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Ministry of Finance Slovak Republic Inception report Adviser on Public Finance Accounting Slovak Republic Public Finance Management Reform Albert A. Hrabak 24 June, 2004 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting Table of contents 1 EXECUTIVE SUMMARY ........................................................................................................... 3 1.1 Assignment Objectives ...................................................................................................... 3 1.2 Assessment ......................................................................................................................... 3 1.3 Recommendations .............................................................................................................. 3 2 BACKGROUND ........................................................................................................................ 4 2.1 Project .................................................................................................................................. 4 2.2 Objectives of assignment................................................................................................... 5 2.3 Duties & responsibilities .................................................................................................... 5 2.4 Proposed Change to Adviser Duties, Responsibilities, and Outputs ............................ 6 2.5 Definitions of Financial Accounting and Financial Reporting ........................................ 6 2.6 Development of the European Communities’ Accounting System ................................ 8 2 2.1 ASSESSMENT OF THE SITUATION ..................................................................................... 10 Summary of recent activities ........................................................................................... 10 2.2 Assessment ....................................................................................................................... 11 2.2.1 Definitions of Public Finance Accounting ................................................................... 12 2.2.2 Ownership of Public Finance Accounting Information ................................................ 16 2.2.3 Public Finance Accounting Information Systems ....................................................... 17 2.2.4 Public Finance Accounting Methodology .................................................................... 19 2.2.5 Public Finance Accounting Personnel Capacity ......................................................... 20 3 WORK PLAN .......................................................................................................................... 23 4 ATTACHMENT A: AN ACCOUNTING DATA QUALITY ASSESSMENT FRAMEWORK ..... 27 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting 1 1.1 Executive Summary Assignment Objectives The objectives of this assignment are to assist the Government with investigating the weaknesses of the present system of public finance accounting and to design a road map for the introduction of accrual accounting in the public administration. 1.2 Assessment The current general condition of public finance accounting in Slovakia is that the information being generated does not completely meet the basic quality criteria of: relevance, reliability, comparability, timeliness, and understandability - in the context of the MFSR's need to manage the state budget and fiscal position. The impact of the public sector on fiscal risk is understood well only when data beyond the confines of government budgets and direct debt is readily available, effectively presented, and carefully examined. Contingent liabilities, implicit liabilities, and trends in the structure of government operations, assets, and liabilities influence government’s ongoing capacity to provide essential services and operations to its citizens. Uniform and comprehensive definitions and use of internationally recognized financial and fiscal indicators, a high level of informed public awareness, well-conceived external monitoring, and appropriate positive and negative incentives that ensure quality data is available greatly reduce government’s exposure to fiscal risk. The MFSR has implemented a number of accrual accounting concepts, methodologies, and guidelines, but how well the information being produced and presented meets primary stakeholder needs is questionable, from both methodlogical and implementational perspectives. As noted by S.L. Athukorala and B. Reid in thier monograph Accrual Budgeting and Acccounting in Government and its Relevance for Developing Member Countries, ADB, 2003: Implementation of accrual accounting needs to involve a culture change in government and be linked with wider public management reforms. The change should be actively promoted, especially at the level of policy makers and senior officials. For accrual [accounting] to be worthwile and successful, the information that accrual [accounting] provides needs to be used to improve decision-making in government. This assessment focuses on five areas which the adviser believes are important for senior MFSR management to consider in the area of public finance accounting. These areas are: 1.3 Definitions of Public Finance Accounting Ownership of Public Finance Accounting Information Public Finance Accounting Information Systems Public Finance Accounting Methodology Public Finance Accounting Personnel Capacity Recommendations Recommendation 1 The MFSR must produce a clear and inclusive definition of public finance accounting, how the various components relate and support each other, and be consistent with the 3 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting standards and trend in other European Union countries. Public sector finance accounting and reporting must be addressed separately from private sector accounting and reporting and clearly differentiated. The MFSR should create a methodological section in the State Reporting Section to address public finance accounting methodological needs and should consider whether a separate Act on Public Sector Financial Accounting and Reporting is needed and should be prepared. Recommendation 2: The MFSR must strongly assert its ownership of, or at least effective access to, detailed public finance accounting information at a low level of aggregation and in a consistent format and content so that it can meet its responsibility to manage the financial, fiscal, and advise on the operational policies, and be consistent with the standards and trend in other European Union countries. Recommendation 3: The MFSR must re-specify the basic operability criteria of, and its access to, public finance accounting information systems to promote functionality of public finance accounting and reporting so that it can meet its responsibility to manage the financial, fiscal, and advise on the operational policies, and be consistent with the standards and trend in other European Union countries. Recommendation 4: The MFSR must produce a clear and inclusive definition of public finance accounting, and specific formats and content for the several public finance accounting and reporting methodologies, consistent with the standards and trend in other European Union countries, especially in terms of a framework for improved public sector resource management and efficient service delivery, and for implementation of program budgeting and program performance monitoring and evaluation. Recommendation 5: The MFSR should develop a clear and comprehensive vision and strategy for how public finance accountants will be able to obtain appropriate levels of training and experience to meet the needs of users of public finance accounting information. Attention should be paid toward developing a professional association that could integrate Slovak public finance accountancy professionals into the national and global profession and create linkages to similar organisations in other European Union countries. 