Intangibles: Governments' Forgotten Capital Assets

CPA Journal, The,  Apr 2008  by McSwain, Dwayne N,  Patton, Terry K,  Benco, Daniel C

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Prior to implementing Governmental Accounting Standards Board (GASB) Statement 34, Basic Financial Statements-and Management's Discussion and Analysis-for State and Local Governments, governments typically reported few, if any, of their intangible assets in their financial statements. Some governments may have recognized easements for roads that they purchased as capital assets, but they typically did not recognize such easements if they were donated to the government (for example, by a developer). Since GASB issued Statement 34, which specifically refers to easements and intangible assets that are used in operations as capital assets, preparers of governmental financial reports have asked a number of questions. These questions include the following:

* Should land under roads be reported if the land is not owned, but easement rights exist? Does it make a difference if the easement was donated instead of purchased?

* Should water rights be reported?

* Should internally generated computer software be repotted as an intangible asset, or written off? Should other internally generated intangible assets, such as patents and trademarks, be reported?

* Should any, or all, intangible assets be amortized?

GASB Statement 51, Accounting and Financial Reporting for Intangible Assets, which was issued in June 2007, provides guidance for these questions and many more by clarifying the financial reporting requirements for intangible assets established in Statement 34. GASB believes that clarifying these requirements will reduce inconsistencies in reporting intangible assets within a government and will enhance the comparability of financial reports across governments. Statement 51 will be effective for state and local governments with fiscal years beginning after June 15, 2009. The reporting requirements of the new standard are explained below alongside specific examples of its application.

Background

After almost a decade of deliberations over a new financial reporting model for state and local governments, in 1999 GASB issued Statement 34. Statement 34 resulted in a major shift in the field of governmental accounting. In addition to modifying the governmental and proprietary fund financial statements, Statement 34 requires state and local governments to report economic resources on a full accrual basis in government-wide financial statements. This government-wide approach to financial reporting requires accounting for all capital assets, including intangible assets.

Many preparers of government financial reports began to ask questions about the reporting of intangible assets after reading paragraph 19 of GASB Statement 34. Paragraph 19 states that capital assets include "land, improvements to land, easements, buildings, building improvements, vehicles, machinery, equipment, works of art and historical treasures, infrastructure, and all other tangible or intangible assets that are used in operations and that have initial useful lives extending beyond a single reporting period" [emphasis added].

Some of the preparers' questions stemmed from not understanding the meaning of "intangible assets that are used in operations." Questions arose about whether intangible assets should be viewed as they were in Accounting Principles Board (APB) Opinion 17, Intangible Assets, which, since its issuance in 1970, had been the authoritative intangible-asset guidance for governments. In general, APBO 17 identified as intangible assets items such as patents, trademarks, and copyrights, but it did not define intangible assets based on their characteristics. Therefore, some preparers questioned whether some items common to governments-such as computer software, water rights, timber rights, and development rights-were intangible assets.

Identifying Intangible Assets

Paragraph 2 of Statement 51 explains that an intangible asset must first be an asset. For state and local governments, Concepts Statement 4, Elements of Financial Statements, defines an asset as a resource that has a present service capacity and is presently controlled by the government (paragraph 8). Paragraph 6 of Concepts Statement 4 explains that "a resource is an item that can be drawn on to provide services to the citizenry." Present service capacity is an asset's existing capability to enable a government to provide services (Concepts Statement 4, paragraph 9). To be an intangible asset under the Statement 51 provisions, an asset must have three characteristics:

* Not have a physical (tangible) substance;

* Be nonfinancial in nature; and

* Have an initial useful life that is greater than one reporting period.

Intangible assets generally result from legal or contractual rights and clearly have no physical substance. For example, accountants have long viewed trademarks, copyrights, and royalty interests as intangible assets. Some intangible assets, however, are closely related to tangible assets. A right-of-way easement for a road depends on a tangible asset-landto enable a government to provide transportation services. The appropriate question to ask when attempting to determine whether an intangible asset exists is, "What is the asset?" A right-of-way easement is a contractual right that does not have physical substance even though the easement results in the government's ability to use the surface of land for a specific purposea road. The right-of-way easement, thus, is an intangible asset. Likewise, water rights are an intangible asset.