Despite opposition from some state and local governments, the Governmental AccountingStandards Board yesterday approved a technical bulletin that will require governmentsthis year to begin blending into their financial statements any tobacco debt they havesold through off-balance-sheet entities.
GASB senior project manager Kenneth R. Schermann said the board agreed to issuing thetechnical bulletin, which seeks to make governments' accounting treatment of theirtobacco debt consistent. It takes effect for fiscal years ending after this June 15. Thebulletin effectively requires governments to blend into their financial statements thefinancial statements of their tobacco settlement authorities.
Since the historic 1998 Master Settlement Agreement, governments in 17 states as well ascounties in New York and California and the District of Columbia, Puerto Rico, and NewYork City have sold around $18 billion in bonds secured with payments from tobaccocompanies.
The new rules will require that governments - based on a set of criteria - treat thetobacco bonds they have sold through special-purpose entities the same way they treatgeneral obligation or other directly supported debt, blending together the liabilitiesin their financial statements as opposed to footnoting the debt or breaking it out insome other manner.
The rules are significant in providing for consistent accounting treatment of tobaccobonds, although people in the municipal market did not expect any impact outsideauditing circles. For instance, rating agencies are expected to maintain theirmethodology for accounting for tobacco bonds in the ratings of state and localgovernments.
"I think it would be consistent [with our approach] that these debts constitute leverageby the states and that they need to be tracked," said Robert Kurtter, senior vicepresident at Moody's Investors Service. "But we recognize that they are not contingentliabilities directly or indirectly by the state except in the case of appropriationbacking."
The effort to provide guidance grew out of the inconsistency that GASB found in the waygovernments were accounting for their tobacco debt. For instance, while some governmentshave blended the bonds in with the rest of their debt, others have treated their tobaccosettlement authorities as separate government entities with separate financialinformation.
Others, such as the New York counties, put limited information about the tobaccosettlement authorities and debt in notes appended to their audited financial statements.
While rating agencies, as an example, have not included tobacco bonds in theircalculation of net tax-supported debt for government credit ratings, in January GASBreleased a proposed technical bulletin that established rules for blending the debt andalso provided other guidance on accounting for tobacco authorities and debt.
The board, which is a not-for-profit entity that sets the guidelines for the preparationof government financial statements, received comments from 20 different groups or peopleaffected by the proposed rules, most of them in favor of the general approach butinterested in clarifying the guidance.
As an example of support for the measure, Richard Larkin, an analyst with J.B. Hanauer &Co., wrote, "The fact remains that as a practical matter, the governments have taken onde facto debt that requires repayment from future revenue that belongs to thegovernment, just as sales, income and property taxes are encumbered when a governmentsells general obligation, income tax revenue, or sales tax revenue bonds."
Others that appear generally to support the measure, based on their comment letters,were the New York State Government Finance Officers' Association; KPMG LLP; theAssociation of Government Accountants' Financial Management Standards Board; theAmerican Institute of Certified Public Accountants; the National Association of StateAuditors, Comptrollers, and Treasurers; and Deloitte & Touche LLP.
A number of government officials also wrote expressing general support for the guidanceto blend the debt, including officials from Tennessee and Oregon. However New Jersey andassociations representing counties in New York opposed the rule.
"Rather than improving disclosure, we believe that reporting the [tobacco settlementcorporation] as a blended component unit creates confusion by grossly overstating thecounty's actual debt," wrote Rita Brannen, president of the New York State CountyTreasurers' and Finance Officers' Association. "More importantly, by including the debtof the TSC with our own, counties are concerned with the creation of an appearance oflegal or moral obligation to pay bond holders in the event of a default of TSC."
In addition to blending debt, GASB is also requiring that governments recognize theirannual tobacco company payments on an accrual basis as opposed to a cash basis, whichalso elicited a number of comments seeking clarification.