2 2.1 Background Project The Ministry of Finance of the Slovak Republic (MFSR) has negotiated from the World Bank a loan to support public finance management reforms (PFMR). The loan finances technical assistance and training to strengthen the institutional capacity for budgeting, expenditure management and the financial management of government operations. For the creation of a credible medium term fiscal framework, the strengthening of public finance transparency and management, and the optimal functioning of the new State Treasury (ST) and Debt and Liquidity Management Agency (DLMA), it is necessary to have relevant, reliable, comparable, timely, and understandable information on public finances, including the extent of outstanding liabilities and claims. The present system of primarily cash-based public finance 4 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting accounting provides neither the full extent of needed financial information, nor financial information with all of these qualities. Further, the MFSR has adopted a time-consuming and error-prone manual adjustment process to transform cash-based public finance data to accrual-based ESA-95. It is clear that implementing accounting practices with developed accrual based and management accounting features in the public administration, in line with IPSAS standards and fully compliant with National Accounts requirements based on ESA 95 rules and legislation, would be an important achievement of the PFMR. The complexity, costs, and efforts needed to implement accrual accounting suggest that a thorough investigation of the depth and sequencing of the extension of accruals to public finance accounting in Slovakia should be carried out. Other considerations that complicate the situation include: the prevailing lack of public financial management capacity; the lack of conceptual and support structures; and the needs of legal entities in the budget sphere who must link to the state-of-the-art ST and the DLMA systems and processes. A further complication is the introduction of program and performance budgeting which requires even more standardized accounting, the use of an amended Chart of Accounts, and flexible reporting capabilities. Finally, the issue of a sufficiently large and well trained body of public finance accountants must be considered. 2.2 Objectives of assignment The objectives of this assignment are to assist the Government with investigating the weaknesses of the present system of public finance accounting and to design a road map for the introduction of accrual accounting in the public administration. 2.3 Duties & responsibilities The specific tasks of the Adviser are to: Assess the current system of cash based public finance accounting, with emphasis on minimization of the risks and the administrative burden of an extended public finance accounting model and practice; Make a SWOT analysis for the extension of public finance accounting required, in particular regarding the introduction of accrual accounting in public administration and with emphasis on scope, costs and timing; Include in the assessment and the SWOT analysis practices and developments in other transition countries and EU Member States; Propose improvements to the current system of public finance accounting and develop a migration plan for the extension to accrual based accounting practice; Work closely with other advisers providing assistance under the PFMR program, to ensure that the proposals are fully consistent with and link to the overall PFMR program. Required Outputs Assessment of the current system of cash based public finance accounting; SWOT analysis of an extension of public finance accounting to introduce accrual accounting in public administration, in line with international standards; Proposal for improvements to the current system of cash based public finance accounting; Proposal for a migration plan to extend public finance accounting to accrual accounting practice. 5 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting The adviser intends to provide other outputs as needed or advisable to fulfil the objectives of the assignment, including presentations and occasional briefings on the subject matter. 2.4 Proposed Change to Adviser Duties, Responsibilities, and Outputs As will become apparent upon reading this Inception Report and Assessment, there is much work needed to bring the Slovak Republic to the level of European Community states in public finance accounting, pubic financial reporting, and fiscal risk identification and management. Therefore, the Adviser suggests that in addition to proposing improvements to the current system of public finance accounting standards and formulating a migration plan for the extension to accrual based accounting practices, a broader approach be taken. This broader approach would also address accounting terminology and data definitions, accounting system functionalities, and reporting outputs for financial statement and fiscal statistical reporting. If adopted, this additional work would occur during the third phase of this assignment and would provide useful diagnostics, baseline formats and content, and a strategy for fuller implementation of accrual accounting and prioritised harmonization with European Community practices. This work could be accomplished most effectively, efficiently, and at a better cost/output ratio with the addition of a Slovak public accounting expert who is dedicated solely to project activities concentrating on technical translation and development of methodological materials, as opposed to adding additional Adviser level of effort. 2.5 Definitions of Financial Accounting and Financial Reporting There are many definitions of the word “accounting”, but a simple and functional one is: “The system of recording, classifying, and summarizing economic transactions.” This definition underscores several important features: 1) accounting is a system; 2) the activities of accounting are recording, classifying, and summarizing; and 3) accounting deals with economic activity The purpose of financial accounting is to support financial reporting. In its Study 11, Government Financial Reporting: Accounting Issues and Practices, (May 2000) IFAC defines “Financial Reporting” as: The communication of financial information by an entity to interested parties. It encompasses all reports that contain financial information based on data generally found in the financial accounting and reporting system. It includes financial statements as well as financial information presented in budgets, fiscal plans and estimates of expenditure or reports on the performance of individual programs or activities. This definition highlights the concept that financial reporting is not limited to a single type of report, neither internal nor external to an organisation, but is rather the act of communication of financial information, highlighting the ability of accounting to support various user needs. Study 11 also defines “Financial Statements” as: The accounting statements prepared by a reporting entity to communicate information about its financial performance and position. 6 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting Study 11 also states that governmental financial reports generally help users to: Assess the sources and types of revenues; Assess the allocation of and use of resources; Assess the extent to which revenues were sufficient to cover costs of operations; Predict the timing and volume of cash flows and future cans and borrowing requirements; Assess the government’s long term ability to meet financial obligations, both short term and long term; Assess the government’s or entity’s overall financial condition; Provide the public with information concerning those assets held on behalf of taxpayers, specifically information on ownership and control, composition, condition and maintenance; Assess the financial performance of the government or entity in its use of resources; Assess the economic impact of the government on the economy; Evaluate government spending options and priorities; Assess whether resources were used in accordance with legally mandated budgets and other legislative and related authorities such as legal and contractual conditions and constraints; and Assess the government’s or entity’s stewardship over the custody and maintenance of resources. Therefore, accounting, accounting