carbis walker llp & wphfma present accounting and auditing standards update january 25, 2013

CARBIS WALKER LLP & WPHFMA PRESENT

ACCOUNTING AND AUDITING

STANDARDS UPDATE

JANUARY 25, 2013

PRESENTERS

• Michael F. Garczynski, CPA, Partner - Health Care Services

• Kelly S. Nord, CPA, Senior Manager - Health Care Services

• Brandon W. Harlan, CPA, Senior Manager - Health Care Services

• James A. Raley, CPA, Manager - Health Care Services

• Jack H. Lynn, Supervisor - Health Care Services

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AGENDA

Welcome IFRS Background: Public and private company standard setting FASB Not-for-Profit Advisory Committee (NAC) and projects central to

improving NFP GAAP:• - NFP Financial Reporting (two projects)• - Disclosure Framework• - Nonpublic Entity Definition

Three EITF issues of note for NFPs Update on major convergence projects:

• - Leases• - Revenue Recognition• - Financial Instruments

Recent ASUs and other FASB projects of note for NFPs

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AGENDA

Accounting Standards Update• Goodwill and Indefinite – Lived Intangible Assets

Health Care Topics• Charity Care

• Bad Debts

• Malpractice Insurance

• Meaningful Use

• RAC Audits

• ICD – 10 Costs

HUD and Governmental Reporting Update Special Considerations of Not-For-Profit Fraud Auditing Standards Board – Clarity Project

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IFRS FOR THE U.S.? THE LATEST FROM THE SEC

On July 13, 2012, the SEC’s Office of the Chief Accountant published its final staff report, “Work Plan for the Consideration of Incorporating International Financial Reporting Standards into the Financial Reporting System for U.S. Issuers.”• “…the Work Plan did not set out to answer the fundamental question of

whether transitioning to IFRS is in the best interests of the U.S. securities markets generally and U.S. investors specifically.”

• Summarizes the observations and analyses in six key areas identified for study.

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GAPS IN IFRS

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SEC DECISION AND NFPS

Even if the SEC decides to adopt IFRS, FASB would likely need to retain specialized industry guidance

This would include NFP guidance

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FINANCIAL REPORTING FOR PRIVATE ENTITIES

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PRIVATE COMPANY COUNCIL

Blue-Ribbon Panel Recommendation FAF Trustee Proposal FAF Creates PCC AICPA Reaction

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Established May 2012 Purpose is to improve the process of

setting accounting standards for private companies

Two principal responsibilities• Determine whether exceptions or modifications to existing GAAP are

needed

• Advise FASB on private-company accounting matters during the standard setting process

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TWO PARALLEL NONPUBLIC ENTITY PROJECTS

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Definition: Nonpublic Business Entity (Private Company)

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PRIVATE CO. DECISION-MAKINGFRAMEWORK

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Exceptions or modifications to U.S. GAAP advanced by the PCC and endorsed by a simple majority of FASB members will be exposed for public comment. Following the comment process, the PCC will re-deliberate the proposed exceptions or modifications and send final decisions to FASB.

Upon FASB endorsement, exceptions or modifications will be incorporated into U.S. GAAP.

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FASB already is developing a private entity Decision-Making Framework.

Will be a set of criteria for decisions about whether and when to adjust requirements for recognition, measurement, presentation, disclosure, effective dates, and transition methods for private entity standards.

FASB will not complete the framework until the PCC provides input.

FASB also has a project to provide a consistent, clear definition of a nonpublic entity.

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Inaugural meeting held on December 6, 2012 Identified four areas to research for agenda

consideration:• Consolidation of VIEs• Accounting for “plain vanilla” interest rate swaps• Accounting for uncertain tax positions• Recognizing and measuring various intangible

assets (other than goodwill) acquired in a business combination at fair value

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PRIVATE COMPANY FRAMEWORK

In conjunction with the private company framework project, part of the project was to define a nonpublic entity

FASB has tentatively decided that an entity is not private if:• Files or furnishes F/Ss with a regulatory agency for

purposes of issuing securities• Is a for-profit conduit bond obligor• Is an employee benefit plan

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Certain entities are not excluded from the definition of a private company unless they meet the previous definition• Financial institution• A consolidated subsidiary of an entity that is a public

company• An entity that has a controlled and consolidated

subsidiary that is a public company

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DEFINITION OF A PRIVATE COMPANY

FASB has tentatively defined a private company as an entity that:• Does not file or furnish F/Ss with a regulatory

agency for purposes of issuing securities in a public market or issuing securities that trade in a public market; and/or

• Is not a for-profit conduit bond obligor for conduit debt securities that are traded in a public market

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The Private Company Framework and Definition of Nonpublic Company will be addressed by the Private Company Council in future sessions

No expected standard issuance date yet announced

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RELATIONSHIP TO AICPA SPECIAL PURPOSE FRAMEWORK FOR SMES PROJECT

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FROM FASB TO AICPA WE GO!

AICPA will develop an OCBOA framework that it said will provide a less comprehensive and less costly alternative to U.S. GAAP for entities that do not need to comply with U.S. GAAP.

AICPA will also use its resources and expertise to develop an enhanced OCBOA financial reporting framework that is objective, relevant, and responsive to the concerns of preparers and users of small and medium private company financial statements where GAAP financial statements are not required.

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AICPA FINANCIAL REPORTING FRAMEWORK

Terry Polly of the FAF stated: “We also believe that the AICPA’s plan to develop a financial reporting framework for smaller private entities, which would be used as a form of OCBOA reporting where appropriate, is an important and complementary undertaking,” she said. “Taken together, these actions demonstrate the commitment of both organizations to the private company financial reporting constituency.”

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AICPA – QUOTES FROM MELANCON

“For owner-managed, small- and medium-sized, for-profit entities that do not use GAAP, the AICPA is working on a self-contained financial reporting framework for release in the first half of 2013”

“While its use will be completely voluntary, it promises to be less complex and less costly than following GAAP. FAF publicly supported this project, calling it “important and complementary.” It is a top priority for us. Watch for an exposure draft this fall.”

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AICPA – FINANCIAL REPORTING FRAMEWORK (FRF) DETAILS Will be a standalone, self-contained other

comprehensive basis of accounting intended for use by privately held small to medium sized entities (SMEs) in preparing their financials.

The FRF for SMEs will be a less complicated and less costly system of accounting for SMEs that do not need U.S. GAAP F/Ss.

Will be a cost-beneficial solution for SMEs and others who need F/Ss that are prepared in a consistent and reliable manner in accordance with a framework that has undergone public comment and professional scrutiny.

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AICPA – FINANCIAL REPORTING FRAMEWORK (FRF) DETAILS (CONT.)

The accounting principles comprising the FRF are intended to be the most appropriate for the preparation of SME F/Ss based on the needs of the F/S users and cost-benefit considerations.

Accounting principles in the FRF for SMEs will be responsive to the well documented issues and concerns stakeholders currently encounter when preparing F/Ss for SMEs.

FRF for SMEs may be used by every industry group and business structure.

AICPA has no authority to require the use of FRF for SMEs. The use will be up to the users.

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AICPA –FRF FRAMEWORK

Not like OCBOA as you have come to know it There will be a separate implementation volume with a full

set of illustrative F/Ss No comprehensive income It will have the following sections:

• Financial Statement Concepts• General Standards of F/S Presentation• Disclosure of Accounting Policies (and Changes)• Current Assets and Current Liabilities• Statement of Income, Financial Position, and SCF• Business Combinations – pre FIN 46R (no VIEs!!!)• Goodwill Amortization to Match Federal Tax Purposes• Leases – like FASB 13, but match federal tax purposes

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AICPA – FRF FRAMEWORK

Revenue – will not follow FASB ED Income Taxes – allowed to use current taxes or

can opt to include deferred taxes, no FIN 48 Risks and Uncertainties – use SOP 94-6 Financial Instruments: use cost and not marked

to market, unless held for sale, under 20% = cost, no hedge accounting, consolidation = more than 50% owned

No guidance on: Earnings per share, interim reporting, personal financials, segment reporting

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AICPA – FRF TIMELINE

Meeting currently and working on the FRF Expect exposure draft for comment by this fall Will gather responses and issue an updated

draft early in 2013 Will issue final document in 2013 AICPA and CPAs will need to tell their clients,

bankers, sureties about this FRF in order to get acceptance instead of GAAP financials

Will take time for agreements to change for SMEs to be able to use this new framework

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AICPA – FRF EXPOSURE DRAFT

Released on November 1, 2012 Comments requested by January 30, 2013 FRF for SMEs is not proposed as an authoritative

document Will have no effective date Management can decide to use it once it is

released

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Highly useful and responsive to the financial reporting needs of lenders and other F/S users:• Built upon a foundation of reliable and

comprehensive accounting principles• Historical cost is primary measurement basis• Reduced, yet relevant, disclosures• Book to tax adjustments/reconciliations reduced• Principles-based framework across all industries• Will not undergo frequent changes

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Implementation guidance will be provided:

• Application examples• Illustrative financial statements• Disclosure checklists• Other tools

Stay tuned for further details as it gets released!

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FASB NOT-FOR-PROFIT ADVISORY COMMITTEE (NAC)

Established in October 2009 to serve as a standing resource for the FASB in obtaining input from the NFP sector on existing guidance, current and proposed technical agenda projects, and longer-term issues affecting those organizations

17 members, plus 4 participating observers• NFP financial officers, auditors, foundation and other donors,

creditor, watchdog agency, charities regulator, attorney, and academic

Also, NFP Resource Group (a standing group of 225+ members)

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NAC DISCUSSIONS ON ISSUES WITH GAAP:PRIMARY AREAS IN NEED OF ATTENTION The NFP financial reporting model (“FAS 117”) is in need of

“refreshing”• Key vehicle: Two new NFP Financial Reporting projects

Unlike private companies, no “hue and cry” for different underlying accounting in certain areas, but a more liberal use of practical expedients may be warranted• Area most frequently cited: Fair value measurements

Primary general GAAP issue: “Disclosure Overload” (and effectiveness)• Key vehicles: Disclosure Framework project and NFP Financial Reporting projects

Important NAC role: advise FASB staff and Board on potential piggybacking opportunities for NFPs with regard to projects of the new Private Company Council• Key project: Nonpublic Entity Definition

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FASB NFP FINANCIAL REPORTING PROJECTS

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NET ASSET CLASSES

Might the current three classes of net assets based on donor-imposed restrictions be improved?• Are they still relevant and most useful?• Can they be improved to better convey information

about liquidity and financial performance? For example:o Should donor-restricted classes be expanded to include

restrictions imposed by other sources (for example, limits imposed by statutes, debt covenants, and other contracts)?

o Should net asset classes be narrowed to just two (e.g., donor-restricted and other) with use of subclasses and/or notes?

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LIQUIDITY AND FINANCIAL HEALTH How can we best improve information about an entity’s

financial health, particularly the liquidity of its resources and its financial flexibility?• Limits on assets

• Demands on assets (e.g., maturity of liabilities and other commitments)

• Classifications of net assets, including added emphasis on ability to spend, for example:

Unrestricted Restricted

Spendable Spendable

Designated Limited

Nonspendable (e.g., PP&E)

Nonspendable

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FINANCIAL PERFORMANCE

How might the statements of activities and cash flows be improved to better convey financial performance?• Should we have one model or two? • Should an operating measure be required? • If yes, should there be a single defined measure or some latitude to

select from among a few different measures? • Should there be one statement or two statements (e.g., statement

of operations, statement of other changes in net assets)? • Should functional expense reporting still be required for all and a

statement of functional expenses for voluntary health & welfare organizations?

• How about a spectrum, ranging from functional expense reporting to a functional/ natural expense matrix to functional P&L reporting to “segment-like” reporting?

