CHPATER 6 – DEBT SERVICE FUND

Answers to Questions

6-1. General long-term liabilities are those that are incurred by activities financed by the General Fund or
some other governmental fund. These liabilities are distinguished from “fund” long-term liabilities
that are incurred by a proprietary or fiduciary fund and for which debt service will be paid from that
fund. General long-term liabilities are reported only in the Governmental Activities column of the
government-wide financial statements and not in any fund.

6-2. As shown in Illustration 6-1 for the City and County of Denver, note disclosures about long-term debt
(such as bonds, notes, and capital leases) and other long-term liabilities (such as claims and
judgments, compensated absences, and other accrued liabilities) should show the beginning balance
of each major class of long-term liability and additions to, deletions from, and the ending balance of
each major class. These disclosures should present separate sections for governmental activities and
business-type activities. Presenting long-term liability disclosures for discretely presented
component units, as the City and County of Denver has done, is discretionary and is a matter of
professional judgment.

6-3. a. The premium on bonds payable is reported in the government-wide statement of net assets,
where it increases the long-term liability. The premium is amortized over the life of the bonds.

b. Same as answer to a. At the government-wide level, it does not make any difference how the
premium will be used.

6-4. The bonds should be shown as an enterprise fund liability, as well as a liability of business-type
activities on the government-wide statement of net assets. The contingent liability due to the bonds'
general obligation (G.O.) status should be disclosed in the notes to the financial statements.

6-5. Debt limit is the amount of indebtedness that is allowed by law to be outstanding at any one time.
Typically, the debt limit is specified as a percentage of the assessed valuation of taxable property,
after considering legal exclusions and exemptions. Debt margin is the difference between the
statutory debt limit and the amount of debt outstanding that is subject to the limit. Typically, self-
supporting debt, such as revenue bonds being serviced from the revenue stream of a proprietary fund,
is excluded in calculating debt margin, as are any resources set aside for future retirement of debt
principal.

6-6. False. The statement is too inclusive. Debt service funds account for resources segregated to pay
interest on tax-supported general long-term debt and special assessment long-term debt, and to repay
such debt when due. Proprietary and fiduciary funds account for long-term debt service payable from
revenues of those funds. Tax-supported and special assessment long-term debt should be accounted
for as governmental activities in the government-wide financial statements.

6-7. Disagree. All tax supported and special assessment long-term debt may be accounted for in a single
debt service fund, as far as GASB standards are concerned. Generally, as few debt service funds
should be created as applicable laws and good management allow.

6-8. Regular serial bonds typically have principal maturities extending from one year to 20 or more years.
As such, they are self-amortizing and do not require setting aside resources in a sinking fund. Term
bonds, on the other hand, have a one-time principal maturity that requires a lump-sum repayment of
principal on the due date. Because term bonds place a large amount of money at risk for a long
period of time, term bond covenants typically require that the issuer set aside money in a sinking fund

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to ensure that resources will be available when the bonds mature. Interest payments are typically
required on a semiannual basis, although for regular serial bonds, the amount of interest steadily
declines as the face amount of bonds outstanding is reduced over time.

6-9. Agree for short-term investments in bonds. GASBS 31 requires that all long-term investments,
including investments in debt securities, be reported at fair value on the balance sheet date, thus
amortization would not apply for those investments. All changes in fair value during the period, both
realized and unrealized, are reported as revenue in the operating statement.

6-10. Advance refunding may be desirable when the interest rate on outstanding debt is considerably higher
than current interest rates. If the old debt issue is "defeased," (either "legal" or "in-substance"), GASB
standards permit the liability for the old issue to be removed from the accounts and the reporting of
only the liability for the new (refunding) issue. Legal defeasance occurs when debt is legally satisfied
based on certain provisions in the debt instrument even though the debt is not actually paid. In-
substance defeasance occurs when debt is considered defeased for accounting and financial reporting
purposes even though it has been neither legally defeased nor paid. In-substance defeasement
requires that the debtor place cash or other essentially risk-free assets in an irrevocable trust with an
escrow agent. The amount, timing, and collection of interest and principal on the trust assets must be
such that there is only a remote possibility that the debtor will be required to make future payments
on the defeased debt.

Solutions to Exercises and Problems

6-2. 1. c. 6. c.
2. b. 7. b.
3. d. 8. a.
4. b. 9. a.
5. a. 10. d.

