Fair warning: This column is about state accounting practices, which means you are in danger of being stupefied.
Most family budgets are calculated on a “cash basis.” They count income as it is received and outgo as bills are paid.
Corporations, however, generally use “accrual” accounting, in which both revenues and expenses are recorded when they are earned or incurred, providing a fuller picture of their true financial situations for regulators and stockholders.
In theory, governments should use accrual in response to the Governmental Accounting Standards Board’s recommendations, but GASB’s rules are complex and compliance is largely voluntary.
They are, therefore, relatively free to use whichever system suits them, meaning their budgets may hide realities that are not politically digestible.
A few years ago, an extensive examination of state and local accounting, published in the UCLA Law Review, said the systems have “created incentives for accounting gimmicks that have directly contributed to the dramatic decline of public sector finances.”
California has a decades-long history of switching not only its entire budget but particular revenues and expenses back and forth between cash and accrual – and hybrids – in response to current fiscal and political conditions.
Hide-the-pea accounting has been especially evident during periods of fiscal distress, when governors and legislators are eager to minimize apparent gaps to avoid either severe spending cuts or tax hikes.
Currently, California uses a “modified accrual basis” for its budget that includes elements of both cash and accrual, depending on the particular revenue stream and expense.
State officials say a full accrual system conflicts with a constitutional budget process that’s basically limited to one year’s income and outgo. They reconcile their budgetary accounting with the GASB standards in an obscure budget addendum that almost no one reads.
A few years ago, Gov. Jerry Brown’s administration, with the permission of the Legislature, adopted a more aggressive form of accrual accounting for revenues from new sources, particularly Proposition 30, Brown’s 2012 measure that boosted sales and income taxes temporarily.
That’s drawn criticism from the Legislature’s budget analyst, Mac Taylor, who says it makes understanding the state’s financial situation more difficult.
Meanwhile, David Crane, a Stanford University lecturer and former adviser to Arnold Schwarzenegger, issued an analysis of Brown’s proposed 2016-17 budget that praises its spending restraint but criticizes its exclusion of additional liabilities for pensions and health care that have been accrued in one year.
Crane opines that including the retiree obligations would “add at least $11 billion” to the expense side of Brown’s budget and says “adoption of accrual accounting would make that crystal clear.”
It also would convert a budget with a sizable surplus into one with a sizable deficit.