Non-accountants reading these audited financial statements may notice a notation that the agency’s conservative bond or other fixed-term investments have produced an “unrealized loss.” This will no doubt be confusing to some, but during a period of rising interest rates such “unrealized losses” may become more common.
Conserving principal, while making a modest return, is the objective of local treasurers and fiscal officers. The “unrealized loss” scenario occurs when an agency has invested funds in bonds or other conservative investments scheduled to yield a fixed interest rate over a given period. When interest rates increase, however, any new bonds and debt instruments purchased will obviously yield higher rates. This phenomenon occurs whenever market conditions change, whether interest increases (loss) or decreases (gain). The market is dynamic, but the investment is static.
According to the California Public Fund Investment Primer
, the Government Accounting Standard Board
’s (GASB) Statement 31
requires “unrealized gains (losses) be recognized as income (a deduction from income) on the agency’s financial statements at the end of the year.” The GASB Statement 31 requires all investment income, including changes in fair value of investments, to be recognized in the statement of changes (and statement of activities). Under these standards, gains are to be recognized as revenues, while losses as offsets against revenues.
Here is where the confusion can occur. Auditors, according to generally accepted accounting principles
(GAAP) and GASB Statement 31, are required to adjust the value of any of the agency’s fixed income investments based upon a comparison to the current market value of the investment. So a five-year bond purchased two years before yielding 1 percent interest will obviously, on paper, be worth less than a bond purchased today yielding 1.5 percent interest. In reality, however, no money has actually been lost since investments will still yield the original rate of interest.
A government’s budget may also be adopted on a basis other than GAAP according to the Government Finance Officers Association’s Blue Book (Governmental Accounting, Auditing, and Financial Reporting GAAFR). The difficulty of forecasting economic fluctuations one to two years in advance may result in the exclusion of a forecast of unrealized gains or losses in investments. If the budgetary basis of accounting does differ from GAAP, the budget should describe the budgetary basis of accounting and explain how it differs from GAAP.
The California Public Fund Investment Primer
is a resource document provided by the California Debt and Investment Advisory Committee (CDIAC) under direction of the California State Treasurer’s Office. According to the Treasurer’s Office, the Investment Primer
“assists public agencies and others with fundamental considerations pertaining to the investment of public finds. The Investment Primer
provides guidance for developing, implementing, and managing an investment program that strikes an appropriate balance among safety, liquidity and yield considerations.”
The Local Agency Investment Guidelines
, also issued by the CDIAC, contains additional information and interpretations of local agency investment laws. The resource is updated annually to reflect new state laws.
Investment Policy Reporting Practices: An Informational Guide
is a report focused on providing “local agencies with examples of common reporting practices that may add to the readability of their investment policies and assist those with fiduciary responsibilities in assessing the benefits and risks of the agency’s investment goals/priorities.”
The Governmental Accounting, Auditing and Financial Reporting Manual
(GAAFR or Blue Book) published by the Government Finance Officers Association provides guidance on the practices used in governmental finance.