Chapter Three: Budgetary Accounting & Reporting

3.1. Overview of budget

A budget is a plan expressed in monetary terms, covering a specific period of time, usually one
year. It is a dollar and cents plan of operation for a specified period of time. At a minimum, such
a plan should contain information about the types and amounts of proposed expenditures, the
purposes for which they are to be made, and the proposed means of financing them. The budget
reflects what the government intends to do. The budget has become the powerful instrument for
fulfilling the basic objectives of the government.
3.1.1. Definition and usefulness of budgeting
Budgeting is the process of allocating scarce resources to unlimited demands.
The GASB recognizes the importance of the budget process in principle 9 as:
1. An annual budget should be adopted by every governmental unit.
2. The accounting system should provide the basis for appropriate budgetary control
3. Budgetary comparisons should be included in the appropriate financial statements and
schedules for governmental funds for which an annual budget has been adopted.

We might summarize the process of budgeting into three basic questions.

 Why will we spend it?
 How much can we spend?
 Where will we get the money from?
 Budget comprises two major components. These are:
1. Estimated revenues – these are revenues to be collected from indirect tax, direct tax,
foreign trade, non tax revenues and borrowed funds.
2. Estimated expenditure – these are expenditures to be paid for some benefits.

3.1.1..1. Governmental budgeting vs. FP budgeting

Budgeting has a greater role in governmental accounting than in FP accounting. First, consider
budgeting in a profit-seeking enterprise. Budgeting in profit-making enterprise is usually fairly
flexible, and can be changed as conditions changed during the year. In an FP, money is spent for
the purpose of making more money. As long as the FP is profitable, the specific purpose of the
spending doesn’t matter so much, as long as it is helping to contribute to the bottom line.

Page 1 of 9
Similarly, if it is felt that a particular usage of money is not generating additional profits, then
money can cease to be spent on that item. For example, “Orange Crush” soft drink advertises on
television. No doubt its maker has budgeted for this expense. However, if it feels that this
advertising is not helping to increase its sales, it can drop the item from its budget and cancel the
adverting in order to use the money for something more effective in increasing its sales, like
producing a higher quality product. The profit motive provides the guide to employ resources in
the “right” way.

On the other hand, governments have no profit motive to guide the resources represented by their
budgets into the right usage. Therefore, they rely on legal requirements to insure that money is
used for the appropriate purpose. Governmental budgets, once fixed by law for the year, are
generally unchangeable without much effort. Altering or exceeding the budget typically carries
severe penalties for the administrator who dose so.

Given the unchanging nature of government budgets, and the penalties for non-compliance, it
logically follows that the accounting system should support the budget. The accounting system,
at the very least, should give the necessary information for keeping within the budgetary
restrictions.
3.1.1.2. Uses / functions of Budgets
The primary usefulness of FP budgets is planning, i.e. “What resources do we have, and how can
we plan to spend them in order to maximize profit?” In governments also, the budget is also used
for planning, especially in clarifying priority goals. However, government administrators often
overlook the planning aspects of a budget and use the government budget primarily as a control
device. The government will have certain objectives, and it assigns resources – money,
personnel, etc. – for the accomplishment of those objectives. The budget is a way of controlling
the assigned resources; ensuring that they are used for the intended purpose. In addition to the
primary use of control and the secondary use of planning, the budge provides information to
decision-makers and indicates to the public what decisions have been made about the objectives
of the government.

Page 2 of 9
 3.1.2. Classifications of budgets
There are five classifications of budgets. These are:
1. Capital vs. Current budget – capital budgets, obviously, deals with the acquisition of
fixed assets. The legislature will likely approve the acquisitions one year at a time. But
planning for the acquisitions several years in advance (called the Capital Program) is very
helpful to wise management of resources. Current budgets, of course, are concerned with
the current year’s operating expenditures, sometimes called recurring expenditures,
because similar sorts of expenditures are needed year after year.
2. Tentative vs. enacted budget – As the name implies, the tentative budget is still in
process. It has not yet been officially approved. An enacted budget has been officially
approved and is a binding legal document.
3. General vs. Special budget – The names of this classification are not quite as they
sound. A budget prepared for the General, Special Revenue, and Debit Service Funds
referred to as general budget. A budget prepared for any other fund referred to as special
budget.
4. Fixed vs. Flexible - A fixed budget is for a fixed total dollar (or Birr) amount and cannot
be exceeded because of changes in demand for governmental goods or services.
Governmental fund budgets are almost invariably fixed expenditure budgets. A flexible
budget, on the other hand, fixes the cost per unit of goods and services. If more units of
goods and services are desired because of a change in circumstance or need, the dollar
amount of a flexible budget can increase. Flexible budgets are more appropriate for
enterprise and internal service funds.
5. Executive vs. legislative budget – Budgets are sometimes categorized by preparer.
Budgets prepared by executive and legislative is called executive and legislative budget
respectively. On the other hand a budget prepared by a joint legislative-executive
committee is referred to as joint budget.
3.1.3. Approaches to budgeting
Uses of budgets are many and varied. Depending on their intended usage, budgets can be
prepared under one of the following approaches.

