Understanding Investment Fund Balances: What You Need To Know

In the context of financial reporting, the term 'fund balance' is used to describe the net position of governmental funds, calculated in accordance with generally accepted accounting principles (GAAP). It is a measure of the financial resources available to a government and is reported in annual financial statements. The calculation of a fund balance is based on the difference between assets owned and liabilities owed by the government. It represents the amount of resources the government would have left after paying off its liabilities. Fund balances are reported in two compartments: reserved and unreserved. Reserved funds are those that cannot be appropriated or expended, while unreserved funds are not reserved and can be used for any activity.

Fund balance and net assets

The term "fund balance" is used in the context of financial reporting to describe the net position of governmental funds, calculated in accordance with generally accepted accounting principles (GAAP). Budget professionals also use this term to describe the net position of governmental funds calculated on a government's budgetary basis.

The calculation of a fund balance is an important measure, especially in the general fund, as it reflects the primary functions of the government and includes state aid and local tax revenues. The relative amount of unreserved fund balance reflected in the general fund is used by rating agencies as a measure of the financial strength of the government.

The Governmental Accounting Standards Board (GASB) Statement of Net Assets/Fund Balance requires all government organisations to prepare Comprehensive Annual Financial Reports (CAFR) as per modified accrual basis accounting. The statement of fund balance, or balance sheet, summarises the allocation of all governmental funds and makes it easier to understand how resources are used by the government.

The balance sheet which constitutes the statement of fund balance has the following line items:

• Deferred outflow of resources
• Deferred inflow of resources

The net assets are always equal to the sum of liabilities and fund balances.

The fund balance equation is:

Fund Balances = Assets + Deferred outflow of resources – Liabilities – Deferred inflow of resources

On the statement of fund balances, this equation is proved by reconciliation.

Reserved funds report resources that cannot be appropriated or expended or are legally reserved for certain governmental activities. Unreserved funds, on the other hand, are not reserved and can be used for any activity.

Governmental fund balances are categorised as:

• Unreserved (designated and undesignated)
• Reserved

Unreserved fund balance is the difference between total and reserved fund balance. It has two components: designated and undesignated. The unreserved fund balance of the general fund represents the balance available for legal appropriation and general operating expenditures.

Designated, unreserved fund balances are portions designated by management to reflect tentative plans or commitments of governmental resources. Designations typically reflect school board action to earmark the balance for purposes that will be fulfilled at a later time. The amount and nature of the designation should be explained in a separate line of the balance sheet.

Undesignated, unreserved fund balances are the difference between total fund balance and the portion that is reserved and designated. This is the balance available for legal appropriation and expenditure if a government budgets on a GAAP basis for its governmental funds.

Within proprietary and fiduciary fund statements of net assets, net asset balances are classified into the following three components:

• Invested in capital assets, net of related debt
• Restricted
• Unrestricted

Governmental fund balances

In the context of financial reporting, the term "fund balance" is used to describe the net position of governmental funds, calculated in accordance with generally accepted accounting principles (GAAP). Budget professionals also use this term to describe the net position of governmental funds calculated on a government's budgetary basis. While in both cases, the fund balance is intended to serve as a measure of the financial resources available in a governmental fund; it is essential that differences between GAAP fund balance and budgetary fund balance be fully understood.

GAAP financial statements report up to five separate categories of fund balance based on the type and source of constraints placed on how resources can be spent. These categories are: non-spendable fund balance, restricted fund balance, committed fund balance, assigned fund balance, and unassigned fund balance. The total of the amounts in the last three categories is termed unrestricted fund balance. In contrast, budgetary fund balance, while subject to the same constraints on spending as GAAP fund balance, typically represents the total amount accumulated from prior years at a given point in time.

The calculation of GAAP fund balance and budgetary fund balance can be complicated by the use of sub-funds within the general fund. In such cases, GAAP fund balance includes amounts from all the sub-funds, whereas budgetary fund balance typically does not. Additionally, the timing of revenue and expenditure recognition can differ for GAAP financial reporting and budgeting purposes. For example, encumbrances arising from purchase orders are often recognized as expenditures for budgetary purposes but not for GAAP financial statement preparation.

The Government Finance Officers Association (GFOA) recommends that governments establish a formal policy on the level of unrestricted fund balance to be maintained in the general fund for both GAAP and budgetary purposes. This policy should be set by the appropriate body and should articulate a framework and process for adjusting the level of unrestricted fund balance over a specific time period. GFOA also recommends that governments provide broad guidance on how resources will be directed to replenish fund balances if they fall below the prescribed level.

The adequacy of unrestricted fund balance in the general fund should consider each government's unique circumstances. For instance, governments vulnerable to natural disasters, dependent on volatile revenue sources, or potentially subject to cuts in state aid and/or federal grants may need to maintain a higher level of unrestricted fund balance. GFOA recommends that, at a minimum, general-purpose governments maintain an unrestricted budgetary fund balance in their general fund of no less than two months' worth of regular general fund operating revenues or expenditures.

The fund balance policy should define the conditions under which the fund balance can be used and should include a plan to replenish the balance if it falls below the government's policy level. The policy should also define the time period and contingencies for which fund balances will be used, and describe how the government's expenditure and revenue levels will be adjusted to match new economic realities.