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FINANCIAL PERFORMANCE

How might the statements of activities and cash flows be improved to better convey financial performance? (cont’d.)• How can we better link the statements of activities

and cash flows? At the very least, can we better align “operating”?

• Should we require the direct method for reporting operating cash flows?

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“TELLING THE STORY”OTHER FINANCIAL COMMUNICATIONS

NAC View—Financial Reporting can be enhanced through other narrative communications, such as:• Management commentary that explains financial information

provided in financial statements, including trends over time

Issues include:• Are standards needed? If not, would they be helpful?

• Should such information be required or encouraged? If required, for all NFPs or only certain types?

• If standards are to be developed, should a reporting framework require certain components?

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FASB NFP FINANCIAL REPORTING PROJECTS

Have formed project resource groups and completed other detail project planning

Deliberations on standards project expected to begin in early 1Q 2013. Current estimated completion date is 2H 2014• NAC discussion on net asset classes in March 2012

• NAC discussion on liquidity and the proposed ASU on Liquidity Risk Disclosures in September 2012

Work on research project has already begun. Current estimated date for decision on adding standards project: mid-2013• Progress report at September 2012 NAC meeting

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DISCLOSURE FRAMEWORK PROJECT

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FASB DISCLOSURE FRAMEWORK PROJECT

Goal: disclosure standard or conceptual framework guidance that helps reduce disclosure overload while making disclosures more comparable and effective

Two approaches within project:• “Top down” (development of principles)

• “Bottom up” (looking at actual current disclosure requirements)

Many view this as a critical project in addressing GAAP complexity for all entities (public companies, private companies, NFPs)

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DISCLOSURE FRAMEWORK PROJECT

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FASB DISCLOSURE FRAMEWORK PROJECT

Invitation to Comment (ITC) issued in July. Comment period ended November 30

ITC focuses on investors and creditors, but asked for input to help in also focusing on donors and other unique users of NFP financial statements• Discussed by NAC at September 2012 meeting

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WHAT IS THE DISCLOSURE FRAMEWORK PROJECT?

Project began as a response to a December 11, 2007, letter from the Investors Technical Advisory Committee to the FASB

FASB issued an “Invitation to Comment” on July 12, 2012 – comment period extended through November 30, 2012

Goal of project is to improve disclosure effectiveness Complaints of cost effectiveness and relevance of

disclosures for smaller entities

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ADDRESSING DISCLOSURE EFFECTIVENESS

Notes will address only information that is relevant to primary users of financial statements

Relevant information: useful info for investing and credit decisions, which are based upon implicit or explicit assessments of prospects for cash flows to investors or creditors

Flexible disclosure requirements that could be adapted by each entity to focus on relevant information to its specific circumstances

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ADDRESSING DISCLOSURE EFFECTIVENESS (CONT.)

FASB also addressed format and organization of notes

Disclosures should be entity specific and should identify judgments and assumptions made by management

Most relevant info should be given more recognition• Reorder notes by relevance• Use different text fonts or styles to draw

attention to most relevant info Potential to group related notes together Not stated goal, but would likely lead to reduced

disclosures, which would enhance effectiveness

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CHANGES TO CODIFICATION?

Invitation to Comment does not propose any specific changes, but rather suggests a number of possibilities that could lead to more effective disclosures

FASB states that establishing a framework for disclosure is an important first step before any specific changes to existing disclosure requirements are considered

FASB plans to apply framework to existing standards by either modifying existing standards or establishing new standards

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ACHIEVING DISCLOSURE SELECTIVITY Two extremes – 1) FASB takes most responsibility for

judgments, or 2) reporting entities take most responsibility for judgments

Several alternatives:1. FASB change wording re: disclosures to be less prescriptive and allow for

flexibility.

2. FASB identify one set of potential disclosures for each Topic and require reporting entities to make their own decisions about relevance of each item.

3. FASB set minimum disclosure requirements or set of disclosures and an expanded set of disclosures. Reporting entities use judgment to provide minimum disclosures or some or all of the expanded disclosures.

4. FASB establish tiers of info items or a graduated scale of info requirements for each Topic. Reporting entities use judgment to determine which level applies to them.

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CONSEQUENCES

Convergence with International Standards – currently, IASB is NOT working on a similar project; although the European Financial Reporting Advisory Group is

Comparability of financial statements to other entities

Depending upon approach selected for achieving disclosure selectivity, increased judgment from reporting entities re: disclosures

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NFPS AS PUBLIC VS. NONPUBLIC ENTITIES Current FASB project reexamining what is a Nonpublic

Entity for standard setting Impacts on accounting and financial reporting

• Current disclosures, effective date, transition• Future: potentially greater impact

Phase I: Business Entities• Tentative conclusions contained in Appendix to Private Company

Framework ITC

Phase II, on NFPs, now underway• Current dividing line within NFPs: conduit debt• What should the dividing line(s) be?

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NAC DISCUSSIONS OFPUBLIC VERSUS NONPUBLIC

NAC members have agreed that NFPs share some attributes of nonpublic entities

However, they are generally more similar to public entities• Generally, broader user base with less access to management

• Public accountability created via donations and tax exemptions

• Generally, governing boards are considered part of management, but nonprofit boards have a special role in ensuring public accountability and should be considered as users of financial statements

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NAC DISCUSSIONS OFPUBLIC VERSUS NONPUBLIC

This does not mean that NFPs should be treated like public companies• NFPs have limited resources like private companies

• Some information that is important to public company investors is irrelevant to users of NFP financial statements

• NFP stakeholders are interested in the entity’s fiscal sustainability and its ability to repay debts, not the value of the entity for the purpose of trading shares

• There may be a subset of NFPs that are more like private companies (e.g., local membership clubs)

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ASU 2012-05

Statement of Cash Flows (Topic 230) Not-for-Profit Entities: Classification of the Sale

Proceeds of Donated Financial Assets on the Statement of Cash Flows – a consensus of the FASB Emerging Issues Task Force

Issued October 2012

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ASU 2012-05

Why issue this ASU?• To address the diversity in practice about how to

classify cash receipts arising from the sale of certain donated financial assets on the statement of cash flows of not-for-profit entities.

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ASU 2012-05

What entities are affected by this?• Any entity within the scope of Topic 958, Not-for-Profit

Entities, that accepts donated financial assets.

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ASU 2012-05

What are the main provisions?• Not-for-profit entities must classify cash receipts from

the sale of donated financial assets consistently with cash donations received on the statement of cash flows if there are no spending limitations and the donated financial assets were converted nearly immediately into cash.

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ASU 2012-05

What are the main provisions? (continued)• No limitations and nearly immediate cash conversion

= operating activities• Time limitations (donor intended long-term purposes)

and nearly immediate cash conversion = financing activities

• No nearly immediate cash conversion = investing

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ASU 2012-05

Practical Example:• Rupert Player makes the following donation to his

favorite charity, Sizzler Village:o $ 1,000 worth of shares of IBM for any purpose.o $ 1,000 worth of shares of Facebook for the purchase of a

new van expected to be made five years from now.o $ 1,000 worth of shares of Alcoa for any purpose.

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ASU 2012-05

Practical Example (continued):• Sizzler Village has the following policy regarding

donated securities:o All donated securities less than $ 1,000 are immediately

liquidated.o All donated securities $ 1,000 or greater are reviewed by

the board and held or liquidated at their discretion.

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ASU 2012-05

Practical Example (continued):• Sizzler Village decides the do the following with Mr.

Player’s donated stocks:o $ 1,000 worth of shares of IBM – convert to cash.o $ 1,000 worth of shares of Facebook – convert to cash.o $ 1,000 worth of shares of Alcoa – hold indefinitely.

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ASU 2012-05

Practical Example (continued):• Proper statement of cash flows presentation:

o $ 1,000 worth of shares of IBM – convert to cash = operating.

o $ 1,000 worth of shares of Facebook – convert to cash = financing (restricted for long-term purposes)

o $ 1,000 worth of shares of Alcoa – hold indefinitely = investing (upon liquidation)

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ASU 2012-05

Effective Date:• Effective prospectively for fiscal years, and interim

periods within those years, beginning after June 15, 2013.

• Retrospective application to all prior periods presented upon the date of adoption is permitted.

• Early adoption is permitted with exception.

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ASU 2012-05

Effective Date (continued):• Exception to early adoption – for fiscal years beginning

before October 22, 2012, early adoption is permitted only if the entity’s financial statements for those fiscal years, and interim periods within those years, have not yet been made available for issuance.

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DONATED SERVICES RECEIVED FROM EMPLOYEES OF AN AFFILIATE (ISSUE 12-B) General Rule: An NFP recognizes “donated services" provided

to it at no cost by an independent third-party only if those services "enhance a long-lived asset" or would otherwise need to be paid for by the NFP in the normal course of business

Recognized Pro bono audit services provided by a CPA firm (debit

accounting fees, credit contribution revenue; measured at fair value based on billing rotes)

Not recognized Services of volunteers staffing a call center during a pledge

drive

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DONATED SERVICES RECEIVED FROM EMPLOYEES OF AN AFFILIATE (ISSUE 12-B) Issue

Should NFPs apply contributed services guidance for recognizing personnel costs incurred on its behalf by an entity under common control?

If not, what recognition and measurement guidance should apply?

Views Proposed A - Recipient NFP should not apply contributed services guidance in ASC

958 but recognize personnel services that are regularly performed for recipient NFP on Its behalf by an affiliate at actual cost

B - same as view A except measure personnel services that meet contributed services recognition criteria at fair value, otherwise measure at cost

C - amend recognition criteria to remove ‘for and under direction of the donee' - then recognize personnel services that meet this amended definition at fair value

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DONATED SERVICES RECEIVED FROM EMPLOYEES OF AN AFFILIATE (ISSUE 12-B) EITF reached a consensus that the expenses related to all

personnel services that are regularly performed for the recipient NFP should be recognized in the NFP’s stand-alone financial statements and should be measured at the actual costs incurred by the affiliate under common control• Contributed services criteria would no longer be applied when

reimbursement is not sought

• Entities under Topic 954 (health care) would report as equity transfer

60-day comment period for ED ended September 20th; EITF to discuss on January 17, 2013 (November 1 meeting was canceled because of “Superstorm Sandy”)

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OBLIGATIONS RESULTING FROM JOINT AND SEVERAL LIABILITY ARRANGEMENTS (ISSUE 12-D) Background

Under joint and several liability, the total amount of an obligation is enforceable against any of the parties to the arrangement and the obligors cannot refuse to perform on the basis that other parties also are obligated to perform.

Joint and several liability may exist for entities under common control or between unrelated parties.

Currently there is diversity in practice in how entities recognize and measure obligations with joint and several liability.

Issue How should a reporting entity that is jointly and severally liable

account for an obligation whose total amount is fixed at the reporting date?

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OBLIGATIONS RESULTING FROM JOINT AND SEVERAL LIABILITY ARRANGEMENTS (ISSUE 12-D) ABC Health System

Hospital A - $200 million

Hospital B - $175 million

Hospital C - $75 million

Fact Pattern Obligated group issued debt totaling $450 million

Hospitals are joint and severally liable for repayment of the debt

In addition to consolidated financial statements, each subsidiary issues standalone statements

Each hospital's standalone statements display its share of the obligation, with note disclosure of the amount contingently owed (e.g., Hospital A's statements show $200 million liability and disclose $250 million contingent obligation)

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OBLIGATIONS RESULTING FROM JOINT AND SEVERAL LIABILITY ARRANGEMENTS (ISSUE 12-D) Issue

Should each hospital reflect the entire $450 million obligation, with a receivable from other parties for their respective “shares”?

e.g., should Hospital A record $450 liability and $250 million receivable from Hospitals B and C?