Page 3 of 9
 3.1.3.1. Incremental or object of expenditure approach
The object of expenditure or incremental approach is also known as the traditional approach.
Incremental budgets take the previous year’s budget as a base and add or subtract a percentage to
give this year’s budget. The assumption is that the historical budget allocation reflected
organizational priorities and was rooted in some meaningful justification developed in the past.
This means that the budget for each period is based on the budget for the previous period,
adjusting the previous period’s budget to take account of any expected changes. The changes
may be the annual rate of inflation, or specific adjustments that relate to expected salary increase.

This approach is unlikely to result in the optimum allocation of resources. It tends to perpetuate
inefficient and unnecessary practices, and may result in budget slack, which is unnecessary
expenditure built into the budget.

Incremental budget is simple to apply and leads to continuation of existing programs at

increasing or decreasing level of funds. This approach is low cost but does not provide
information about performance. It does not consider also the effectiveness of programs or the
efficiency which the funds were spent in accomplishing government goals.

3.1.3.2. Zero-Base-Budgeting (ZBB) approach

Zero-based budgeting (ZBB) was developed as an alternative to the incremental approach. ZBB
is one method of continually evaluating programs and services. The primary idea of ZBB is that
each program must justify its existence every year. No program is assumed to be continuing from
one year to the next. In this approach, the starting point for the budget each year is zero. First the
program itself must be justified, then different ways of carrying out the program are examined
and the best is chosen.
3.1.3.3. Performance budgeting approach
Performance budgeting is a plan for relating resource inputs to the efficient production of
outputs. The performance budget is mainly concerned with only one year at a time. Basically, the
process of making the budget may be summarized as follows:
1. The governmental entity decides what type of services to offer.
2. The cost of one unit of the service is calculated.
3. The entity decides how many units of the service to offer.

Page 4 of 9
 4. The budget is determined by multiplying units of service by the cost per unit.
For example, a prison holds 1,000 inmates. The cost of keeping a prisoner is estimated at $5,000
per year. The budget for the prison for 1999 then would be $5,000,000 for a year. However, if
the prison actually incarcerated 800 prisoners in 1999, then the budget would be reduced to
$4,000,000, and the head of the prison would be expected to return the extra $1,000,000.

3.1.3.4. Planning-Programming-budgeting (PPB)

PPB emphasizes broad policy goals, strategies and objectives, rather than details of spending. In
looking at these broad goals and objectives, it considers long-range plans. In that long-range
plan both ultimate goals and objectives must be explicitly stated. After formulating the long-
range plans, it then evaluates costs and benefits of different ways of meeting the goals and
objectives. It also emphasized the government’s overall program, rather than a specific
department. For instance, both the Ministry of Health and the Ministry of Education might have
some sort of AIDS program – one for treatment and one for education. If the idea of PPB were
adopted, both of these programs would be looked at together to see they complemented each
other in meeting the government’s overall objectives.

3.1.4 Appropriations
3.1.4.1 Definition of Appropriations
The terms, appropriation and expenditure, both have to do with resources which are used by a
governmental entity. The relationship between the two is that an appropriation is the
authorization to make expenditure. In reality, an appropriation is actually both an authorization
spend and at the same time, a limitation on spending. The appropriations budget there for refers
to an administration’s request for authorization to incur liabilities for gods, services, and
facilities for specific purposes related to each year’s revenues. Preparation of the
appropriations budget is sometimes referred to as expenditure planning. When preparing the
appropriations budget, the following information should be included for each appropriation:
“Importations must indicate the fund from which the expenditure may be made and specify the
purposes, the maximum amount and, the period of time for which the expenditure authority is
granted