information systems, and financial reporting should be considered in terms of their effectiveness and efficiency in meeting a hierarchy of information user needs. This is best done within the context of cost-effectiveness of generating specific continuing outputs (reports) but also for supporting ad hoc query and reporting needs for management purposes. This is particularly true in the public sector of democratic, open market-based nations where economic performance and political transparency realities require that information be effectively used to develop, implement, evaluate, and modify operational and financial policies to provide citizens with effective and efficient services and financial stability for enhanced economic well-being. Finally, democratic governments are called upon to publish objectively verifiable stewardship reports on their success in meeting their political agendas, and as a part of a larger community, such as the European Union, their ability to meet fiscal and financial stability criteria. Indeed, the November 2002 Policy Statement of the Government of the Slovak Republic directly addresses this issue under the headings of Democratic state governance and Public finance reforms: The Government’s principal endeavour in the forthcoming period will be to ensure effective, slim and not expensive state, reduce bureaucracy in state administration, debureaucratise and modernise public administration and complete the public administration reform. The Government will carry out a revision of all structures, prepare changes in labour law legislation and reorganise state administration. … and … By reinforcing the role of programme budgeting and clearly defining the links between the goals and costs of individual programmes, the transparency and efficiency of the use of public finance will be improved. At the same time, programme budgeting will allow for better assessment of the results of governmental policies in individual areas. The Government will gradually strengthen the importance of medium-term budget outlooks in the management of public finance. 7 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting 2.6 Development of the European Communities’ Accounting System In the past few years the European Communities have undergone rapid fiscal and financial change. Each state, and the European Commission as a separate entity, has reacted to changing economic, fiscal, and financial needs in part by implementing changes in their generation, reporting, and use of economic, fiscal, and financial information. This is reflected in changes in financial reporting and financial statements of the European Communities’. For example, the European Commission’s Year 2000 Revenue and Expenditure Account and Balance Sheet ,Volume IV, Revised Version , Consolidated Revenue and Expenditure Account and Balance Sheet (SEC(2001 1448-EN) provides a discussion of the development of the European Communities’ Accounting System. On page 12, it states, in part: …it has emerged that the European Communities’ accounts needed to be modernised to change to … a system based on assets and liabilities with the objective of presenting the Communities’ financial situation in a more comprehensive form…. …it is now considered inevitable that cash accounting should be abandoned and that a relative degree of harmonisation should be sought for new practices. … At present, this information does not come from an integrated system of accounts. The Accounting Officer’s departments have to use non-accounting information from the various Directorates-General to complete the financial balance sheet and draw up the annexes to this balance sheet. This procedure undermines the exhaustiveness of the data. … The institutions must also give themselves the necessary means for guaranteeing the quality of the information provided in the financial statements and implement new, more effective management and control tools. In simple terms, the reforms focus on the following: 1. Retention of a cash-based reports on budget implementation and move towards general accounts based on the accrual principle; 2. Integrated accounting: the enhancement of budget accounting should allow transactions to be properly entered in the accounts; no lists from outside the accounts need then be used to draw up the financial statements; 3. Development of the general accounts from a cash-based account into one based on the principle of accrual, which give a more faithful picture of the actual situation; 4. Definition and adjustment of the scope of consolidation in accordance with international standards; 5. In substance, the EC’s financial statements should be brought into line with international standards. These statements are a product of the accounting system. Their objective is to give a faithful picture of assets, the financial situation, budget execution, the entity’s results, and the cash flow for the year. The ultimate purpose of this accounting reform is of course to improve financial information and provide relevant information for decision making. 8 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting 9 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting 2 2.1 Assessment of the situation Summary of recent activities This inception report covers the first six weeks of the assignment - the first phase of the assignment. The objective of the first phase of the assignment is to assess the current system of public finance accounting, with emphasis on minimization of the risks and the administrative burden of an extended public finance accounting model and practice. The work began on 26 April, 2004 and ran through 14 May 2004, began again on 7 June, 2004 and then ran until 23 June, 2004. The adviser has conducted an intensive six-week period of document collection, interviews, and discussions within the Ministry of Finance, with the State Treasury, the Supreme Audit Office, and with line ministries. The purpose of these activities was to understand the current methodologies, systems, practices, relationships, outputs, and uses of public finance accounting in Slovakia, and to form an opinion on their strengths and weaknesses, and areas where unburdensome and low-risk interventions might improve the functionality of current practices. During the second half of this period, the MFSR published several documents which had not been disclosed to the Adviser previously. These include the Návrh štátneho záverečného účtu SR za rok 2003, which includes summary budgetary and financial statement reports of public sector entities reflecting accrual principles embodied in the Law on Accounting (zákon č. 431/2002) as applied to public sector entities, including depreciation of long-lived fixed assets, and revaluation for changes in market prices and impairments in value of financial assets. Additionally, at least at the state level, the financial statements seem to reflect state guarantees of third party debt and other contingent liabilities. However, the Adviser has not yet been able to determine the adequacy of methodologies used and the universality of their application. Furthermore, the adviser has reviewed reports and memorandums from, and had discussions with, other PFMR and associated advisory personnel so as to share knowledge, gain perspectives, and build cooperation and coordination. The discussions with other advisory personnel supports the view that substantial implementation of accrual accounting has begun in the public sector but the extent of the methodologies, and the universality and uniformity of application are unknown. MFSR methodological experts estimate that the current Slovak public sector financial accounting methodologies address approximately 70% of international public sector accrual accounting standards, but cannot express an opinion as to how well they are being implemented in practice as there are numerous public sector accountant training and staff turnover issues as many are being lost to the private sector where there is a high demand for skilled accountants and much better pay. This inception report provides observations in the following section which the adviser believes are most important to the Steering Committee. The recommendations should be valuable