Length Principle: parties to a transaction are independent and on equal footing with no conflict of interest present
  • Comparability Principle: accounting standards and policies are applied consistently from one period to another
  • Consistency Principle: accounting methods are applied in the same manner in the future and enables comparability
  • Fiscal Responsibility: the act of creating, optimizing, and maintaining a balanced budget
  • Going Concern Concept: likelihood of the agency continuing its normal course of business
  • Matching Principle: Must record expenses in the period in which the related revenues are earned, which is the basis of the modified accrual accounting method
  • Materiality Concept: relating to the importance/significance of an amount to be considered material in nature (typically $100 or more)

Internal Controls

Separation of Duties Concept: having more than one person required to complete a transaction and is an internal control to prevent fraud and/or error

Qualitative Characteristics

  • Relevance Concept: Information is needed and it is expected to affect decision making
  • Reliability Concept: Information is required to be accurate, true, and fair
  • Understandability Concept: Information is understandable by others who have reasonable background knowledge

Accounting System

An accounting system is designed to record all transactions of the organization. Separate logins should be established for each authorized user with specific rights defined according to his/her position and authorized authority.

Accounting Methods

Most agencies have the option of whether to use the cash or modified accrual method for accounting purposes. Some of the differences between the two methods are as follows:

Cash Method

  • Revenue and cost are recognized when cash is received and/or spent
  • Most agencies can use
  • Saves time since there’s less accounting entries and is not as complicated
  • Good method to use if there’s a lower risk of under/over-stating the agency’s financial position

Modified Accrual Method (preferred)

  • Revenue recognized when earned, measurable and available
  • Expense recognized when the liability is incurred
  • Provides a more accurate snapshot of agency’s financial position which allows comparability throughout the year
  • Helps identify potential cash flow issues, based on revenue earned and liabilities incurred
  • Grant funds received in advance are recognized as unearned revenue (liability) until expenditure(s) are made and revenue is earned
  • Financial statements are prepared using the modified accrual method thus less end-of-year adjustments

Debt and Credits

In double-entry accounting, debits must always equal credits and, as such, every transaction recorded is “in balance.” The normal balance (NB) for each type of account is shown. For example, assets normally have a debit balance, which means debit an asset to increase it; crediting the asset account decreases the account balance.

Internal Controls

Employees may have financial pressures which provide the motive/incentive to commit fraud and rationalize their behavior. Proper internal controls reduce the opportunity. Districts should strive to implement internal control strategies such as segregation of duties, strong control environment, and other internal control procedures to protect public funds from fraudulent activities. The Fraud Triangle, first identified by sociologist Donald Cressey, is a model for explaining the three components involved which together may lead to occupational fraud:

There are various types of fraud that are considered felonies such as:

  • Theft: which includes temporary taking of even a small amount of public funds (Minn. Statute 609.52)
  • Embezzlement: is to refuse or omit to turn over public funds (Minn. Statute 609.445 and 609.54)
  • False claims: is presenting, allowing, or paying falsified information (Minn. Statute 609.465 and 609.455)
  • Forgery: such as check forgery or altering a public record with the intent to defraud (Minn. Statute 609.631, 609.625 and 609.63)
  • Misuse of public funds or assets

In a strong control environment, the same rules apply to everyone. Don’t belittle internal control procedures nor allow management to override procedures. Avoid conflicts of interest (Minn. Statute 471.87 – 471.89), have a policy of appropriate discipline for violations, be alert to an employee’s outside interests, and always remember it’s the public’s money.

The Office of the State Auditor (OSA) Legal/Special Investigations Division investigates allegations of theft or misuse of public funds. It also provides legal compliance information and training to local government officials. The following are the reporting requirements if fraud is suspected (Minn. Statute 609.456):

  • Public employee/officer who discovers evidence of theft, embezzlement, unlawful use or misuse of public funds, or property must promptly report to the state auditor (in writing) and to law enforcement
  • Identity of a Minn. Statute 609.456 reporter is private data, per Minn. Statute 6.715, subd. 2
  • Reporting form is on the OSA website: http://www.auditor.state.mn.us/default.aspx?page=reportingfinancialconcerns

A special thank you to the Office of the State Auditor Legal/Special Investigations Division for providing the majority of internal control recommendations noted within this chapter.