View Proposed A ~ Net approach under FAS 5 (treat obligation as contingent

liability) B ~ Net approach under FIN 45/FAS 5 (treat obligation as a

guarantee) C ~ Gross approach (record the total amount of the obligation)

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OBLIGATIONS RESULTING FROM JOINT AND SEVERAL LIABILITY ARRANGEMENTS (ISSUE 12-D) EITF reached a consensus that an entity should measure

obligations resulting from joint and several liability arrangements for which the total amount under the arrangement is fixed at the reporting date using Loss Contingencies guidance (unless primary role is as guarantor)• Certain disclosures would also be required

60-day comment period for ED ended September 20th; EITF to discuss on January 17, 2013

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LEASES PROJECT – TIMETABLE

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LEASES PROJECT: LESSEES

Proposed right-of-use model for lessees Feedback: general agreement for on-balance-sheet

treatment but concerns about complexity:• Measurement (renewal options, contingent rents, short-term

leases)

• Expense pattern / categorization (front-loading, cost recovery, allowability)

Redeliberations:• Measurement simplifications; short-term lease exception

• Reconsidered subsequent expense categorization and expense pattern on income statement (statement of operations): Next slide

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REDELIBERATIONS – LESSEE MODEL

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REDELIBERATIONS – LESSOR MODEL

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RECEIVABLE & RESIDUAL APPROACH

Balance Sheet Income Statement

Right to receive lease payments1

X Profit on transfer of right-of-use (gross or net based on business model)

X

Residual asset2 X Interest income – on receivable & residual3

X

1Present value of lease payments, plus initial direct costs

2Measured at an allocation of carrying amount of leased asset

3 Interest on residual based on estimated residual value – any profit on the residual asset is not recognized until asset sold or re-leased at end of lease term

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LEASES PROJECT: TIMEFRAME

Redeliberations still ongoing Revised ED now expected in 1H 2013 Likely 120-day comment period Final standard now expected to be issued in late 2013 or

early 2014 Effective date for public entities likely 2016 or later Likely incremental deferral for nonpublic entities for one

or two years beyond the public entity effective date

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PREPARING FOR THE (EVENTUAL) NEW LEASES STANDARD

Inventory all leases Assess capitalization threshold Monitor the continued developments in the project at

fasb.org Depending on final decisions:

• Understand any potential impact on debt financial covenants (debt/equity ratios) and any other key financial metrics by which the organization is measured

• Understand any potential impact on cost recovery agreements (primarily equipment leases). The FASB is very aware of these issues for NFPs, as well as other government contractors, etc.

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REVENUE RECOGNITION PROJECT: OVERVIEW OF MODEL

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REVENUE RECOGNITION PROJECT

Contracts with customers Excluded:

• Donations

• Collaborative arrangements

May significantly change recognition pattern for some industries, but probably not for most NFPs

New disclosures (next slide)• Exemptions for nonpublic entities

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REVENUE RECOGNITION: DISCLOSURES

Objective: To enable users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers

• Redeliberations (in December) to consider costs and benefits of annual and interim disclosures

• Users – level of disclosure is appropriate (or more is required)• Preparers and others – disclosure proposals are excessive, overly prescriptive and require information not used by management

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REVENUE RECOGNITION PROJECT: TIMEFRAME

Other issues being redeliberated• Onerous performance test has now been removed

• Bad debts now back in expenses (original ED: contrarevenue)

• Distinction from collaborative arrangement expected to be clarified further

Standard expected to be issued in 1H 2013 Effective date for public entities TBD (no earlier than

2015, perhaps later) Likely incremental deferral for nonpublic entities for one

or two years beyond that

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FINANCIAL INSTRUMENTS PROJECT

Classification and Measurement:• For the most part, changes no longer significant for NFPs

• Loans receivable and liabilities remain at cost

• NFPs already at FV for debt securities (these will generally now be at FV for business entities too)

• Practical expedient to FV for nonmarketable equity securities

• Nonpublic entities: Not required to present parenthetically or disclose fair value amounts for financial assets and financial liabilities measured at amortized cost. (i.e., “FAS 107” disclosures would no longer be required)

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FINANCIAL INSTRUMENTS PROJECT

Impairment:• FASB now proposing a Current Expected Credit Loss model, which

would apply to loans receivable, as well as trade and lease receivables

• Differs somewhat from the IASB’s current proposed model

Hedge Accounting:• FASB and IASB are currently in very different places here

Revised ED for Impairment to be issued later this month. Revised ED for Classification & Measurement to be issued in 1H 2013. Final standard(s) on these areas expected be issued in late 2013 or early 2014. Effective date TBD.

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LIQUIDITY RISK DISCLOSURES PROJECT

Spin-off from Accounting for Financial Instruments project

Developed in part in response to concerns about irrelevance/non-cost-effectiveness of FV information for certain financial assets and liabilities

Key proposed disclosures: (1) obligations, by expected maturity; (2) available funds• Financial institutions: different liquidity risk disclosures, plus

interest rate risk disclosures

Comment period ended September 25th

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LIQUIDITY RISK DISCLOSURES PROJECT

NAC discussed these at its September 2012 meeting, focusing on both (1) appropriateness/ cost-effectiveness and (2) sufficiency (given the NFP Financial Reporting Project objective of improving information about liquidity in NFP financial statements)

Many constituents have been highly critical of the proposal

FASB is reassessing the objectives and scope of project and nature of disclosures

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GOING CONCERN PROJECT

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GOING CONCERN

Price pressures General lack of work and backlog Increased competition for fewer jobs Will companies be able to keep

revenue at a sufficient level?• Profitable jobs?• Cover overhead?• Anything left?

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GOING CONCERN

Banks hesitant with financing• Bankruptcies• Loan defaults• Busted loan covenants

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GOING CONCERN

AICPA – AU-C Section 570, The Auditor's Consideration of an Entity's Ability to Continue as a Going ConcernEffective for audits of financial statements for periods ending on or after December 15, 2012

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GOING CONCERN

AICPA – AU-C Section 570, The Auditor's Consideration of an Entity's Ability to Continue as a Going Concern

Continuation of an entity as a going concern is assumed in financial reporting in the absence of significant information to the contrary.

Auditor has a responsibility to evaluate whether there is substantial doubt about the entity’s ability to continue as a going concern for a reasonable period of time.

This evaluation is based on knowledge of relevant conditions and events obtained from the auditing procedures performed during a FS audit.

The absence of any reference to substantial doubt in an auditor’s report cannot be viewed as a guarantee to the entity’s ability to continue as a going concern.

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GOING CONCERN

AICPA - AU-C Section 570 (Continued)Consider conditions and events such as:

• Negative trendso Recurring operating losses

o Working capital deficiencies

o Negative cash flows from operating activities

o Adverse key financial ratios

• Other indications of financial difficultieso Default on loan or similar agreements

o Denial of usual trade credit from suppliers

o Restructuring of debt

o Need to seek new sources or methods of financing or to dispose of substantial assets

93

GOING CONCERN

AICPA - AU-C Section 570 (Continued)Consider conditions and events such as:

• Internal matterso Work stoppages and/or labor difficulties

o Substantial dependence on success of particular project

o Need to significantly revise operations

• External matterso Legal proceedings, legislation, or similar matters that might jeopardize an

entity's ability to operate

o Loss of principal customer or supplier

o Uninsured or underinsured catastrophe (earthquake, flood, etc.)

94

GOING CONCERN

AICPA - AU-C Section 570 (Continued)Consider management’s plans

• Plans to dispose of assets

• Plans to borrow money or restructure debt

• Plans to reduce or delay expenditures

• Plans to increase ownership equity

• Plan and perform auditing procedures to obtain audit evidence on those elements that are particularly significant to overcoming the adverse conditions

95

GOING CONCERN

AICPA - AU-C Section 570 (Continued)Disclosure and/or Explanatory Paragraph?

• If the auditor's conclusion is that substantial doubt about the entity's ability to continue as a going concern for a reasonable period of time is alleviated, the auditor should consider the need for disclosure of the principal conditions and events that initially caused the belief that there was substantial doubt. The auditor's consideration of disclosure should include the possible effects of such conditions and events, and any mitigating factors, including management's plans.

96

GOING CONCERN

AICPA - AU-C Section 570 (Continued)Disclosure and/or Explanatory Paragraph?

• If auditor’s conclusion is that substantial doubt about the entity's ability to continue as a going concern for a reasonable period of time remains, the audit report should include an explanatory paragraph.

• If auditor concludes that the entity's disclosures with respect to the entity's ability to continue as a going concern for a reasonable period of time are inadequate, a departure from GAAP exists. This may result in either a qualified (except for) or an adverse opinion.

97

GOING CONCERN

The FASB decided that guidance related to the going concern assumption should reside in the accounting literature established by the FASB and decided to undertake this project (2007).

Because this project may overlap with rules and standards of other agencies, the FASB directed its staff to obtain input from the staffs at the SEC, AICPA, and PCAOB on the revised draft and any conflict with existing and/or pending guidance related to this topic.

Focused on disclosures aimed at earlier identification of circumstances that might lead to going concern issues

Should there be some sort of explicit positive or negative assertion? If so, who should be making it (management vs. auditor)?

The FASB is expecting to issue an exposure draft on going concern during the first half of 2013.

98

RISKS AND UNCERTAINTIES (GOING CONCERN) PROJECT

99

GOODWILL AND INDEFINITE-LIVED INTANGIBLE ASSETS

100

ASU 2011-08 AND ASU 2012-02 Relates to impairment testing of goodwill

and indefinite-lived intangible assets ASU 2011-08 relates to goodwill – issued in

September 2011 ASU 2012-02 relates to indefinite-lived

intangible assets Main provision of both – allows entities to

first assess potential for impairment using qualitative factors

101

ASU 2011-08: GOODWILL

Issued in September 2011 Issued due to complaints that performing the two-step

impairment test was too costly for many entities Allows for entities to first assess qualitative factors to

determine whether it is more-likely-than-not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test

Effective for annual and interim periods beginning after December 15, 2011. Early adoption is permitted.

102

ASU 2011-08: GOODWILL (CONTINUED)

Qualitative factors that may indicate potential impairment:1. Macroeconomic conditions (e.g., deterioration in general

economic conditions, limitations on accessing capital, fluctuations in foreign exchange rates, etc.)

2. Industry and market conditions (e.g., deterioration in the environment in which an entity operates, increased competitive environment, change in the market for an entity’s products or services, etc.)

3. Cost factors (e.g., increases in raw materials, labor, or other costs that have a negative effect on earnings and/or cash flows, etc.)

4. Overall financial performance (e.g., negative or declining cash flows or a decline in actual or planned revenue or earnings compared with actual or projected results of relevant prior periods, etc.)

103

ASU 2011-08: GOODWILL (CONTINUED) Qualitative factors that may indicate potential

impairment (cont):5. Other relevant entity-specific events (e.g., change in

management, key personnel, strategy, or customers; contemplation of bankruptcy; or litigation)

6. Events affecting a reporting unit (e.g., change in the composition or carrying amount of its net assets, a more-likely-than-not expectation of selling or disposing all, or a portion, of a reporting unit, etc.)

7. If applicable, a sustained decrease in share price (consider in both absolute terms and relative to peers)

104

ASU 2011-08: GOODWILL (CONTINUED) FASB does NOT intend for the identification of one factor to

automatically trigger the two-step impairment test Entity should consider the extent to which each of the adverse

events and circumstances identified could affect the comparison of a reporting unit’s fair value with its carrying amount and place more weight on the events or circumstances that most affect the reporting unit’s fair value or carrying amount of its net assets

Additionally, an entity shall evaluate the existence of any positive or mitigating events and circumstances

If entity determines that it is more-likely-than-not that an impairment may exist, entity should perform the first step and, if necessary, the second step of the two-step impairment test

105

ASU 2012-02: INDEFINITE-LIVED INTANGIBLE ASSETS

Provisions similar to those of ASU 2011-08

Effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012. Early adoption is permitted.

