Chapter 13 Solutions: Fund Accounting and Retention Account

Answers to the Chapter 13 exercises. Each answer is as long as its marks call for: a sentence or two for 1 mark, and five marks’ worth of explained points, tables or working for 5 marks.

Group A: Very Short Answer Questions (1 Mark Each)

1. What is a Fund?

A Fund is a distinct pool of financial resources (cash and bank balances) set aside under constitutional or legal provisions for a specific governmental, developmental, emergency or welfare purpose, together with all the revenues received into it and the expenditures made from it.

2. What is Consolidated Fund?

The Consolidated Fund is the single government treasury account into which all revenues received by the Government of Nepal, all loans raised on the security of revenues and all repayments of loans granted by the government are credited, under Article 116 of the Constitution of Nepal. No money can be withdrawn from it except through an Appropriation Act (Budget Act) passed by Parliament.

3. In what ratio are VAT and Internal Excise Duty distributed from the Federal Divisible Fund among Federal, Provincial, and Local governments?

VAT and Internal Excise Duty are distributed monthly as 70% to the Federal Government, 15% to the Provincial Governments and 15% to the Local Governments, each share being credited to the respective Consolidated Fund.

4. What is Retention Money?

Retention Money is a refundable security deposit kept by a contractor, supplier, bidder or individual with a government office or court as a financial guarantee for fulfilling a contract or legal obligation. It is refunded when the obligation is fulfilled, or forfeited into government revenue if the depositor breaches the contract.

Group B: Short Answer Questions (5 Marks Each)

1. What is a Government Fund? Explain the three main types of government funds in Nepal (Consolidated, Divisible, and Contingent Fund).

Meaning: A Government Fund is a separate pool of public money (cash and bank balances) established under the Constitution or an Act for a specific governmental, developmental, emergency or welfare purpose, together with all the revenue received into it and the expenditure made from it. Each fund is kept as an independent, self-balancing account (fund accounting), so that public money is spent only for its legally authorized purpose and not for earning profit. Under Part 10 (Federal Financial Procedures), Part 16 (Provincial Financial Procedures) and Part 19 (Local Financial Procedures) of the Constitution of Nepal and the Inter-Governmental Fiscal Arrangement Act, 2074, government funds in Nepal are of three main types:

1. Consolidated Fund: All revenues received by the government, all loans raised on the security of revenues and all repayments of loans granted under an Act are credited into one treasury account called the Consolidated Fund. Only revenues credited to religious Guthi funds or other specific separate funds are kept out of it. Federal Nepal has three levels of Consolidated Fund: the Federal Consolidated Fund (Article 116), a Provincial Consolidated Fund in each of the 7 Provinces (Article 204) and a Local Consolidated Fund in each of the 753 Local Levels (Article 229), managed through SuTRA. No money can be withdrawn from it except through an Appropriation Act passed by the respective Parliament or Assembly, or for charges that the Constitution places on the fund.

2. Divisible Fund: This fund is set up under the Inter-Governmental Fiscal Arrangement Act, 2074 to collect shared taxes and natural resource royalties that do not belong to only one tier of government, and to distribute them among the three tiers by a fixed formula. VAT and Internal Excise Duty go into the Federal Divisible Fund at Nepal Rastra Bank and are shared monthly as 70% Federal, 15% Provincial and 15% Local. Royalties from mountaineering, electricity, forests, mines and water are shared as 50% Federal, 25% to the concerned Province and 25% to the concerned Local Level(s), and a Provincial Divisible Fund shares Vehicle Tax and House/Land Registration Fees between the Province and its Local Levels.

3. Contingent / Emergency Fund: Under Article 124 of the Constitution, a permanent Contingent Fund is established by Federal or Provincial Act, and a fixed sum is deposited into it from time to time. It is used to meet unforeseen natural disasters, epidemics, earthquakes, floods or sudden national emergencies, when there is no time to obtain parliamentary approval first. Any expenditure made from the Contingent Fund must later be reimbursed from the Consolidated Fund.