In summary, maintaining adequate levels of fund balance is essential for governments to mitigate current and future risks, ensure stable tax rates, and protect taxpayers and employees from unexpected changes in financial conditions.

Reserved and unreserved funds

In the context of financial reporting, the term "fund balance" describes the net position of governmental funds, calculated according to generally accepted accounting principles (GAAP). This can be broken down into five separate categories based on the type and source of constraints on how the funds can be spent: non-spendable fund balance, restricted fund balance, committed fund balance, assigned fund balance, and unassigned fund balance.

Reserved fund balances refer to funds that are not available for appropriation or expenditure. This could be due to internal actions, such as management decisions, or external factors, such as legal restrictions. For example, funds may be reserved for inventories, long-term receivables, or encumbrances. The amount and nature of these reservations should be disclosed in financial statements.

Unreserved fund balances, on the other hand, represent the portion of fund equity available for appropriation and budgeting future operations. This includes both designated and undesignated funds. Designated funds are tentatively planned or committed for specific purposes, while undesignated funds are fully available for legal appropriation and general operating expenditures.

Prudent financial management requires accumulating a sufficient undesignated, unreserved fund balance to meet net cash outflows during the fiscal year. These funds are considered expendable financial resources and are a measure of the financial strength of the government or entity.

Governments should establish a formal policy on the level of unrestricted fund balance, which includes both unreserved and unrestricted funds, to be maintained in the general fund for GAAP and budgetary purposes. This policy should consider factors such as revenue predictability, expenditure volatility, potential one-time outlays, and the impact on bond ratings.

Fiduciary and proprietary funds

A fund balance is a term used in the context of financial reporting to describe the net position of governmental funds, calculated in accordance with generally accepted accounting principles (GAAP). Governments should maintain adequate levels of fund balance to mitigate current and future risks, such as revenue shortfalls and unexpected expenditures, and to ensure stable tax rates.

There are three categories of funds within a government: governmental funds, proprietary funds, and fiduciary funds. Fiduciary funds are used when the government is entrusted with resources for the benefit of private individuals, organisations, or other governments. They hold resources in trust for entities or individuals other than the government, such as employee pension funds.

Fiduciary funds are further divided into four types:

• Custodial funds
• Investment Trust funds
• Pension Trust funds
• Private Purpose Trust funds

Fiduciary funds are used when the government is entrusted with resources that are not to be used for governmental functions but are instead held for the benefit of private individuals, organisations, or other governments. These funds are not used for the government's own operations or activities but are instead managed for the benefit of others.

Proprietary funds, on the other hand, account for business-like activities of the government, such as utilities. They are concerned with activities financed by self-generated revenues. An example of a proprietary fund is an enterprise fund, which is used to account for business-type activities where goods or services are provided to external customers, and the activity is financed solely from the revenues generated.

While both fiduciary and proprietary funds are important components of a government's financial framework, they serve distinct purposes. Fiduciary funds are held in trust for the benefit of entities other than the government, while proprietary funds relate to the government's own business-like activities financed by self-generated revenues.

GAAP and budgetary fund balance

In the context of financial reporting, the term "fund balance" describes the net position of governmental funds calculated in accordance with generally accepted accounting principles (GAAP). Budget professionals use the same term to describe the net position of governmental funds calculated on a government's budgetary basis. While in both cases, the fund balance is intended to serve as a measure of the financial resources available in a governmental fund; it is crucial to understand the differences between GAAP fund balance and budgetary fund balance.

GAAP financial statements report up to five separate categories of fund balance, based on the type and source of constraints on spending: non-spendable fund balance, restricted fund balance, committed fund balance, assigned fund balance, and unassigned fund balance. The total of the last three categories, where the only spending constraint is imposed by the government, is called the unrestricted fund balance. In contrast, the budgetary fund balance typically represents the total amount accumulated from prior years at a given point in time, subject to the same spending constraints as the GAAP fund balance.

The calculation of GAAP fund balance and budgetary fund balance can be complicated by the use of sub-funds within the general fund. GAAP fund balance includes amounts from all sub-funds, while budgetary fund balance usually does not. Additionally, the timing of revenue and expenditure recognition can differ between GAAP and budgetary accounting. For example, encumbrances from purchase orders are recognised as expenditures for budgetary purposes but not for GAAP financial statements.

It is essential for governments to maintain adequate fund balance levels to mitigate current and future risks, such as revenue shortfalls and unexpected expenditures, and to ensure stable tax rates. Governments should establish a formal policy on the level of unrestricted fund balance maintained in the general fund for both GAAP and budgetary purposes. This policy should be set by the appropriate body and outline a framework for increasing or decreasing the unrestricted fund balance over a specific period.

The adequacy of unrestricted fund balance should consider each government's unique circumstances, such as vulnerability to natural disasters, reliance on volatile revenue sources, or potential cuts in state aid or federal grants. Governments should also consider factors like revenue predictability, exposure to one-time outlays, the potential drain on resources from other funds, the impact on bond ratings, and commitments or assignments when determining the appropriate level of unrestricted fund balance.

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