106

ASU 2012-02: INDEFINITE-LIVED INTANGIBLE ASSETS (CONTINUED) Events or circumstances to consider qualitatively that

may indicate impairment of indefinite-lived intangible assets:1. Cost factors that have a negative effect on future

expected earnings and cash flows that could affect significant inputs used to determine the fair value of the indefinite-lived intangible asset

2. Financial performance

3. Legal, regulatory, contractual, political, business, or other facts, including asset-specific factors that could affect significant inputs used to determine the fair value of the indefinite-lived intangible asset

107

ASU 2012-02: INDEFINITE-LIVED INTANGIBLE ASSETS (CONTINUED) Events or circumstances to consider qualitatively

that may indicate impairment of indefinite-lived intangible assets (cont.):4. Other relevant entity-specific events5. Industry and market considerations6. Macroeconomic conditions

Similar to goodwill, no one specific event or circumstance should automatically trigger the two-step impairment test

Weight should be placed on most significant events and circumstances

108

ASU 2010-24

Health Care Entities (Topic 954) Presentation of Insurance Claims and Related

Insurance Recoveries – a consensus of the FASB Emerging Issues Task Force

Issued August 2010

109

ASU 2010-24

Why issue this ASU?• To address current diversity in practice related to the

accounting by health care entities for medical malpractice claims and similar liabilities and their related anticipated insurance recoveries.

• Most health care entities present at net although some have presented at gross.

110

ASU 2010-24

Why issue this ASU? (cont.)• It better reflects that health care entities generally

remain liable for payment of, and retain risk associated with, such claims.

• It better reflects that the health care entity is exposed to credit risk from the insurer.

111

ASU 2010-24

What entities are impacted by this?• Entities within the scope of Topic 954• Consistent with the guidance on netting receivables

and payables, Subtopic 210-20, Balance Sheet – Offsetting, that are more broadly applicable for entities in other industries.

112

ASU 2010-24

Entities affected are required to present insurance claim liabilities at a gross amount, excluding any expected insurance recoveries.

Claim liability amount should be determined without consideration of insurance recoveries.

113

ASU 2010-24

Amounts subject to deductibles should also be considered.

Insurance receivable should be measured on the same basis as liability .

Allowance for uncollectable amounts should be considered.

114

ASU 2010-24

Items to consider• Method of calculating liability• Insurance layers• Deductibles by claim and in aggregate• Collectability of receivable

115

ASU 2010-24

Understand the elements of the actuary’s calculations• Consideration and assumptions of insurance

recoveries by actuary, if any• Test understanding• Evaluate assumptions for reasonableness and

consistency• Actuary should not assume claims made policy

renews every year

116

ASU 2010-24

Practical Example:• Hospital X currently has three layers of insurance:

o Self insured up to $500Ko MCARE insurance from $500k - $1 milliono Commercial insurance policy from $1 million to

$3 million

• Hospital X has an outstanding claim expected to settle for

$2 million.

117

ASU 2010-24Before: After:

Cash 1,000,000 Cash 1,000,000

Accounts receivable 5,000,000 Accounts receivable 5,000,000

Inventory 500,000 Inventory 500,000

Prepaid expenses 500,000 Prepaid expenses 500,000

Property and equipment 15,000,000 Property and equipment 15,000,000

Other assets 2,000,000 Other assets 2,000,000

Insurance receivable 1,500,000

Total assets 24,000,000 Total assets 25,500,000

Current maturities of debt 500,000 Current maturities of debt 500,000

Accounts payable 500,000 Accounts payable 500,000

Accrued expenses 500,000 Accrued expenses 500,000

Long-term debt 10,000,000 Long-term debt 10,000,000

Medical malpractice liability 500,000 Medical malpractice liability 2,000,000

Other liabilities 1,000,000 Other liabilities 1,000,000

Net assets 11,000,000 Net assets 11,000,000

Total liabilities and net assets 24,000,000 Total liabilities and net assets 25,500,000

118

ASU 2010-24

Effective Date:• Public entity - Fiscal years and interim periods

beginning after December 15, 2010• Nonpublic - Fiscal years beginning after December 15,

2010• Retrospective application is permitted for all prior

periods presented• Early adoption is permitted

119

TPAS ISSUED RELATED TO NEW INSURANCE ASU

TIS 6400.49 Presentation of Claims Liability and Insurance Recoveries—Contingencies Similar to Malpractice

- Similar contingent liabilities within the scope of ASU 2010-24 include liabilities of a similar nature

• Workers Compensation

• Directors and Officers claims

• Others

120

TPAS ISSUED RELATED TO NEW INSURANCE ASU TIS 6400.50 Accrual of Legal Costs Associated with

Contingencies Other Than Malpractice- For Malpractice ASC 954-450 requires health care entities to estimateand accrue the legal cost expected in connection withlitigating malpractice claims in the period themalpractice incident arises- Other than MalpracticePrior policy election (expense when incurred or accruefor expected costs) should not be affected by adoptionof ASU 2010-24

121

TPAS ISSUED RELATED TO NEW INSURANCE ASU TIS 6400.51 Presentation of Insurance Recoveries

When Insurer Pays Claims Directly(Insurer handles all aspects of claims handling and

settlement for covered claims; provider neither pays claims or receives recoveries)

- Unless health care org. has a valid right of offset (not common), the org. should report gross amount of claims liability (incl. legal cost) and record a receivable as if it were entitled to receive insurance recoveries to offset obligations

• In most cases, the receivable will mirror estimated losses in these contracts

122

TPAS ISSUED RELATED TO NEW INSURANCE ASU

TIS 6400.52 Insurance Recoveries From Certain Retrospectively-Rated Insurance Policies

- Such policies may not transfer risk Is a deposit (financing) arrangement Follow ASC 720-20 Expenses-Insurance, and ASC 340-30

Insurance Contracts That Do Not Transfer Insurance Risk

- Policies may be more complex (e.g., maximum premium provisions)

Considerations are discussed more fully

123

ASU 2011-07

Health Care Entities (Topic 954) Presentation and Disclosure of Patient

Service Revenue, Provision for Bad Debts, and Allowance for Doubtful Accounts for Certain Health Care Entities – a consensus of the FASB Emerging Issues Task Force

Issued July 2011

124

ASU 2011-07

Why issue this ASU?• Some Health Care entities recognize patient service

revenue at the time the services are rendered regardless of whether the entity expects to collect that amount.

• Concerns over “grossed-up” F/S presentation.• Need for greater transparency in a health care entity’s

F/S about net patient service revenue and the allowance for doubtful accounts.

125

ASU 2011-07

What entities are impacted by this?• Entities within the scope of Topic 954• Entities that recognize significant amounts of patient

service revenue at the time the services are rendered even though they don’t assess collectability at that time

• No impact for other entities

126

ASU 2011-07

Entities affected are required to reclassify bad debt expense from operating expenses to a deduction from net patient service revenue (net of contractual allowances and discounts).

Bad debt expense continuing to be reported as operating expense:

- Relating to revenue that is not patient service revenue (e.g., Foundation)

- Receivables from patient service revenue if the entity only recognized revenue to the extent it expects to collect that amount (e.g.,

physician practice)

127

ASU 2011-07

New disclosure requirements:• Enhanced disclosures about policies for recognizing

revenue and assessing bad debts:o Disclosure by major payor typeso Consistent with how entity manages its business (e.g., by

credit risk)o How does accounting system track receivables and

revenue?

128

ASU 2011-07

New disclosure requirements:

• Qualitative and quantitative information about changes in the allowance for doubtful accounts:o Changes in estimates and underlying assumptionso Amount of self-pay write-offso Amount of third-party payor write-offso Any other unusual transactions impacting the allowance for

doubtful accountso Major payor sources identifiedo Illustrations are provided in the ASU (Codification 954-310-

55-1 through 3)

129

ASU 2011-07BEFORE: AFTER:

Revenues, Gains, and Other Support: Revenues, Gains, and Other Support:Net patient service revenue 50,000,000 Net patient service revenue 50,000,000 Other revenue 2,000,000 Provision for bad debts (3,000,000)

Net patient service revenue less Total 52,000,000 provision for bad debts 47,000,000

Other revenue 2,000,000 Expenses:Salaries and wages 21,000,000 Total 49,000,000 Supplies and expenses 15,000,000 Employee benefits 5,000,000 Expenses:Depreciation and amortization 3,000,000 Salaries and wages 21,000,000 Provision for bad debts 3,000,000 Supplies and expenses 15,000,000 Professional fees 2,000,000 Employee benefits 5,000,000 Insurance 1,000,000 Depreciation and amortization 3,000,000 Contracted services 500,000 Provision for bad debts - Interest 500,000 Professional fees 2,000,000

Insurance 1,000,000 Total 51,000,000 Contracted services 500,000

Interest 500,000 Revenues in excess of expenses 1,000,000

Total 48,000,000

Revenues in excess of expenses 1,000,000

130

ASU 2011-07Entity A recognizes patient service revenue associated with services provided to patients who have third-party payor coverage on the basis of contractual rates for the services rendered. For uninsured patients that do not qualify for charity care, Entity A recognizes revenue on the basis of its standard rates for services provided (or on the basis of discounted rates, if negotiated or provided by policy). On the basis of historical experience, a significant portion of Entity A’s uninsured patients will be unable or unwilling to pay for the services provided. Thus, Entity A records a significant provision for bad debts related to uninsured patients in the period the services are provided. Patient service revenue, net of contractual allowances and discounts (but before the provision for bad debts), recognized in the period from these major payor sources, is as follows.

Third-Party TotalPayors Self-Pay All Payors

Patient servicerevenue (Net ofcontractualallowances and discounts) 50,000$ 10,000$ 60,000$

131

ASU 2011-07

Effective Date:• Public entity - Fiscal years and interim periods

beginning after December 15, 2011• Nonpublic - Fiscal years ending after December 15,

2012• Presentation should be retrospective for all prior

periods presented, disclosures for the period of adoption, and subsequent periods

• Early adoption is permitted

132

TIS 6400.47

Application of ASU 2011-07 in Consolidated Financial Statements In determining how to present bad debts in Health System’s

consolidated statement of operations, should the assessment of significance be made at the consolidated reporting entity level (regardless of the presentation in the separate subsidiary financial statements), or should the determinations made at the separate subsidiary reporting level be retained in consolidation?

A. Application should be made as a policy decision with disclosure of the policy election.

133

TIS 6400.48 ACCOUNTING FOR ICD-10IMPLEMENTATION COSTS Expected to require changes to both business processes and

information systems Follow guidance in FASB-ASC 720-45

- Segregate project costs among—• Process reengineering activities

o Expensed as incurred

• Activities that develop or modify softwareo Capitalized or expensed based on FASB internal-use

software guidance

• Costs associated with acquisition of fixed assetso Accounted for in accordance with policy for

capitalizing long-lived productive assets

134

TIS 6400.48 ACCOUNTING FOR ICD-10IMPLEMENTATION COSTS (CONT.) All training costs should be expensed as incurred Costs related to acquisition of new ICD-10 compliant systems

or modification of existing software to become ICD-10 compliant—follow ASC 350-40

- Do modifications result in “additional functionality”? (enable software to perform tasks that it was previously incapable of performing)

TPA presents factor to be considered in this assessment. Modifications that do not result in additional functionality -

expensed as maintenance costs Modifications that result in additional functionality -

expensed or capitalized in accordance with parag. 1-6 of ASC 350-40-25

135

TIS 6400.48 ACCOUNTING FOR ICD-10IMPLEMENTATION COSTS (CONT.)ASC 350-40-25, parag. 1-6

Preliminary Project Stage

25-1 Internal and external costs incurred during the preliminary project stage shall be expensed as they are incurred.

Application Development Stage

25-2 Internal and external costs incurred to develop internal-use computer software during the application development stage shall be capitalized.