in confirming existing MFSR management beliefs, and provide direction for the balance of the advisory assignment. It will be the work of the adviser through the coming 70 baseline days of effort over the next halfyear to assist the MFSR in developing viable alternatives, and a recommended migration plan, based on effective practices and experiences of other countries, to improve public finance 10 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting accounting in Slovakia to a level where the MFSR has confidence that the information being provided is useful in: obtaining a true and fair view of public finance; allowing development of sound macroeconomic and public policy; creating transparency and accountability in government; managing and evaluating public fiscal, financial, and operational needs; and meeting statutory obligations for financial reporting. The following assessment will focus on five areas which the adviser feels provide an accurate assessment. The assessment will be provided in two formats: the SWOT format requested, and the “Five Attributes” – (Criteria, Condition, Cause, Effect, and Recommendations) format that is used globally by governmental auditors to evaluate and report on performance assessments where their professional opinion is needed. Because of the nature of this assignment, the adviser will indicate what the possible effect of the accounting system dis-functionality has on the fiscal risk of the Slovak Republic, where applicable. The Work Plan found at the end of this Inception Report provides what the adviser believes is an appropriate timing, sequencing, and focussing of time and effort to achieve the objectives of the assignment and to deliver a high quality of outputs specified for the assignment. However, the time frames may be varied to meet the needs of the MFSR, of the PFMR project as a whole, to ensure that effective interfacing with counterparts and other advisers is obtained, and to allow any additional activities determined necessary to be programmed. 2.2 Assessment This assessment focuses on five areas which the adviser believes are most important for senior MFSR management to consider in the area of public finance accounting. These areas are: Definitions of Public Finance Accounting Ownership of Public Finance Accounting Information Public Finance Accounting Information Systems Public Finance Accounting Methodology Public Finance Accounting Personnel Capacity The current general condition of public finance accounting is that the information being generated does not completely meet the basic quality criteria of: relevance, reliability, comparability, timeliness, and understandability - in the context of the MFSR’s need to manage the state budget and fiscal position. Further, the information generated by the various accounting information systems do not meet the generally accepted five dimensions of data quality, as explained in Attachment A “An Accounting Data Quality Assessment Framework”. The impact of the public sector on fiscal risk is understood well only when data beyond the confines of government budgets and direct debt is readily available, effectively presented, and carefully examined. Contingent liabilities, implicit liabilities, and trends in the structure of government operations, assets, and liabilities influence government’s ongoing capacity to provide essential services and operations to its citizens. Uniform and comprehensive definitions and use of internationally recognized financial and fiscal indicators, a high level of informed public awareness, well-conceived external monitoring, and appropriate positive and negative incentives that ensure quality data is available greatly reduce government’s exposure to fiscal risk. The MFSR has implemented a number of accrual accounting concepts, mtehodologies, and guidelines for public sector entities in Slovakia, but how well the information being produced and presented and how 11 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting well it meets primary stakeholder needs is questionnable - from both methodological and implementational perspectives. As noted by S.L. Athukorala and B. Reid in thier monograph Accrual Budgeting and Acccounting in Government and its Relevance for Developing Member Countries, ADB, 2003: Implementation of accrual accounting needs to involve a culture change in government and be linked with wider public management reforms. The change should be actively promoted, especially at the level of policy makers and senior officials. For accrual [accounting] to be worthwile and susccessful, the information that accrual [accounting] provides needs to be used to improve decision-making in government. 2.2.1 Definitions of Public Finance Accounting Interviews and documentary review indicate that Slovak public sector accountants and managers generally consider that there are (at least) four types of activities being done in Slovakia that are considered to be “public finance accounting”: budgetary accounting and reporting; bank account accounting; economic and fiscal statistics accounting and reporting; and “bookkeeping” accounting and reporting. The latter is generally what is referred to in other OECD countries as financial accounting and financial reporting. In Slovakia, relatively little time and few resources have been spent on public sector financial accounting and financial reporting standards primarily because the focus in the public sector has been on budgetary accounting and reporting, and on current cash balances and timing of expenditures. For the purposes of this report, it is useful to provide basic distinctions between these activities that are considered in Slovakia to be “public finance accounting”. “Budgetary accounting” primarily focuses on matching and reporting cash flows (transactions) arising from implementation of a current-year budget of revenues and expenditures, according to the structure and coding of the budget. “Bank account accounting” is primarily concerned with managing and reporting on the flows into and out of, and the residual balances of, specific bank accounts. “Economic and Fiscal statistics” accounting and reporting (such as ESA 95 and GFS) focus on tightly defined and measured accrual-based economic flows and residual economic values of assets and liabilities (stocks) in specific statistical reporting formats. “Bookkeeping” accounting and reporting focuses on reporting generally-defined financial flows and residual financial or economic values of assets and liabilities according to generally accepted principles that can be cash-based, accrual-based, or somewhere in between, and are reported in standardised sets of reports with agreed-upon formats. This “Bookkeeping” accounting is the primary source of financial information in private sector enterprises. Slovakia has currently adopted International Accounting Standards (IAS) as its “Bookkeeping” accounting standard for all entities, including, with some modifications, public sector bodies. It is important to realise that much of the information for these four types of accounting comes from exactly the same transactions, but is recognised, combined, and reported differently to provide meaningful information for the purposes of different categories of users. The figure on the following page illustrates the differences in the application and use of commonly recognised accounting standards. Bank account accounting is the most limited and tightly focused, then budgetary accounting, then fiscal statistical accounting and then “bookkeeping” accounting is the most general-purpose, yet typically allows for the most detailed level of classification of transactions and therefore is frequently 12 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting the primary recording system.. All are necessary for a high degree of professional financial and fiscal management as each provides useful ways of analysing information (if “quality”) to guide effective policy, operating, and investment decisions. Gert Paulson recently stated in his paper Accrual Accounting In the Public Sector - An Evaluation of the Use of Accounting Information in the Central Government in Sweden [PSA], EAA 2004, Prague (1-3 April 2004) that: … accrual