In short, the Consolidated Fund holds and spends public money under the approved budget, the Divisible Fund shares revenue among the Federal, Provincial and Local Governments, and the Contingent Fund keeps money ready for emergencies.

2. What is a Divisible Fund? Write any four uses/importances of the Divisible Fund in Nepal’s federal system.

Meaning: A Divisible Fund is a special fund established under the Inter-Governmental Fiscal Arrangement Act, 2074 to collect shared taxes and natural resource royalties that do not belong exclusively to a single tier of government, and to distribute them transparently among the Federal, Provincial and Local Governments according to constitutional and legal sharing formulas. For example, VAT and Internal Excise Duty deposited in the Federal Divisible Fund at Nepal Rastra Bank are shared monthly as 70% Federal, 15% Provincial and 15% Local, while natural resource royalties are shared as 50% Federal, 25% to the concerned Province and 25% to the concerned Local Level(s).

Uses/importance of the Divisible Fund:

1. Fiscal federalism and fair sharing of revenue: The Divisible Fund puts federalism into practice in money matters. Revenue from VAT, excise duty and royalties is not kept by one tier of government alone but is shared among all three tiers by a fixed legal formula. In this way, every tier gets a fair share of the national revenue.
2. Regular resources for Provincial and Local Governments: Because the fund is distributed every month, the 7 Provinces and 753 Local Levels receive a regular and predictable flow of money. They can plan and pay for development works and for public services such as local roads, drinking water, schools and health services without waiting for one-time grants.
3. Prevention of double taxation and fiscal disputes: Since the law fixes in advance which tax or royalty is shared and in what ratio, the same tax is not levied again by each level of government. It also leaves little room for disputes between the Federal, Provincial and Local Governments over who should receive the revenue.
4. Sharing the benefit of natural resources: Under the royalty formula, 25% of the royalty goes to the concerned Province and 25% to the concerned Local Level(s) where the mountains, rivers, forests or mines lie. The people of those areas therefore share directly in the income from their resources, and their governments have a reason to protect and develop those resources.

3. Define Retention Accounting. Mention any three conditions in which retention deposit should be kept, and list the forms used in Retention Accounting.

Meaning: Retention Accounting is the part of government accounting in which an office records the receipt, refund and forfeiture of retention money, using the 600-series AGF forms. Retention money is a refundable deposit kept by a contractor, supplier, bidder or individual as a financial guarantee. When received, it is neither government revenue nor budget expenditure but a trust liability, so it is kept in a separate retention bank account and recorded separately from revenue and expenditure.

Three conditions in which retention deposit should be kept:

1. Bid Security / Earnest Money: When contractors or suppliers submit sealed tenders or quotations, they deposit usually 2% to 3% of the estimated cost, so that they do not withdraw their bid arbitrarily.
2. Performance Security / Retention Money: Usually 5% is deducted from each running bill, or deposited when the contract is signed, to guarantee that the construction or supply work is completed on time and meets quality standards during the defect-liability period.
3. Judicial Bail / Court Deposit: Courts and quasi-judicial bodies keep a deposit during legal proceedings or appeals to make sure the party appears and meets its legal obligations.

Retention is also kept as a lease, auction or advance guarantee deposit when government buildings or land are leased out or public auctions are held.

Forms used in Retention Accounting (600 Series):

1. Cash Receipt (AGF No. 101) / Bank Deposit Voucher: Used when the retention deposit is received.
2. Retention Journal Voucher (AGF No. 601): The book of original entry for recording the receipt, refund and forfeiture of retention money.
3. Individual Retention Ledger (AGF No. 602): A separate account for each depositor or contractor, showing how much was deposited, how much was refunded and how much remains.
4. Retention Bank Cash Book (AGF No. 603): Records all retention bank receipts, refunds, transfers to revenue and the remaining bank balance.
5. Monthly Statement of Retention (AGF No. 604): The monthly summary report submitted to the DTCO within 7 days after the end of the month.