25-3 Costs to develop or obtain software that allows for access to or conversion of old data by new systems shall also be capitalized.

136

TIS 6400.48 ACCOUNTING FOR ICD-10IMPLEMENTATION COSTS (CONT.)25-4 Training costs are not internal-use software development costs and, if incurred during this stage, shall be expensed as incurred.

25-5 Data conversion costs, except as noted in paragraph 350-40-25-3, shall be expensed as incurred.

Postimplementation-Operation Stage

25-6 Internal and external training costs and maintenance costs during the postimplementation-operation stage shall be expensed as incurred.

137

MEDICARE INCENTIVE PAYMENTS FOR MEANINGFUL USE OF ELECTRONIC HEALTH RECORDS

The American Recovery and Reinvestment Act of 2009 (ARRA) established incentive payments under the Medicare and Medicaid programs for certain professionals and hospitals that “meaningfully use” certified electronic health record (EHR) technology.

Final rule issued in the July 28, 2010, Federal Register starting on page 44314.

Provisions of the ARRA together with certain other provisions are referred to as the Health Information Technology for Economic and Clinical Health (HITECH) Act.

138

MEDICARE INCENTIVE PAYMENTS FOR MEANINGFUL USE OF ELECTRONIC HEALTH RECORDS Goal – Promote effective (quality) and efficient

health care delivery reducing overall cost of health care.

$19 billion has been set aside to be allocated over a four year period to hospitals implementing the technology by 2014 who are considered “meaningful users.”

Hospitals must attest that they have met the criteria.

Meaningful use has been defined by CMS in three stages.

139

MEDICARE INCENTIVE PAYMENTS FOR MEANINGFUL USE OF ELECTRONIC HEALTH RECORDS Stage 1

• Electronically capture health information in coded format• Use technology to meet 14 required core objectives• Meet 5 objectives from a menu of 10

Stage 2• Focus on continuous quality improvement at point of care,

greater use of physician order entry, and more exchange of information

Stage 3• Focus on promoting improvements in quality, safety, and

efficiency with an emphasis on decisions support, patient access to self-management tools, access to comprehensive patient data, and improving population health

140

MEDICARE INCENTIVE PAYMENTS FOR MEANINGFUL USE OF ELECTRONIC HEALTH RECORDS Hospitals could first qualify for meaningful use

for 2011 through 2013 and still received four years of incentive payments. After federal fiscal year 2013, smaller incentive payments will be received.

Failure to demonstrate meaningful use in a later payment year will be treated as a skipped year and amounts cannot be recaptured.

There will be lower future reimbursement for those who do not meet criteria by fiscal year 2015.

141

MEDICARE INCENTIVE PAYMENTS FOR MEANINGFUL USE OF ELECTRONIC HEALTH RECORDS Calculation: Initial Amount X Medicare Share X

Transition Factor• Initial Amount

o 2 million + 200 for discharges 1,150 - 23,000o Discharges < 1,150 and > than 23,000 are excluded

• Medicare Shareo (Part A IP + Part C IP days) / Total IP Days X ((Total

Charges – Charity Care)/Total Charges)

• Transition Factoro See next slide

142


The transition factors for obtaining meaningful use are as follows for the outlined years. • Fiscal Years 2011, 2012, or 2013:

o Transition factor for year 1 - 1.00o Transition factor for year 2 - 0.75o Transition factor for year 3 - 0.50o Transition factor for year 4 - 0.25

• Fiscal Year 2014:o Transition factor for year 1 - 0.75o Transition factor for year 2 - 0.50o Transition factor for year 3 - 0.25o Transition factor for year 4 - 0.00

• Fiscal Year 2015 :o Transition factor for year 1 - 0.50o Transition factor for year 2 - 0.25o Transition factor for year 3 - 0.00

Provisions of the program are applied differently to Critical Access Hospitals and eligible professionals.

143

MEDICARE INCENTIVE PAYMENTS FOR MEANINGFUL USE OF ELECTRONIC HEALTH RECORDS CMS will employ discharge and other data from the Hospital’s

most recently filed 12 month cost report as the basis for determining the Hospital’s preliminary incentive payment once they have attested as a meaningful user. • Medicare Cost Report (CMS - 2552-10) Worksheet S-2, Part I, Question

167 asks, “Is the provider a meaningful user under Section 1886(n)?”

CMS will determine the final incentive payment at the time of settling the 12 month cost report for the Hospital’s fiscal year that begins after the beginning of the payment year, and to be settled on the basis of the Hospital’s discharge and other data in that cost reporting period.

144

MEDICARE INCENTIVE PAYMENTS FOR MEANINGFUL USE OF ELECTRONIC HEALTH RECORDS – CASE STUDY

Organization attested on 9/15/12 Organization’s cost report year end is 6/30

What cost report did they use to estimate the payment received?

What cost report should they indicate that they have attested on?

What cost report will be used to calculate the actual settlement?

145


Contingency Model• Identify the contingencies to be satisfied

o Did the Organization meet the meaningful use criteria during the EHR reporting period

90 consecutive days in the first payment year and 365 during the remaining 3 years

o What impact will discharges, total charges, charity care charges, and patient days have upon the final incentive payment?

o What impact will the timing of these items have since the Organization’s fiscal year is most likely June 30th and the EHR reporting period is based on the federal fiscal year which runs from October 1st through September 30th?

(i.e., a portion of the discharges used in the payment calculation may occur after the reporting period ends)

• The contingency model would not permit income from the incentive payments to be recognized until the criteria has been met by the Organization.

146

MEDICARE INCENTIVE PAYMENTS FOR MEANINGFUL USE OF ELECTRONIC HEALTH RECORDS Grant Accounting Model

• Follows International Accounting Standard 20, Accounting for Government Grants and Disclosures of Government Assistance (IAS 20)

• Not authoritative guidance under GAAP• Has been used for situations where government provides

resources to a business entity in return for past or future compliance with specified conditions relating to the operating activities of the entity, including situations where the purpose of the assistance is to encourage a course of action by the entity which it would not have taken otherwise.

• EHR purpose is to encourage an accelerated pace of adopting EHR technology.

147


IAS 20 defines two types of grants:• Grants related to assets (primary condition that an entity

qualifying for grant should purchase, construct, or acquire long-term assets)

• Grants related to income (grants other than those related to assets)

EHR incentive payments would be considered an income grant since the compliance objective is “meaningful use” rather than to make the purchase of the long-term assets.

148

MEDICARE INCENTIVE PAYMENTS FOR MEANINGFUL USE OF ELECTRONIC HEALTH RECORDS When should the income be recognized?

• When there is reasonable assurance that (1) the entity will comply with the conditions set forth; and (2) the grants will be received. o Reasonable assurance may exist at the beginning of the reporting period and

could be recognized ratably over the EHR reporting period.o Reasonable assurance may exist at mid-term date and a catch-up adjustment

could be recorded.o Reasonable assurance may not be known until after the EHR reporting period

with all income recognized at once.

• If a previously recognized payment will be recouped, a provision for repayment should be recorded and accounted for as a change in accounting estimate.

• In the event that it is determined that meaningful use objectives will not be met, previously recognized income should be reversed and accounted for as a change in accounting estimate.

149

MEDICARE INCENTIVE PAYMENTS FOR MEANINGFUL USE OF ELECTRONIC HEALTH RECORDS Considerations for reasonable assurance

• How long has the EHR system been operating?• How long has the Hospital been working to meet criteria?• How far along is the Hospital with implementing

computerized physician order entry (CPOE)?• How reliable are the processes and controls around data

entry?• How comfortable is the Hospital that the processes and

controls are working properly?• Is the hospital going above and beyond to qualify for

meaningful use? Estimates and revisions of estimates will have to be

considered (i.e., discharges, charity care)

150


Statement of Operations considerations• Hospitals should evaluate the presentation that best fits their

facts and circumstances within the parameters of existing GAAP.o Privately-held-investor owned entitieso Not-for-profit entitieso Government entities

• Look to AICPA Health Care Organization guidanceo Patient service revenue, other revenue, and non-operating income

• Would not be appropriate to report grant income from incentive payments as an offset of expense since the payments are not earned to reimburse specific expenses.

151


IAS 20 requires the following disclosures:• The accounting policy adopted for the grant, including

methods of presentation adopted in the financial statements

• The nature and extent of grants recognized in the financial statements and an indication of other forms of government assistance from which the entity has directly benefited

• Unfulfilled conditions and other contingencies attaching to government assistance that has been recognized

152


It would be appropriate for all hospitals to disclose the following: • The recognition policy applied to the grant income, including the

method of recognition of income related to the incentive payments and the location of the income on the statement of operations, if not apparent from details disclosed on the face of the statement.

• A general description of the incentive program, including the nature of the incentive payments, how the incentive payments are calculated, and the attestation process.

• A discussion of the fact that the amount of the grant income is recognized based on management’s best estimate and that amounts recognized are subject to change, with such changes impacting operations in the period in which they occur.

• The nature and amounts of material changes in accounting estimates related to grant income.

• The fact that its attestation is subject to audit by the federal government or its designee.

153

ACCOUNTING FOR HITEC EHR INCENTIVES

Where are we now?Task force recommends grant accounting model

- For general hospitals:•Medicare revenue would be recognized ratably over the demonstration period beginning with initial compliance with Meaningful Use criteria•Amounts should be estimated based on expected payments to be received•Concept to be applied each year based on achieving Meaningful Use criteria for that year

154


SEC rejects grant model• Under the contingency model, revenue would not be

recognized until both of the following criteria are met:o In compliance for the required periodo Discharges for the funding reporting period have been

incurred

155


Application to providers:SEC registrants must follow gain contingency modelOthers have a policy election to choose- Grant model - Gain contingency modelSee HFMA Issues Analysis

MEDICARE INCENTIVE PAYMENTS FOR MEANINGFUL USE OF ELECTRONIC HEALTH RECORDS: Accounting and Reporting Developments

www.hfma.org under the HFMA Initiatives tab, Principles & Practices Board

156


Other EHR Funds:

- Medicaid Specific to each state May or may not follow Medicare program Accounting methodology should be consistent with the

Medicare method elected Provisions of the incentive program are applied differently for

the following:

- Community access hospitals

- Physician practices

157


Please consult your independent auditors to discuss the desired accounting treatment for the incentive payments

158

HFMA ISSUE ANALYSISACCOUNTING FOR RAC AUDITADJUSTMENTS AND EXPOSURES

SUMMARY

Provides accounting guidelines for responding to RAC audits and adjustments in the following situations:• Entity receives notification of RAC audit adjustments• Entity suspects it may be billed or been paid for

services that are potentially non-reimbursable• Entity is concerned about potential RAC adjustments

for issues that have not yet been identified• Entity receives notification of an RAC audit adjustment

recovery

160

NOTIFICATION OF RAC ADJUSTMENTS

Receipt of notification is persuasive evidence the criteria for revenue recognition has not been met

Entity must evaluate whether findings represent:• Change prior period estimate

o If so, entity should accrue for amount of take-back

o Should be recorded as a Medicare contractual adjustment

o Record upon receipt of RAC adjustment notification

• Correction of period error

Should consider RAC adjustment that will be successfully appealed

161

BILLED OR PAID FOR NON-REIMBURSABLE SERVICES

Implement changes to clinical operations and billing practices to address issues identified

Seek assistance from legal and/or compliance experts to determine obligation to self-report and re-bill claims or refund overpayments

Evaluate whether revenue recognition criteria have been met and whether findings constitute changes to prior period estimates or a correction of prior period error

162

RAC ADJUSTMENTS FOR ISSUES NOT YET IDENTIFIED

General reserves should not be recorded• Should not extrapolate another hospital’s RAC experience

when determining reserves unless it can be demonstrated that operating procedures and billing practices are essentially identical

• There may be circumstances for a hospital to support specific RAC reserves (for specific issues such as 3-day window, coding error, etc.)o Hospital may be able to consider relevant historical experience

related to specific issue

Once a hospital has relevant experience with RAC audits, this experience should be incorporated into monthly AR reserve process.