accounting information is used both in the agencies and in the ministries, but that there are huge differences between the use of different types of information, and between the use of the information for different purposes. In the agencies, information about cost per different objects, e.g. responsibility centers, is used to a very large extent. In the ministries, the follow-up information against state budget, which is still based upon a modified cash principle, is used more than the accrual accounting information. However, the study indicates that information about cost per different objects, especially policy areas and activity areas, is used to a relatively large extent. Further, “Kontrol” activities - internal and external, financial and otherwise - seem to currently focus considerably more on perceived compliance with regulations, job titles, and detected errors rather than on completeness and integrity of 13 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting Government Accounting and Reporting Relationship Evolution LEVEL National Economic and Fiscal Accounts Government Finance Statistics (GFS) *3 National Economic Accounts *4 DATA CONVERSION National Financial Accounts Sub-National Unit Financial Accounts DATA CONVERSION General Government Central Government *1 State Financial Accounts Component Unit Financial Accounts DATA NonGovernment Statistics (Private Sector) *2 Central Government Agencies, Ministries, Departments *1 Critical Financial Organizations (e.g. Central Bank, Treasury) *1 Statutory Bodies Public Enterprises (e.g. Special Boards) (e.g. Utilities, Infrastructure) *1 or *2 *2 State and Regional Governments *1 State/ Reg. Government Enterprises *2 Local Governments *1 Local Government Enterprises *2 Social Security Funds *1 Legend: STANDARD European System of National and Regional Accounts in the Community (ESA95) *4 IMF Government Finance Statistics (Fiscal Statistics) (GFS) *3 Public Sector Accounting Standards (e.g. IPSAS or National) *1 International Accounting Standards (IAS) *2 Entity, * standard Modified from: ACCRUAL BUDGETING AND ACCOUNTING IN GOVERNMENT AND ITS RELEVANCE FOR DEVELOPING MEMBER COUNTRIES, SL Athukorala and B Reid, Regional and Sustainable Development Department Governance and Regional Cooperation Division, Asian Development Bank 14 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting accounting information or its ability to meet user needs, although this situation is beginning to change due in large part to the requirements for accession into European Union. Financial Audit, as defined by the global accountancy profession, of public sector entity financial statements is a new concept in Slovakia, and as full financial statements are currently neither required to be prepared by entities connected to the state budget and local governments, nor is a full financial statement methodology specified for them, it is not known yet how auditors can express professional opinions as to whether the balance sheets provide a “fair and true” representation of the financial condition of the audited entity. 2.2.1.1 SWOT Analysis Strengths: Line ministries and other public sector entities are very aware of the need to create financial accounting information, and they seem to be creating considerable information in each category. Weaknesses: There is confusion as to what financial accounting is, what it is useful for, and how, in its entirety, it should be accomplished. Conceptually, it seems to be jumbled in many people’s minds. Therefore, attempting to meet differentiated needs, there have been developed a variety of separate accounting processes and systems which serve single purposes and which could be irreconcilable, incomplete for even any single purpose, and untimely. Frequently, accountants must input some information not contained in any system in order to meet both current user baseline demands and special requests. Opportunities: Because of the new budgetary processes and classifications, and the growing awareness of the need for additional financial streamlining, accountants and managers expect changes in processes, procedures and methodologies. Therefore, it is a good time to make sweeping reforms in the concept, practice, and effectiveness of public finance accounting in order to provide the quality of information needed to manage operations, provide accountability and transparency, and facilitate evaluation of governmental policies. Threats: The greatest threat is that the different categories of public finance accounting may be approached piece-meal, perpetuating the weaknesses exhibited. 2.2.1.2 Five Attributes Analysis Criteria: There should be a clear and inclusive definition of public finance accounting and how the various components relate to and support each other Condition: No clear or inclusive definition seems to be present. Cause: As Slovakia has transitioned to European Union, the MFSR has not adopted clear and inclusive definitions of public finance accounting consistent with the general trend in the European Union. The Act on Accounting applies IAS (private sector accounting standards) to all entities in Slovakia, including budgetary organisations and state ministries. A MFSR Opatrenie interprets this application to the public sector entities, but omits significant financial statements such as the statement of financial performance (also called the income and expense statement, or the statement of current operations). 15 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting Effect: Users, in particular the MFSR, are unable to get the information they need meeting the basic criteria for good information (as described in attachment A), thereby jeopardizing the government’s ability to make well-informed financial, operational, and fiscal policy decisions. Recommendation: The MFSR must produce a clear and inclusive definition of public finance accounting, highlighting how the various components relate and support each other, which must be consistent with the terms, standards, and trend in other European Union countries. Public sector finance accounting and reporting must be addressed separately from private sector accounting and reporting and clearly differentiated. The MFSR should create a methodological section in the State Reporting section to address public finance accounting methodological needs and should consider whether a separate Act on Public Sector Financial Accounting and Reporting should be prepared. 2.2.2 Ownership of Public Finance Accounting Information Interviews and documentary review indicate that Slovak public sector accountants and managers generally consider that the public finance accounting information they produce within their sections belongs to them, or their direct supervisors, and is produced for a specific purpose. While they are frequently ready to share their data when authorised to do so, the level of aggregation, format, and completeness of it for purposes other than the specific purpose for which it was created is generally disclaimed. Rather than providing access to data, they generally provide reports containing what is asked for. In some cases, they will make considerable effort to disaggregate data that has been aggregated or to restructure it in reports which were not produced for their own uses, but many requested reports cannot be easily produced when the need arises because of system or methodology limitations. 