Page 5 of 9
 3.1.4.2 Steps in expenditure Planning
1. Communication of budget Instructions from the chief executive to the department heads. If
there is budget officer, these instructions will probably communicated by him/her these
instructions typically include a statement of broad goals, polices and expectations from the
executive and other appropriate comments, e.g. how decisions should be made. As a
practical matter, they should also include the budget calendar, list any supporting
documents needed, and explain the procedures for filling out any necessary forms.
2. Identification and organization of the different units in the departments. This involves
determining which department will be responsible for providing estimates for each of the
government functions.
3. Call for Departmental Estimates- Typically, the department head collects estimates of
expenditures needed to carry out required services from the sub-units of the department.
The head then revises those estimates, if necessary, and combines them into a department
budget.
4. Estimates of Other Charges- “Other charges” are those expenditures not tied to a specific
department. Interest on general long-term debit is an example of this. The estimates of
other charges are usually done by the budget officer or the finance head not by department
heads
5. Revision of Departmental Estimates- This is done by the chief executive, who knows both
the overall priorities of the governmental unit, and the total estimated revenues. This step is
especially important if the budget expenditure requests have exceeded the revenues
estimated at the beginning.
6. Preparing the budget Document- This document will customarily include a message from
the chief executive felling the broad goals of the entity, and how the budget will contribute
to achieving those goals. It may also give the current financial status of the entity and
highlight significant changes from previous year’s budgets. It should also include
summaries of the estimates of the various departments, and explanatory information as
appropriate. It may also have cash flew estimates for the coming year. This document will
be submitted to the legislative body for its approval.

Page 6 of 9
 7. Approval by the Legislature- After the legislative body approves (revising if necessary) the
budget document, the expenditure estimates become appropriations amounts which the
department heads are authorized to spend.
8. Administration by the department heads-The appropriations budget then goes to the
department heads to be administered. This involves controlling and accounting for the
various expenditures of the entity.
3.1.5. Budgeting system in Ethiopia
3.1.5.1. Budget structures in Ethiopia
The government budget represents a plan/forecast of its expenditures and revenues for a
specified period. Commonly government budget is prepared for a year, known as a financial year
or fiscal year. In Ethiopia the fiscal year is from July 7 of this year to July 6 of the coming year
(Hamle 1 to sene 30 in Ethiopian calendar).

Budgeting involves different tasks on the expenditures and revenues of government finance. On
the side of expenditure, it deals with the determination of the total deals with the determination
of the total size of the budget (i.e. total amount of money for the year), size of outlays on
different functions, and the magnitude of outlays on various activities, on the revenue side, it
involves the determination of the size of the overall revenue and foreign aid.

Budget structures are the formats that organize budget data. The budget structures indicate the
full responsibility of spending agency. Budget data could be classified in different ways and for
different purposes. The first classification of the budget is between revenue and expenditure.
A. Revenue budget
Revenue budget represents the annual forecast of revenues to be raised by government through
taxation and other mechanisms.
In Ethiopia, the revenue budget is usually structured into three major sources:
1. Ordinary revenue
2. External assistance and
3. Capital revenue
Hence, the fund expected from these three sources is proclaimed as the annual revenue budget
for the country.
1. Ordinary revenues include both tax and non tax revenues.

Page 7 of 9
 The tax revenue includes:
i. Direct tax (personal income tax, rental income tax , business income tax , agricultural
income tax , tax on dividend and chance winning);
ii. indirect taxes ( excise tax on locally manufactured goods, VAT); and
iii. Taxes on foreign trade (customs duty on imported goods and tax on coffee export).
Non-tax revenues include:
- charges and fees
- investment revenue;
- miscellaneous revenue; and so on.
2. The second major item in revenue budget is external assistance. These are grants from
donors for different structural adjustment programs; and technical assistance in cash and
material form.
3. The third items are capital revenue. This could be from domestic (sales of movable
properties and collection of loans), external loans from multilateral and bilateral creditors
mostly for capital projects.

B. Expenditure budget
Government expenditures for administration and developmental activities are handled through
the expenditures budget. These expenditures are categorized into recurrent and capital budget.
 The recurrent budget, which covers the current expenditures, is financed in principle by
taxation (more broadly by domestic revenue from tax and non tax sources).
 The capital budget, which covers the acquisition of newly produced assets in the
economy is financed through external borrowing and grants.
3.1.5.2. The budget process in Ethiopia
Budgeting from the initial stage of forecasting the annual revenues and expenditures to the final
stage of approval of the annual budget by the Council of Peoples Representatives passes through
a sequential and an iterative process. The annual period over which budgets are prepared is
called budget cycle.
The typical budget cycle (the period each year over which budgets are prepared) will follow the
following procedures or processes or steps:
 Preparation of the macro-economic and fiscal framework;

Page 8 of 9
  Revenue forecast and determination of expenditure budget ceiling:
 allocation of expenditure budget between Federal and Regional governments;
 allocation of Federal government expenditure budget between recurrent and capital budgets:
 budget call and ceiling:
 budget review by MoFED;
 Budget hearing and defense:
 Review and recommendation:
 Submission of the budget to the council of Ministers:
 Submission of the budget to the Council of Peoples‟ Representatives:
 Notification and publication of the budget; and
 Allotment.
NB: The budget process thus includes all these stages, which obviously are sequential (one after the
other) and iterative.

Page 9 of 9