163

RECEIPT OF NOTIFICATION OF AN RAC RECOVERY

If appeal decision is final:• Record receivable and gain (offset to contractual

adjustments) upon receipt of written notificationo Receivable should be recorded in current period

o Will be offset when cash is received from CMS or MAC

If CMS can contest decision:• No receivable should be recorded

If cash received related to a recovery prior to expiration of time for CMS to file an appeal:• Record as deferred revenue until time expires

164

HUD AND GOVERNMENTAL REPORTING UPDATE

165

2011 REVISION OF GOVERNMENT AUDITING STANDARDS In December 2011 the Government Accountability

Office (GAO) issued the 2011 revision of Government Auditing Standards – commonly referred to as the “Yellow Book”• Supersedes the 2007 revision• Effective for financial audits and attestation engagements

for periods ended on or after December 15, 2012, which is the same effective date as the clarified auditing standards recently issued by the AICPA

• Effective for performance audits beginning on or after December 15, 2011

• Early implementation was not permitted

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2011 REVISION OF GOVERNMENT AUDITING STANDARDS

Summary of major changes:• Conceptual framework for independence was added

o Assess auditor independence to activities that are not expressly prohibited

o Requires auditors to make independence determination based on facts and circumstances that are often unique to specific audit environments

• Specific reference to personal, external, and organizational impairments, and overarching independence principles have been removedo The underlying concepts related to these categories have

been retained in the new conceptual framework for independence

167

2011 REVISION OF GOVERNMENT AUDITING STANDARDS Summary of major changes (continued):• Requirements for auditors performing nonaudit

services at entities they audito Includes a requirement that auditors assess whether

management possesses suitable skill, knowledge, or experience to oversee the nonaudit service and to document that assessment

o Revised guidance on nonaudit services that always impair an auditor’s independence with respect to audited entities and on certain nonaudit services that may be permitted under appropriate conditions

o Summary of requirements on documentation necessary to support adequate consideration of auditor independence was added

168


Summary of major changes (continued):• Certain SAS and SSAE requirements that were

repeated have been removed• Three categories of attestation engagements, (1)

examination, (2) review, and (3) agreed-upon procedures engagements are now separately discussedo Auditors are not permitted to deviate from the reporting

elements prescribed by the AICPA

• The reporting requirement for fraud now includes only those occurrences that are significant within the context of the audit objectives for performance audits

169


Auditor’s Report:• Auditor’s reports will be affected by

the 2011 revision of the Yellow Book as well as the clarified auditing standardso The GAS/A-133 AICPA Audit Guide has not been updated with

illustrative reports for use in Yellow Book and OMB Circular A-133 audits

o Illustrative reports are expected to be available by the end of January 2013

170

OVERALL CHANGES FOR FINANCIAL AUDITS

Considered clarity project/standards

Streamlined language to harmonize with AICPA

No new requirements were added for financial

audits and attestation engagements

171

REQUIREMENTS BEYOND AICPA

Additional GAS requirements relate toAuditor communicationPrevious audits and attestation engagementsNoncompliance with provisions of contracts or grant agreements, or abuseDeveloping elements of a findingDocumentation

For attestation engagements, this applies only at the examination level

172

REQUIREMENTS BEYOND AICPA (CONT.)

Additional GAS requirements relate toReporting auditors’ compliance with GAGASReporting on internal control, compliance with provisions of laws, regulations, contracts, and grant agreements, and other mattersReporting views of responsible officialsReporting confidential or sensitive informationDistributing reports

173

REMOVED DUPLICATIVE REQUIREMENTS

Financial Audits• Restatements• Internal control deficiency definitions• Communication of significant matters• Consideration of fraud and illegal acts

Attestation Engagements • Internal control deficiency definitions

174

DELETED REQUIREMENTS

Covered by the Quality Control System• Develop policies to address requests by outside

parties to obtain access to audit documentation

Covered by AICPA Standards• Document terminated engagements

o Retained requirement for performance audits

175

ATTESTATION ENGAGEMENTS

Separated attest requirements• Examination

• Review

• Agreed-Upon Procedures

Update considerations• Identified practice issue

• Clarified distinctions between engagement types

• Emphasized AICPA reporting requirements

176

INDEPENDENCE

177

CHAPTER 3 – GENERAL STANDARDS:INDEPENDENCE

Defines independence of mind and in appearance

Emphasizes the importance of considering individual threats to independence both individually and in aggregate

178


Conceptual Framework• Allows the auditor to assess unique circumstances

• Adaptable

• Consistent with AICPA and IFAC frameworks

Significant differences from AICPA Int. 101-3• Entry point for use of the framework

• Emphasis on services “in aggregate”

• Documentation requirement

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FRAMEWORK

New approach combines a conceptual framework with certain rules (prohibitions)• Balances principle and rules-based standards

• Serves as a hybrid framework

Certain prohibitions remain• Generally consistent with Rule 101 AICPA

• Paragraphs 3.45 through 3.58

Beyond a prohibition• Apply the conceptual framework

• Will be used more often than AICPA

180


Threats could impair independence• Do not necessarily result in an independence impairment

But… Safeguards could mitigate threats

• Eliminate or reduce to an acceptable level

181

GAGAS CONCEPTUAL FRAMEWORK FOR INDEPENDENCE

182

INDEPENDENCECATEGORIES OF THREATS

1. Management participation threat

2. Self-review threat

3. Bias threat

4. Familiarity threat

5. Undue influence threat

6. Self-interest threat

7. Structural threat

183

ASSESSING SIGNIFICANCE IN THE CONCEPTUAL FRAMEWORK FOR NON-AUDIT SERVICES The framework requires the auditor to assess the

significance of threats Threats related to non-audit services often include

• Management participation threat

• Self review threat

Indicators of a significant threat include: • Level of services provided (aggregation assessment)

• Significance to the audit objective

• Basic understanding of the service enough to recognize material errors

• Facts and circumstances that increase the perception that the auditor is working as part of management

184

DOCUMENTATION REQUIREMENTCONCEPTUAL REQUIREMENT

New documentation requirementMust document when safeguards have been applied

• Beyond the threat level

• Only once safeguards are applied

• Document how safeguards sufficiently mitigate the threats

185

AICPA 101-3 DOCUMENTATIONREQUIREMENTS

In connection with non-audit services, an auditor should establish and document in writing their understanding with the audited entity’s management or those charged with governance, as appropriate, regarding the following:• Objectives of the non-audit service engagement,

• Services to be performed,

• Audited entity's acceptance of its responsibilities,

• The auditor’s responsibilities, and

• Any limitations of the non-audit service engagement

186

ADDITIONAL YELLOW BOOK DOCUMENTATION REQUIREMENTS

New audit documentation requirements include:• Documentation of the conceptual framework for issues

requiring application of safeguardso Under AICPA, documentation required but only applicable when

circumstances not addressed in Code

• For any non-audit service there is an additional documentation requiremento Assessing management’s skill, knowledge, or experience

o Note: The assessment is required by the AICPA; GAGAS requires documentation of that assessment

187

SUITABLE SKILL, KNOWLEDGE, AND/OREXPERIENCE Individual designated to oversee the nonattest service

has the ability to understand the nature, objective, and scope of the nonattest service

Does not require the designated individual to supervise the member in the day-to-day rendering of the services• Make all significant judgments,

• Evaluate the adequacy and results of the service,

• Accept responsibility for the service results, and

• Ensure that the resulting work product meets the agreed-upon specifications

188

ASSESSING MANAGEMENT’S SKILL,KNOWLEDGE, OR EXPERIENCE

Considerations to include in documentation• Understanding of the nature of the service

• Knowledge of the business

• Knowledge of the industry

• General business knowledge

• Education

• Position at the client

Some factors may be given more weight

GAGAS does not require re-performance

189

FAILURE TO DOCUMENT INDEPENDENCECONSIDERATIONS Insufficient documentation does not automatically impair

independence Appropriate documentation required by GAGAS and AICPA

101-3 Lack of documentation would be noncompliance with

both standards

ALERT – Internal and Peer reviewers and regulatory reviewers will be explicitly looking for this

documentation. Lack of documentation would result in findings.

190

INDEPENDENCE Q&A GUIDE

Government Auditing Standards: Questions and Answers to Independence Standard Questions guidance

191

PRECONDITIONS TO PERFORMINGNON-AUDIT SERVICES

Management should take responsibility for nonaudit services performed by the auditors

Auditors should document their understanding with management regarding the non-audit service

Auditors should assess (AICPA) and document (GAGAS) whether management possesses suitable skill, knowledge, or experience (SKE) to oversee the non-audit service

192

SAFEGUARDS – NON-AUDIT SERVICES

Auditors should document safeguards when significant threats are identified. Auditor has responsibility to perform the assessment; this cannot be a management assertion Assessment should be in writing and indicate actions the auditor has taken to mitigate the threat Assessment should include a conclusion Auditor should document actions taken to mitigate the threat

• Examples may include:

Actions taken by the client to gain an understanding of the non-audit service and detect any errorsActions taken by the auditor to preserve independence such as an extra level of review or secondary review

193

SAFEGUARD EXAMPLES

Safeguards in the work environment • Select non-impaired auditor

• Separate engagement teams

• Secondary reviews

Non-audit services• Management responsibility

• Sufficient skills, knowledge, or experience

Safeguards created by the profession, legislation, or regulation • External review by a third party

• Monitoring and disciplinary procedures

194

SAFEGUARD EXAMPLES

Preparation by personnel not involved in the audit team

Emphasis of the risks of self review to the engagement team

Detailed discussion of the schedule with client personnel

Do not forget documentation of above, as well as SKE and understanding/arrangements for non-

audit service

195

ROUTINE AUDIT SERVICES AND NON-AUDIT SERVICES

Routine audit services pertain directly to the audit and include:• Providing advice related to an accounting matter

• Researching and responding to an audited entity’s technical questions

• Providing advice on routine business matters

• Educating the audited entity on technical matters

Other services not directly related to the audit are considered non-audit services

196

ROUTINE AUDIT SERVICES AND NON-AUDIT SERVICES

Services that are considered non-audit services include:• Financial statement preparation

• Bookkeeping services

• Cash to accrual conversions (a form of bookkeeping)

• Other services not directly related to the audito Preparation of tax filings

Unless specifically prohibited, non-audit services MAY be permissible but should be documented• In relation to the conceptual framework

• In relation to the auditor’s assessment of management’s skill, knowledge, or experience

197

BOOKKEEPING SERVICES

May be performed provided the auditor does notDetermine or change journal entries, account codes or classifications for transactions, or other accounting records without obtaining client approvalAuthorize or approve transactionsPrepare source documentsMake changes to source documents without client approval

Consistent with AICPA Int. 101-3

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PROHIBITIONS WITHIN INTERNAL AUDIT

Services provided by external auditorsSetting internal audit policies or the strategic direction

- e.g., Functioning as the internal auditorDeciding which recommendations resulting from internal audit activities to implementTaking responsibility for designing, implementing, and maintaining internal control

199

PROHIBITIONS WITHIN IT SERVICES

External auditors may notDesign or develop an IT system that would be subject to or part of an auditMake significant modifications to an IT system’s source codeOperate or supervise an IT system

Installation of packaged system not specifically prohibited

200

PROHIBITIONS RELATED TO INTERNAL CONTROL MONITORING

Management is responsible for designing, implementing, and maintaining internal control

External auditorsMay not provide ongoing monitoring services or proceduresMay not design the system of internal controls and then assess its effectiveness

May evaluate the effectiveness of controls

201

PROHIBITIONS WITHIN VALUATION SERVICES

External auditors may not provide valuation services that:Would have a material effect,Involve a significant degree of subjectivity, andAre the subject of an audit

202

FINANCIAL STATEMENT PREPARATION

Auditors may prepare financial statementsConsidered by GAGAS a non-audit serviceMust apply the conceptual frameworkTwo additional documentation requirements

• Document application of safeguards• Document assessment of management’s skill, knowledge, or

experience

Consistent with AICPA Int. 101–3Otherwise no safeguard could reduce the threat to an

acceptable level

203

ASSESSING SIGNIFICANCE FOR BOOKKEEPINGAND FINANCIAL STATEMENT PREPARATIONRelative significance is a continuumIndicators of significant threats for bookkeeping and financial statement preparation may include:

• Financial statement preparation with other non-audit services such as bookkeeping or cash to accrual conversions

• Condition of client prepared books and records

• Level of anticipated “correction” or adjustments to client prepared schedules and documents

• Condition of the general ledger/trial balance

Less significant may be:• Purely mechanical calculations

204

GAO INDEPENDENCE STANDARDS VERSUSAICPA STANDARDS

What are the major differences?