2.2.2.1 SWOT Analysis Strengths: Slovak public sector accountants generally take their responsibility for providing their public finance accounting information seriously and are committed to making efforts to ensure that their outputs are as sound as the methodologies, processes and systems allow, even going so far as to collect “off system” data in order to meet changing user needs and to provide reports not supported by information systems. Weaknesses: They are constrained by the methodologies, processes and systems that compartmentalize their efforts for specific-purpose generation of reports, rather than providing data in formats that would meet multiple user needs. Opportunities: Because of the new budgetary processes and classifications and the evolving “bookkeeping” financial accounting methodologies, growing awareness of the complexity of accounting information generation and the need for timely access to quality information for flexible reporting, accountants and managers expect changes in processes, procedures, and methodologies. It is therefore a good time to redefine who owns, has access to, has control over, and has authority to define public finance accounting data, information, and outputs. The PFMR components “Strategy for Information Systems” and “Review of Information Systems in the Revenue, Treasury, Budget, and Accounting Areas” are tasked with design of the strategy of implementation of a State and public finance accounting system, establishment of a unified integrated budgeting and accounting system strategy, and drafting recommendations to enable 16 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting efficient accounting and meet financial management function needs, which will address some of these issues. Threats: The greatest threat is that the variety of entities and levels within entities will retain ownership and control over public finance accounting information and the rules of access to and availability of it, which will continue to constrain its quality and usefulness. 2.2.2.2 Five Attributes Analysis Criteria: The MFSR, as the legally specified body to manage and report on the financial and fiscal condition of Slovakia, should own and have unlimited access to the public finance accounting data needed to support sound policy decisions. Condition: Currently, while the MFSR specifies the methodologies and content of public finance accounting, it has neither access to the data nor is able to enforce the quality of either the data or reports compiled from the data. Cause: Compartmentalisation and piecemeal implementation of special purpose public finance accounting information systems have prevented development of a framework of quality data and of effective access to it. Effect: Users, in particular the MFSR, are unable to get the information they need meeting the basic criteria for good information (as described in attachment A), thereby jeopardizing the government’s ability to make well-informed financial, operational, and fiscal policy decisions. Recommendation: The MFSR must strongly assert its ownership of, or at least effective access to, detailed public finance accounting information at a low level of aggregation and in a universally consistent format and content so that it can meet its responsibility to manage the financial, fiscal, and advise on the operational policies, and be consistent with the standards and trend in other European Union countries. 2.2.3 Public Finance Accounting Information Systems Interviews and documentary review indicate that Slovak public finance accounting information systems, except for the State Treasury system, are generally outdated, limited in scope, nonstandardized, cannot readily share access or detailed data, and have limited software capacity to allow user-defined query and report capability. While the information systems are the focus of other advisers work, it must be noted that public finance accounting information systems’ capability, capacity, and level of standardisation greatly impact the functionality of public finance accounting and reporting at the state and central government levels. 2.2.3.1 SWOT Analysis Strengths: The implementation of a centralized State Treasury information system that will be able to generate and accept a vast quantity of detailed and standardised public finance accounting data, and warehouse it for a variety of uses and reporting capabilities is very encouraging. 17 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting Weaknesses: To the extent that the State Treasury will only provide standardized reports to external users, or customized reports upon request subject to other priorities, and that data from non-treasury transactions are up-streamed to State Treasury in an aggregated reporting format on a quarterly basis, the issue of compartmentalised public finance accounting information systems remains. Opportunities: With the new budgetary processes and classifications, the evolving “bookkeeping” financial accounting methodologies, the recent issues concerning ESA governmental finance fiscal statistics, and growing awareness of the complexity of accounting information generation and the need for timely access to quality information for flexible reporting, it is a good time to examine both the functionality and the interoperability needs of public financial management and to develop options for improving the effectiveness and efficiency of public financial management information systems. A more comprehensive financial management information system (FMIS) should be considered in light of program budgeting needs as well as centralisation of asset and liability records. Threats: The greatest threat is that the variety of entities and levels within entities will retain procurement, ownership, and control over public finance accounting information systems which cannot readily share access or detailed data, and have limited capacity to provide MFSR with the quality of public finance accounting information needed to meet its responsibilities. 2.2.3.2 Five Attributes Analysis Criteria: The MFSR, as the legally specified body to manage and report on the financial and fiscal condition of Slovakia, should specify the basic operability criteria of, and MFSR’s access to, public finance accounting systems to promote functionality of public finance accounting and reporting. Condition: Except for the State Treasury information system, public finance accounting information systems are generally outdated, limited in scope, non-standardized, cannot readily share access or detailed data, and have limited software capacity to allow user-defined query and report capability. It is not clear how much transaction and financial accounting detail the State Treasury System will maintain, nor is it clear what access to the State Treasury information system MFSR will have. Cause: Public finance accounting information systems have been procured in piecemeal fashion and have not kept pace with changes in public finance accounting methodologies and increased user needs. Effect: Users, in particular the MFSR, are unable to get the information they need meeting the basic criteria for good information (as described in Attachment A, thereby jeopardizing the government’s ability to make well-informed financial, operational, and fiscal policy decisions. Recommendation: The MFSR must re-specify the basic operability criteria of, and its access to, public finance accounting systems to promote functionality of public finance accounting and reporting so that it can meet its responsibility to manage the financial, fiscal, and advise on the operational policies, and be consistent with the standards and trend in other European Union countries. 18 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting 2.2.4 Public Finance Accounting Methodology Interviews and documentary review indicate that Slovak public finance accounting methodology has improved considerably in the past five years for the four categories considered to be public finance accounting. The recent Act on Accounting adopted accrual-based “bookkeeping” financial accounting for all entities connected with the budget and for local governments. However, the financial statements required to be produced are limited to balance sheets, and entities may not be uniformly complying with the accrual principals required, notably for long-term assets and for liabilities. It appears that under current practice balance sheets may not cover all long-term assets, liabilities that may be due to a re-definition of what constitutes the “reporting entity”, and most likely do not include any contingent liabilities, as accounting recognition of these does not seem to be well defined. The greatest emphasis is still placed on budgetary financial accounting and reporting which is cash-based and does not provide for either accruals or assets and liabilities. There are still some limitations in accumulating public finance accounting information for preparation of ESA-95 statements entities, but these seem to be in process of resolution. While the State Treasury and the Assets Reporting Section will be accepting information reports from its Clients in formats specified by the MFSR, it is not clear whether the information will conform with the required standards, and if the required standards will meet the needs of the MFSR and other potential users. 