6-3. Debits Credits

1. General Fund:
ESTIMATED REVENUES 650,000
ESTIMATED OTHER FINANCING USES 650,000
TAXES RECEIVABLE—CURRENT 650,000
REVENUES 650,000
CASH 650,000
TAXES RECEIVABLE—CURRENT 650,000
OTHER FINANCING USES—INTERFUND
TRANSFERS OUT 650,000
CASH 650,000
Debt Service Fund:

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ESTIMATED OTHER FINANCING SOURCES—

INTERFUND TRANSFERS IN 650,000
APPROPRIATIONS 225,000
FUND BALANCE 425,000
CASH 650,000
OTHER FINANCING SOURCES—INTERFUND
TRANSFER IN 650,000
EXPENDITURES—INTEREST 225,000
CASH 225,000
Governmental Activities:
TAXES RECEIVABLE—CURRENT 650,000
GENERAL REVENUES—TAXES 650,000

EXPENSES—INTEREST ON LONG-TERM DEBT 225,000

CASH 225,000

Debits Credits
2. Capital Projects Fund:
CASH 5,000,000
OTHER FINANCING SOURCES—
PROCEEDS OF BONDS 5,000,000
Debt Service Fund:
CASH 150,000
OTHER FINANCING SOURCES—
PREMIUM ON BONDS PAYABLE 100,000
REVENUES 50,000
Governmental Activities:
CASH 5,150,000
SERIAL BONDS PAYBLE 5,000,000
ACCRUED INTEREST PAYABLE 50,000
PREMIUM ON BONDS PAYBLE 100,000

3. Debt Service Fund:

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CASH 180,000
REVENUES—INVESTMENT EARNINGS 180,000
Governmental Activities:
CASH 180,000
GENERAL REVENUES—INVESTMENT
EARNINGS 180,000

4. Debt Service Fund:

CASH 2,800,000
OTHER FINANCING SOURCES—
PROCEEDS OF REFUNDING BONDS 2,800,000

Debits Credits
Debt Service Fund:
OTHER FINANCING USES—REFUNDED BONDS 2,800,000
EXPENDITURES 700,000
CASH 3,500,000

Governmental Activities:
CASH 2,800,000
SERIAL BONDS PAYABLE 2,800,000

TERM BONDS PAYABLE 3,500,000

CASH 3,500,000

6-4. CITY OF APPLETON

STATEMENT OF LEGAL DEBT MARGIN
DECEMBER 31, 2007

ASSESSED VALUE OF PROPERTY $240,000,000

RATE OF DEBT LIMITATION 8%
AMOUNT OF DEBT LIMITATION 19,200,000

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OUTSTANDING LONG-TERM INDEBTEDNESS

SUBJECT TO DEBT LIMIT:
CONVENTION CENTER BONDS $ 3,600,000
GENERAL OBLIGATION SERIAL BONDS 3,100,000
TAX INCREMENT BONDS 2,500,000
TOTAL LONG-TERM DEBT 9,200,000

LESS DEDUCTIONS:
AMOUNT ACCUMULATED FOR DEBT
RETIREMENT 1,800,000

NET DEBT SUBJECT TO LIMITATION 7,400,000

LEGAL DEBT MARGIN: AMOUNT AVAILABLE
FOR FUTURE INDEBTEDNESS $11,800,000

Note: The city also has $6,600,000 of self-supporting revenue bonds outstanding which are
backed by the full faith and credit of the city should enterprise revenues be insufficient to
make debt service payments.
6-7 a. VILLAGE OF VANDALIA
SERIAL BOND DEBT SERVICE FUND
GENERAL JOURNAL
Debits Credits

1. ESTIMATED REVENUES 366,000

APPROPRIATIONS 346,250
FUND BALANCE 19,750

2. TAXES RECEIVABLECURRENT 372,000

ESTIMATED UNCOLLECTIBLE
CURRENT TAXES 12,000
REVENUESTAXES 360,000

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3. EXPENDITURES—BOND PRINCIPAL 150,000

EXPENDITURESBOND INTEREST 100,000
CASH 250,000

4. CASH 352,000
TAXES RECEIVABLECURRENT 352,000

5. CASH 2,000
INTEREST RECEIVABLE ON INVESTMENTS 2,000

6. EXPENDITURESBOND INTEREST 96,250

CASH 96,250
Debits Credits
7. CASH 4,300
REVENUESINVESTMENT EARNINGS 4,300

8. INTEREST RECEIVABLE ON
INVESTMENTS 1,800
REVENUESINVESTMENT EARNINGS 1,800

9. Reclassification:
TAXES RECEIVABLEDELINQUENT 20,000
TAXES RECEIVABLECURRENT 20,000

ESTIMATED UNCOLLECTIBLE
CURRENT TAXES 12,000
ESTIMATED UNCOLLECTIBLE
DELINQUENT TAXES 12,000
To close:
APPROPRIATIONS 346,250
FUND BALANCE 19,750
ESTIMATED REVENUES 366,000

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REVENUESTAXES 360,000
REVENUESINVESTMENT EARNINGS 6,100
EXPENDITURESBOND INTEREST 196,250
EXPENDITURES—BOND PRINCIPAL 150,000
FUND BALANCE 19,850

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