205

YELLOW BOOK VS. AICPA - SIMILARITIES Specific threats & safeguards

• Except GAO “structural threat” is unique to governments Prohibitions on non-audit services AICPA Int. 101-3 general requirements

• Audited entity must:o Assume all management responsibilitieso Designate an individual to oversee the services who has suitable skill,

knowledge, or experienceo Evaluate adequacy and results of services performedo Accept responsibility for the results of the services

Documentation of –• Understanding with the audited entity • Significant threats to independence that require the application of

safeguards

206

YELLOW BOOK VS. AICPA - DIFFERENCES

Conceptual framework approach• Yellow Book requires all circumstances/relationships that may result

in threats to undergo threats/safeguards analysis

• AICPA only requires threats/safeguards analysis if circumstance/relationship not specifically addressed in Code

Permitted Non-audit services• Yellow Book requires all permitted non-audit services to undergo

threats/safeguards analysis which may result in need for safeguards

• If non-audit service is permitted under AICPA Int. 101-3, additional safeguards are generally not required

Documentation of management’s skills, knowledge, or experience

207

LOOKING FORWARD

208

AICPA PRACTICE AID

AICPA, 2011 Yellow Book Independence – Non-audit Services Documentation Practice Aid• Significant threats to independence

• Application of safeguards

• Evaluation of the skills, knowledge, or experience

• Management responsibilities

209

AICPA PRACTICE AID

Appendices provide detailed guidance and examples, including:• Evaluation of significance of threats

• Determination of applicable and appropriate safeguards

• Evaluation of skills, knowledge, or experience

• Completed example practice aid

Available free through the AICPA Governmental Audit Quality Center (GAQC) to AICPA members. Unlocked version available for purchase.

210

WHERE TO FIND THE YELLOW BOOK

The Yellow Book is available on GAO’s website at:

www.gao.gov/yellowbook

For technical assistance, contact the GAO at:

[email protected]

211

QUESTIONS????

212

SPECIAL CONSIDERATIONS OF NOT-FOR-PROFIT FRAUD

AGENDA

• Statistics on fraud• Why the risk for fraud in not-for-profit organizations is

often greater than in other types of organizations• Common not-for-profit fraud schemes• Special considerations in not-for-profit fraud

investigations

214

LEARNING OBJECTIVES

• Identify key areas that may leave a NFP vulnerable to fraud

• Understand common NFP fraud schemes• Understand how to respond to a fraud issue• Help prevent fraud at NFPs

215

PRESENTATION RESOURCE

• Association of Certified Fraud Examiners Report to the Nations on Occupational Fraud and Abuse 2012 Global Study

• Report is available at acfe.com under “Fraud Resources”

216

2012 REPORT TO THE NATIONS

• Introduction Based on data compiled from a study of 1,388 cases of occupational fraud

that occurred worldwide between January 2010 and December 2011. All information was provided by the Certified Fraud Examiners (CFEs) who

investigated the cases. Case studies came from 94 nations.

217

FRAUD TRIANGLE

218

STATISTICS ON FRAUD

• An annual 2012 ACFE survey estimated, on average, organizations lose 5% of revenues to fraud annually

• The median loss was $140K, with 20% of fraud incidents being in excess of $1 million

• Most occupational fraudsters are first time offenders with clean employment histories

• The majority of fraud is discovered by a tip from an employee, or by chance

• The median loss at not-for-profits in 2012 was $100K• Not-for-profits represented approximately 10% of fraud

victims

Source: Association of Certified Fraud Examiners 2012 Global Fraud Study

219

STATISTICS ON FRAUD (CONT.)

• Financial statement fraud schemes made up just 8% of the cases studied, but caused the greatest median loss at $1 million.

• The primary reasons why fraud took place was: lack of internal controls, the ability to override existing internal controls, and lack of management review

• Perpetrators with higher levels of authority tend to cause much larger losses. The median loss among frauds committed by owner/executives was $573,000; the median loss caused by managers was $180,000; and the median loss caused by employees was $60,000.

• The longer a perpetrator has worked for an organization, the higher fraud losses tend to be. Perpetrators with more than ten years of experience at the victim organization caused a median loss of $229,000. By comparison, the median loss caused by perpetrators who committed fraud in their first year on the job was only $25,000.

220

STATISTICS ON FRAUD (CONT.)

• Most occupational fraudsters are first-time offenders with clean employment histories. Approximately 87% of occupational fraudsters had never been charged or convicted of a fraud-related offense, and 84% had never been punished or terminated by an employer for fraud-related conduct.

• In 81% of cases, the fraudster displayed one or more behavioral red flags that are often associated with fraudulent conduct. Living beyond means (36% of cases), financial difficulties (27%), unusually close association with vendors or customers (19%), and excessive control issues (18%) were the most commonly observed behavioral warning signs.

• Nearly half of victim organizations do not recover any losses that they suffer due to fraud. As of the time of our survey, 49% of victims had not recovered any of the perpetrator’s takings; this finding is consistent with our previous research, which indicates that 40–50% of victim organizations do not recover any of their fraud-related losses.

221

CURRENT STATE OF OCCUPATIONAL FRAUD – FRAUD TYPE IN NOT-FOR-PROFIT ORGANIZATIONS

Percentage of Type of Fraud in Not-For-Profits

222

CURRENT STATE OF OCCUPATIONAL FRAUD – BEHAVIORAL INDICATORS

223

CURRENT STATE OF OCCUPATIONAL FRAUD – HOW FRAUD IS DETECTED

224

TYPES OF FRAUD

• Three categories of frauds at not-for-profits: internal, external, and fraud committed by the organization

Internal frauds are committed by persons inside, such as employees, officers, and directors.

External frauds are committed by persons outside, such as vendors, grant applicants, and program participants.

Frauds committed by the organization typically involve multiple individuals; fraudulent fund-raising by not-for-profits is one example.

• Internal, external, and fraud by the organization can be subdivided into two categories:

Asset misappropriations Fraudulent financial reporting

225

INTERNAL FRAUD: ASSET MISAPPROPRIATIONS

226

INTERNAL FRAUD CATEGORIES

Revenue and cash receipts Skimming: theft of cash before the funds have been recorded in

the books. Usually committed by one who opens mail, handles donations, or prepares the bank deposits.

Theft of donated merchandise: theft of non-cash merchandise. Internal controls are often poorly designed at not-for-profits regarding protection of donated merchandise.

Purchasing and cash disbursement Credit card abuse: improper use of organization issued credit

card, or theft of numbers from donors. Fake vendor: submitting fraudulent invoices for payment on

services or items that were not received.

227

INTERNAL FRAUD CATEGORIES (CONT.)

Payroll and employee expense reporting Ghost employees: either terminated employees or fake

employees remain on the payroll Overstated hours: getting paid for hours not worked Fraudulent expenses: submission of fraudulent invoices for

expenses that did not take place Most of these frauds can be corrected at not-for profits by having

adequate internal controls, as well as having accounting and process flow procedures in place – that are enforced. (more on this later)

228

EXTERNAL FRAUD: FRAUDS AGAINST THE NOT-FOR-PROFIT

229

EXTERNAL FRAUD CATEGORIES

Fraudulent billings by the vendor: charging for goods or services not delivered

Fraud by service organizations: involve false transactions and receiving kick-backs

Fraud by recipients: reporting fraudulent data to the not-for-profit that made the grant or award

Financial assistance fraud: individuals who falsely receive financial aid

230

FRAUDS COMMITTED BY NOT-FOR-PROFITS

231

FRAUDS COMMITTED BY NOT-FOR-PROFITS: ASSET MISAPPROPRIATIONS

• Fraudulent fund raising Improper expense ratios communicated to donors Failure to comply with IRS requirements related to housing

allowances or compensation reporting Misclassifying employees, for example classifying employees as

volunteers

• Failure to comply with donor-imposed restrictions Misrepresenting portion of donations that will be used for stated

cause Selling donor data to market research companies

232

FRAUDS COMMITTED BY NOT-FOR-PROFITS: FRAUDULENT FINANCIAL REPORTING• Fraudulent financial reporting

Failure to disclose significant related party transactions Failure to disclose non-compliance with debt requirements Misclassifying restricted donations Holding records open beyond the period end to inflate revenues Misclassifying expenses to mislead donors Failure to report trade payables Failing to correctly report debt obligations

233

CONSIDERATIONS WHEN A FRAUD ISSUSPECTED

• The organization should have a fraud response plan already in place

Who will lead the investigation Who will be on the team

• Assessing whistleblower complaints and tips• When do you contact inside or outside counsel?• Consider that a case may eventually end up in court

Civil Criminal

234

CONSIDERATIONS WHEN A FRAUD ISSUSPECTED (CONT.)

• Secure documents in a controlled, static environment: Paper files Computer files

Hard drives

Backups

Emails

Chain of custody must be maintained Document hold is communicated early and enforced

• What to do with the accused? Poorly handled investigations can cause employment issues or

litigation Allow to work, put on leave, or terminate relationship

235

CONSIDERATIONS WHEN A FRAUD ISSUSPECTED (CONT.)• Notification of law enforcement• Notification of insurance carrier• Does the organization have individuals capable of

performing the investigation?• Characteristics of the internal investigative team - do

they have the specialized knowledge required to conduct an effective investigation?

Experience in investigating accounting irregularities Computer forensics skills Interview skills Data analysis techniques and abilities

236

CONSIDERATIONS WHEN A FRAUD ISSUSPECTED (CONT.)

• Consideration for not-for-profit organizations - impact on public relations

• Can the organization afford to hire an external forensic team of accountants/investigators?

• Consideration of partnering with internal and external resources

• What is the relevant scope of the investigation?

237

CONDUCTING THE FRAUD INVESTIGATION• Consider that every suspected fraud may end up in the

courts• Key preliminary work should be to narrow the focus of the

investigation as much as possible• Determine the work areas involved, key employees, and

systems used• Consider who you will interview and in what sequence• Consider a preliminary interview with non-suspects to narrow

the focus of the investigation• Perform a thorough analysis of the processes and work flows

potentially impacted by the fraud• Consider how data collection and analysis can be used to

look for unusual transactions

238

CONDUCTING THE FRAUD INVESTIGATION (CONT.)