2.2.4.1 SWOT Analysis Strengths: Slovak public finance accountants are aware of the need to implement new methodologies and realise advantages of transitioning to a new basis of accounting and reporting. Weaknesses: There seems to be no institution or group ready (prepared to assert leadership and commit resources) and able (having the resources available) to take the lead in establishing and comprehensively implementing the new standards., As previously noted the existing accounting IS’s may not accommodate the new methodologies without extensive reprogramming and upgrades. Opportunities: The launching of the new State Treasury system has created an opportunity for greater standardisation (at least in client accounting system outputs) for extending methodologies to include items not previously addressed, for correcting mis-treatments of other items, and for data warehousing of accounting data so that the public finance accounting focus could be on substance (quality data) over form (standardized report formats). The accounting and reporting divisions of the State Treasury seem to have the capability of accumulating highly sophisticated “bookkeeping” accounting classifications for all revenues and expenditures, all budgetary classifications, and accounting for assets and liabilities when the state asset register becomes functional. Threats: The greatest threat is that unless appropriate steps are taken by MFSR, public finance accountants may continue to focus on highly-aggregated, statutory format-based, single purpose output reports - as opposed to using accounting information as valuable data to be used in a variety of ways to meet various user needs, therefore not resolving the information availability problem. 2.2.4.2 Five Attributes Analysis 19 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting Criteria: The MFSR, as the legally specified body to manage and report on the financial and fiscal condition of Slovakia, should specify the accounting system, accounting basis, accounting policies, and financial statements and reports to be used by all public sector entities in harmony with European Union standards and practices. Condition: Transitional standards have been partially introduced for “bookkeeping” accounting but are not fully implemented. ESA-95 reporting is implemented, but substantial modifications and additions are required for outputs from current accounting systems. The MFSR cannot, in many cases, obtain reliable and timely dis-aggregated accounting information for specific analysis and reporting needs. Cause: Public finance accounting methodologies, processes, systems and reports have been revised in piecemeal fashion and have not kept pace with changes in public finance accounting methodologies and increased user needs. Effect: Users, in particular the MFSR, are unable to get the information they need meeting the basic criteria for good information (as described in Attachment A), thereby jeopardizing the government’s ability to make well-informed financial, operational, and fiscal policy decisions. Recommendation: The MFSR must produce a clear and inclusive definition of public finance accounting, and specific formats and content for the several public finance accounting and reporting methodologies, consistent with the standards and trend in other European Union countries, especially in terms of a framework for improved public sector resource management and efficient service delivery, and for implementation of program budgeting and program performance monitoring and evaluation. 2.2.5 Public Finance Accounting Personnel Capacity Interviews indicate that Slovak public finance accounting personnel generally feel that they have not received enough training to meet the demands of the changes in public finance accounting methodologies. They believe that they need training in methodology, as well as training on new accounting information systems to be able to produce the information and reports in the manner required by public finance accounting standards and by users of data. There is a long tradition of public finance accounting in Slovakia and many people in this field are hard-working and dedicated to doing professional quality work. They are generally well educated and many senior accounting staff have many years of valuable experience. Frequently, it is their personal contact network within public finance accounting that allows them to get the data they need which the accounting information systems do not track and provide in routine reporting. 2.2.5.1 SWOT Analysis Strengths: Slovak public finance accountants are aware of the need to implement new methodologies and realise advantages of transitioning to a new basis of accounting and reporting. Weaknesses: There seems to be no institution or group ready and able to take the lead in training public sector accountants in new standards, systems, and processes. Because of relatively low pay in the public sector, it is difficult to attract and retain well-qualified accounting personnel. 20 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting Opportunities: If MFSR initiates a sweeping reform in public finance accounting, it is possible that donor funds could supplement the cost of private sector entrepreneurs in training public finance accountants, and significant savings from better asset and program utilisation resulting from better accounting and reporting systems could be used for investing in personnel. Economies of scale in training on standardized systems, processes and standards could create a better cost-benefit profile for public finance accounting reform than training on numerous legacy systems that currently exist. The State Treasury system training program could provide a vehicle for this to be achieved, along with other useful skills and information updating, as it is envisioned to reach all 2,500+ State Treasury client entities. Threats: The greatest threat is that unless appropriate training and other incentives are provided to public finance accounting personnel, the information quality and availability problem will not be solved and valuable time will be lost in improving the ability to: monitor fiscal risks, evaluate program performance, and strengthen financial management and accountability. 2.2.5.2 Five Attributes Analysis Criteria: The MFSR, as the legally specified body to manage and report on the financial and fiscal condition of Slovakia, should specify, fund, and manage the level of training for public finance accountants in accounting methodologies, systems, policies, and reporting for all public sector entities. Condition: Currently, there are no standardized and comprehensive training programs for public finance accountants in either accounting methodologies, systems, policies, or reporting. The State Treasury training has focused primarily on operating the data exchange interfaces with State Treasury and not on content of accounting information. Cause: There has not been a comprehensive approach to public finance accountancy reform in Slovakia, and there is no professional body for public sector accountants as there is for private sector Auditors. Effect: Users, in particular the MFSR, are unable to get the information they need meeting the basic criteria for good information (as described in Attachment A), thereby jeopardizing the government’s ability to make well-informed financial, operational, and fiscal policy decisions. Public finance accountants must rely on information and training that they can find individually, or as arranged by their office, often from private sector sources. There is generally great concern about the ability of many public sector accountants to comply with accounting and reporting requirements without more comprehensive training. Recommendation: The MFSR should develop a clear and comprehensive vision and strategy for how public finance accountants will be able to obtain appropriate levels of training and experience to meet the needs of users of public finance accounting information. Attention should be paid toward developing a professional association that could integrate Slovak public finance accountancy professionals into the national and global profession and create linkages to similar organisations in other European Union countries. 