• Perform financial analysis, if applicable• Prepare a detailed work plan involving each step in the fraud

investigation• The work plan

Lays out areas of investigation Determines necessary analysis Flows naturally from the allegations Refine the work plan, hypothesis, and testing steps as necessary as the

investigation continues Changes areas of emphasis depending on the results Considers accounting entries that may point to an issue

• Perpetrators are often adept at hiding their schemes

239


• Consider steps to test the fraud hypothesis• Determine access to relevant systems and, if possible, when

the suspect made such access• Perform public records searches to determine assets and

affiliations of suspects• Consider social media and internet queries to obtain

information on suspect, suspect’s family, affiliations, and friends

• Considerations of when to interview the suspect

240


• Consider possible ways the suspect could have personally benefited from the scheme and test those areas

• Always consider how the suspect could have converted the transactions to cash

241

THE DIFFERENCE BETWEEN A “PERFECT” INVESTIGATION AND A “REAL” INVESTIGATION

• Interviewing the suspect early in the investigation

• Inability to interview the suspect at all• The time to review documents and reach

conclusions may be limited• Dealing with budget limitations• Dealing with scope considerations• Working with law enforcement

242

SPECIAL CONSIDERATIONS FOR NOT-FOR-PROFIT ORGANIZATIONS• The smaller size of many not-for-profits makes segregation of

duties/internal controls more difficult• Not-for-profit organizations sometimes place higher trust in

their leaders, founders, and fund raisers• The finance, bookkeeping, and accounting functions are

often concentrated in a few individuals• Not-for-profits often have volunteer boards of directors which

may not provide adequate financial oversight• Many not-for-profits lack an audit committee or a robust

internal audit function• The nature of charitable contributions makes them easier to

steal, mismanage, or use for non-intended purposes

243

PREVENTING FRAUD AT NOT-FOR-PROFITS: FINANCIAL CONTROLS• Financial controls• Reconcile bank accounts • Reconcile fundraising assets such as raffle tickets and cash

receipts • Review any general ledger or other accounting entry

adjustments • Routinely complete a ratio analysis as it relates to donors vs.

donations and employees vs. payroll. A trend will emerge, and it will be easier to spot potential fraud.

• Job rotation policy • Complete surprise, non-routine audits • Important that a person(s) not directly involved with the

above complete these tasks

244

PREVENTING FRAUD AT NOT-FOR-PROFITS: NON-FINANCIAL CONTROLS

• Non-Financial Controls Implement an accounting policy and procedures manual as it relates to

all activities related to accounting, with specific attention to fundraising, treatment of cash, and the chain of custody regarding cash and check deposits

Employees, as well as volunteers, should sign and acknowledge understanding of the policies in place

Conduct anti-fraud training for employees and managers Pre-screen employees Establish an audit committee

245

PREVENTING FRAUD AT NOT-FOR-PROFITS: THE ROLE OF THE AUDIT COMMITTEE

• Primary role is independent oversight

• The board should evaluate management’s fraud risks, and how management responds to those risks

• Identify and review transactions appearing as an anomaly

• Review management expenses and unusual financial transactions

• Identify non-standard journal entries and adjustments to entries

• Establish a fraud hotline, or other anonymous reporting mechanism

• Take the lead in investing fraud

• Purchase insurance to protect against fraud

• Oversee internal audit functions, or perform internal audit functions The 2012 ACFE concluded that approximately 72% of frauds were discovered by

tips, management review, and internal audit.

246

REACTING TO FRAUD

• Notify the audit committee; the committee should be responsible for conducting the investigation

• Preserve documents and evidence• If necessary, engage certified fraud examiners to

preserve evidence and establish a record of what transpired

• Consult legal counsel and, if deemed appropriate, notify law enforcement authorities

• Repair the breach, and ensure that it could not repeat itself

• If necessary, make appropriate management and employee changes

247

?Questions?

248

ASB’S CLARITY PROJECT

249

CLARITY PROJECT

Goals of Auditing Standards Board (ASB)• Address concerns over length and complexity of

existing audit standards• Make standards easier to read, understand, and

apply• Will lead to enhancements in audit quality

250

CLARITY PROJECT - IMPACTS No substantive changes to requirements for:

• Audit Documentation• Auditor’s Communication With Those Charged With

Governance• Risk Assessment Standards• External Confirmations• Analytical Procedures• Audit Sampling• Auditing Accounting Estimates• Written Representations• Subsequent Events

251

CLARITY PROJECT - IMPACTS

Clarity Project was not intended to create additional requirements, but…

• Some revisions have resulted in Substantive Changes• Primarily Clarifying Changes that may require auditors

to make adjustments in their practices

252

CLARITY PROJECT – SUBSTANTIVE CHANGES

Consideration of Laws and Regulations Communication of Internal Control Related

Matters Related Parties Group Audits Auditor’s Reports

253

CLARITY PROJECT – PRIMARILY CLARIFYING CHANGES

Intended to explicitly state what may have been implicit in the previous standards• Over time, diversity in practice from implicit

requirements• Some requirements may already be performed• Making requirements explicit may not have

substantial effect but may result in adjustments to the timing and responsibilities of the auditor

254

CLARITY PROJECT – PRIMARILY CLARIFYING CHANGES

Terms of Engagement (Preconditions) Quality Control for Audit Engagements Use of a Service Organization Audit Evidence – Specific Considerations External Confirmations Opening Balances on Initial and Re-Audit

Engagements Using the Work of a Specialist Consistency of Financial Statements Special Purpose Frameworks

255

CLARITY PROJECT – LEGAL & REGULATORY

Requires performance of procedures to identify instances of noncompliance with those laws and regulations that have a direct and material effect on the FS• Inquire of management and, when appropriate,

those charged with governance about whether the entity is in compliance with such laws and regulations

• Inspect correspondence, if any, with the relevant licensing or regulatory authorities

256

CLARITY PROJECT – LEGAL & REGULATORY

Obtain an understanding of the legal and regulatory framework.

Obtain an understanding of how the entity is complying with that framework.

Determine whether the auditor has a responsibility to report suspected noncompliance to parties outside the entity.

Document identified or suspected noncompliance, including the results of any discussions about such items.

257

CLARITY PROJECT – CONTROL MATTERS

Added 2 new requirements for communicating internal control related matters• Now required to include in the written communication an

explanation of the potential effects of identified significant deficiencies and material weaknesses Condition (what is) Criteria (what should be) Cause Potential effects

• Communicate only to management, orally or in writing, deficiencies other than material weaknesses and significant deficiencies which merit management’s attention

258

CLARITY PROJECT - PRECONDITIONS

Determine that financial reporting framework is acceptable• No abuse of special purpose frameworks

Obtain management’s acknowledgement of its responsibility for• Preparing FS• Designing and implementing internal control• Providing the auditor access to information and capable

staff

259

CLARITY PROJECT – AUDIT EVIDENCE

More principles-based approach to attorney letters• Attorney letters required if RMM regarding

litigation/claims or if audit procedures indicate material litigation/claims

• Requires auditor to document basis for determination not to seek direct communication with the entity's legal counsel

260

CLARITY PROJECT - CONFIRMATIONS

Auditor required to obtain written confirmations• Oral responses to confirmation requests do not meet

clarified definition of an external confirmation• Guidance provided on how oral response may be

considered part of alternative procedures Definition of external confirmation includes audit

evidence obtained by electronic or other medium• Auditor must consider the risk that the electronic

confirmation process is not secure or is improperly controlled

261

CLARITY PROJECT – INITIAL AUDITS

Requires auditor to obtain sufficient appropriate audit evidence about whether• Opening balances contain misstatements which materially affect current

period FS

• Accounting policies reflected in opening balances have been consistently applied

• Any changes in accounting policies have been properly accounted for, presented, and disclosed

262

CLARITY PROJECT – INITIAL AUDITS

Necessary but not sufficient procedures• Talk with predecessor• Review workpapers and client documents not in

workpapers Additional procedures to achieve sufficiency

• Test material carryover opening balances• Evaluate predecessor’s risk assessment

documentationo “Where is the material misstatement?”

263

CLARITY PROJECT - MATERIALITY

“Performance Materiality”• Defined – Amount or amounts set by the auditor at less

than materiality for the FS as a whole to reduce to an appropriately low level the probability that the aggregate of uncorrected and undetected misstatements exceeds materiality for the FS as a whole.

• If applicable, performance materiality also refers to the amount or amounts set by the auditor at less than the materiality level or levels for particular classes of transactions, account balances, or disclosures.

• Performance materiality is to be distinguished from tolerable misstatement.

264

CLARITY PROJECT - MATERIALITY

“Performance Materiality”• The determination of performance materiality is not a

simple mechanical calculation and involves the exercise of professional judgment.

• It is affected by the auditor's understanding of the entity, updated during the performance of the risk assessment procedures, and the nature and extent of misstatements identified in previous audits and, thereby, the auditor's expectations regarding misstatements in the current period.

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CLARITY PROJECT – SPECIAL CONSIDERATIONS

Audits of Smaller, Less Complex Entities• “An Audit is An Audit” (but Scalable)• No differential audit standards for small entities, but

guidance provided on how to apply on smaller, less complex entitieso Not all smaller entities less complexo Not all less complex entities small

Audits of Governmental Entities Accounting standards neutrality

• Financial reporting framework not necessarily GAAP

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CLARITY PROJECT - REPORTINGIndependent Auditors’ Report is Changing!Headings for each paragraph / section of report

• Introductory Paragraph• Management’s Responsibility for Financial Statements• Auditors’ Responsibility• Auditors’ Opinion• Other Reporting Responsibilities (if applicable)

o Generally titled “Report on Other Legal & Regulatory Matters” Yellow Book

• Emphasis-of-Matter Paragraph (if applicable)• Other-Matter Paragraph (if applicable)

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CLARITY PROJECT - REPORTING

Management’s Responsibility for FS• Use standard language to describe management's

responsibilities foro Preparation of FSo Design, implementation, and maintenance of relevant

internal controls

• Prohibits elaboration on management’s responsibilities and/or reference to any other document that does so

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CLARITY PROJECT - REPORTING Auditors’ Responsibility• Should state that audit was conducted in

accordance with GAAS and should identify United States as origin of standards

• Additional auditor responsibilities should be discussed in this section as wello Government Auditing Standards

o OMB Circular A-133

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Modified Opinions• If modified opinion is required, additional

paragraph should be inserted immediately before “Opinion” paragraph to provide a description of matter(s) giving rise to the modificationo “Basis for Qualified Opinion”o “Basis for Adverse Opinion”o “Basis for Disclaimer of Opinion,” as appropriate

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Other Reporting Responsibilities• Title as appropriate for circumstances

o Possibly “Other Auditor Reporting Requirements” in government entity audits

o Think of…all the things we did that weren’t part of our plain-vanilla audit but were required for this particular audit

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The term explanatory paragraph is no longer to be included in GAAS.

Instead, additional communications in the auditors’ report are labeled as either• Emphasis-of-matter, or

• Other-matter paragraphs

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CLARITY PROJECT - REPORTINGEmphasis-of-matter paragraph

Any paragraph added to the auditors’ report that relates to a matter that is appropriately presented or disclosed in the FS. Some of these paragraphs are required by certain standards, whereas others are added at the discretion of the auditor, consistent with current practice.All such paragraphs are to be considered emphasis-of-matter paragraphs because they are intended to draw the FS users' attention to a particular matter.

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Emphasis-of-Matter examples:• Going concern• Subsequent events• Litigation uncertainty• Significant related party transactions• Contractual or regulatory reporting

frameworks• Consistency (or lack thereof)• Major catastrophe

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Other-matter paragraph

Refers to a matter other than those presented or disclosed in the FS that, in the auditor's judgment, is relevant to the FS users' understanding of the audit, the auditor's responsibilities, or the auditor's report

Emphasis-of-matter or other-matter paragraph required to always follow the opinion paragraph and to be included in a separate section of the auditor's report

275


Other-Matter examples:• Supplementary Information• Required Supplementary Information• Audit reports of prior periods presented

o Change in opiniono Prior period not audited

• Thought…probably rarely used when not required

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?Questions?

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carbis walker llp & wphfma present accounting and auditing standards update january 25, 2013

Documents

private entity

private company council

private entities

private companies

fasb projects of note

fasb endorsement

nfp financial reporting

auditing standards update