21 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting 22 Ministry of Finance Slovak Republic 3 Work plan Activity Output Timing (in 2004) INCEPTION REPORT Inception Report and Presentation on Work plan and preliminary assessment of current public finance accounting in Slovakia PRESENTATION PHASE I - ASSESSMENT: Assess the current system of cash based public finance accounting, with emphasis on minimization of the risks and the administrative burden of an extended public finance accounting model and practice PRESENTATION (OPTIONAL) PHASE II- EXTENSION ANALYSIS: Make a SWOT analysis for the extension of public finance accounting required, in particular regarding the extension of accrual accounting in public administration and with emphasis on scope, costs and timing PRESENTATION (OPTIONAL) PHASE III - Propose improvements to the current system of public finance accounting and a migration plan for the extension to accrual based accounting practice. Provide useful diagnostics, baseline formats and content, and a strategy for fuller implementation of accrual accounting and prioritised harmonization with European Community practices. PRESENTATION FINAL PHASE – Finalize recommendations of Advisory Assignment in concert with other PFMR components. “Public Finance Accounting” Report and Presentation on the current public finance accounting systems with an emphasis on identification of how accounting reforms can be accomplished with minimal risk and burden Work: 26 April – 14 May Report: 21 May Steering Committee: 3 June Steering Committee: 3 June Work: 26 April – 25 June Report: 2 July Steering Committee: 20 July “Challenge to Slovak Public Finance Accounting” Report and Presentation of SWOT analysis of potential reforms, comparing experience in transition to international standards, focusing on alternatives, costs, and time needed Steering Committee: 20 July Work: 24 June – 23 July Report: 30 July Steering Committee: “International Public Finance Reporting Standards Harmonization” Report and Presentation on proposed alternatives for improvements and migration plan toward accrual accounting in Slovak Public Finance. Report and presentation on diagnostics, baseline formats and content, and a strategy for fuller implementation of accrual accounting and prioritised harmonization with European Community practices. “Alternatives in Slovak Public Finance Accounting Migration” Produce Draft Final Report and Final Report Steering Committee: Work: 6 Sept. – 22 October Report: 29 October Projected Task Steering Committee: Draft Final Report: 29 October. Final Report: 2 December Steering Committee: Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting Completion TASK Phase I: Assessment & Inception Report Start Date Finish Date April 1 2 3 4 May June July August September October November December 5 1 2 3 4 5 1 2 3 4 5 1 2 3 4 5 1 2 3 4 5 1 2 3 4 5 1 2 3 4 5 1 2 3 4 5 1 2 3 4 5 No. Days 27.IV.0 23.VI.0 4 4 29 24.VI.0 24.VII. 4 04 22 Phase II: Extension Analysis Phase III: Diagnostics & definitions Draft specific methodologies Draft alternative migration paths 06.IX.0 4 20.IX.0 4 20.IX.0 4 17.IX.0 4 08.X.0 4 22.X.0 4 Draft Final Report 25.X.0 4 29.X.0 4 5 Finish and Present Final Report 22.XI.0 02.XII. 4 04 9 10 10 15 TOTAL WORK DAYS 100 Legend : Outputs: Phase I: Inception Report with Condition Assessment, Recommendations, and 24 Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting Work Plan Phase II: Accrual Accounting Extension Analysis and Comparative Analysis of Transition Experience in EU and Selected other Countries Phase III: Draft Definitional Framework, Several Methodological Guidelines, Transition Strategy, and Migration Alternatives Draft Final Report: TA Summary, Identification of Outstanding Issues, Recommendation on Financial Accounting/Reporting Migration Path Final Report: TA Summary, Outstanding Issues, Final Recommendation on Financial Accounting/Reporting Migration Path 25 July 1 2 3 4 5 Mesiac Tyzden Slovak Republic Public Finance Management Reform Inception Report - Adviser on Public Finance Accounting 2004 April Po Ut St Sv Pi 1 2 5 6 7 8 9 12 13 14 15 16 19 20 21 22 23 26 27 28 29 30 5/5/6 Maj Ne 4 11 18 25 Po Ut St Sv Pi So 1 3 4 5 6 7 8 10 11 12 13 14 15 17 18 19 20 21 22 24 25 26 27 28 29 31 10/15/21 So 3 10 17 24 31 Ne 4 11 18 25 Po Ut St Sv Pi So Ne 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 19 18 19 20 21 22 23 24 25 26 27 28 29 30 31 00/51/73 So 2 9 16 23 30 Ne 3 10 17 24 31 Po 1 8 15 22 29 Jul Po Ut St Sv Pi 1 2 5 6 7 8 9 12 13 14 15 16 19 20 21 22 23 26 27 28 29 30 17/51/73 Jun So 3 10 17 24 Ne 2 9 16 23 30 August Po Ut 1 7 8 14 15 21 22 28 29 St Sv Pi 2 3 4 9 10 11 16 17 18 23 24 25 30 19/34/49 So 5 12 19 26 Ne 6 13 20 27 September So 4 11 18 25 Ne 5 12 19 26 Ne 5 12 19 26 07/98/137 Po Ut St Sv Pi So 1 2 3 4 6 7 8 9 10 11 13 14 15 16 17 18 20 21 22 23 24 25 27 28 29 30 31 02/100/140 Inception Phase III Final Report Phase II Draft Final Report October Po Ut St Sv Pi 1 4 5 6 7 8 11 12 13 14 15 18 19 20 21 22 25 26 27 28 29 21/91/128 November Ut 2 9 16 23 30 St 3 10 17 24 Sv 4 11 18 25 Pi 5 12 19 26 Po Ut St Sv Pi 1 2 3 6 7 8 9 10 13 14 15 16 17 20 21 22 23 24 27 28 29 30 19/70/98 December So 6 13 20 27 Ne 7 14 21 28 Legend: XX/XX/XX Current work days /total work days/ total per diem days 26 Ministry of Finance Slovak Republic 4 Attachment A: An Accounting Data Quality Assessment Framework The quality of accounting information is essential to management’s ability to make informed decisions regarding both operational and financial aspects under their control and their direction. Accounting information quality, as a whole is highly influenced by the characteristics of the institution and systems that underlie its production, as well as the characteristics of individual accounting entries. There are three prerequisites to achieving quality accounting information: the institutional environment must support application of relevant accounting standards; accountant resources must be commensurate with needs of reporting/data provision; and quality and relevance of information is fundamental to good accounting (substance over form). Five dimensions of data quality determine the usefulness of accounting information: integrity, methodology, accuracy and reliability, serviceability, and accessibility. Each dimension of quality has a number of elements and is associated with a set of desirable (effective) practices in implementation of an accounting system. Integrity - accounting policies and practices are: guided by professional principles; transparent; and guided by ethical standards. Methodological Soundness - internationally accepted accounting standards govern: the concepts and definitions used; the scope of application; and the recordation and valuation of flows (income statement) and stocks (balance sheet). Accuracy and Reliability - recordation and reporting processes ensure: accounting data is available to provide an adequate basis to compile reports; conformity with sound accounting procedures; source documents and primary entries are regularly assessed and validated; intermediate aggregations and reports are regularly assessed and validated; and revisions and adjustments to data and processes are made, tracked, and used to improve accuracy and reliability. Serviceability - accounting systems and process allow: relevant information to be generated to meet user needs; timeliness and periodicity according to internationally accepted standards; consistency of reports for the entity - over time and in comparison to similar entities; and regular, transparent, uniform, and efficient revisions to accounts as needed. Accessibility - accounting information is presented: in a clear and understandable manner; in a way adequate to meet user needs; and is made available on an impartial and objective basis (free from bias).
