Frequently Asked Questions About The Enterprise Fund

History and Purpose of Enterprise Funds
The enterprise funds statute, MGL Chapter 44, Section 53F(formerly Chapter 41, Section 39K), was enacted in 1986. Before that time, communities used special revenue funds authorizes under various general laws or special acts in order to separately account for their business type services. These special revenue funds were limited, however, with regard to the services and costs covered. The funds are most commonly authorized for water, gas and electric utility departments and used primarily to account for annual operating costs, The purpose of the enterprise fund statute was to give communities the flexibility to account separately for all financial activities associated with the broader range of municipal services.

What is an Enterprise Fund?
An enterprise fund establishes a separate accounting and financial reporting mechanism for municipal services for which a fee is charged in exchange for goods or services. Under enterprise accounting, the revenues in expenditures of services are separated into separate funds with its own financial statements, rather than commingled with the revenues and expenses of all other government activities.

Enterprise funds may be established, "for a utility, health care, recreational transportation facility." Examples of which include the following.

Public utilities - water, sewer, trash disposal
Health-care - ambulance service, nursing homes
Recreation - skating rinks, pools, golf courses
Transportation - airports, dock and wharf facilities

The community may not establish enterprise funds for normal government operations or services such as building rentals, inspectional services or cemeteries.

Establishing an enterprise fund does not create a separate or autonomous entity from the municipal government operation. The municipal department operating the enterprise service continues to fulfill financial and managerial reporting requirements like every other department.

Financial transactions are reported using standards similar to private sector accounting. Revenues are recognized when earned and expenses are recognized when incurred, under a full actual basis of accounting. An enterprise fund provides management and taxpayers with information to:

Measure performance
Analyzed the impact of financial decisions
Determine the cost of providing a service
Identify any subsidy from the general fund in providing a service

Enterprise accounting allows the community to demonstrate to the public the portions of total costs of a service that is recovered through user charges and, if any, the portion that is subsidized by tax levy or other available funds. A community may choose to recover total services costs through user charges, but is not required to. Enterprise funds frequently are used to account for services whose costs are partially funded by fees and charges. For example, a community with a sewer enterprise votes a Proposition 2 _ debt exclusion to pay for a $10 million sewer line expansion and replacement project. Because the community will be raising the debt service cost of this project from the tax levy, user charges in fees will not fund the total cost of the sewer service.

At year-end, the performance of an enterprise fund is measured in terms of positive and negative operations. An operating surplus is a result of revenues collected in excess of estimates and appropriation turn backs, and translates into retained earnings that are maintained in the fund rather than closing to the general fund. Retained earnings of an enterprise fund are certified as available funds after submission of the June 30th balance sheet to DLS. Once certified, retained earnings may be appropriate only for expenditures relating to the fund. Conversely, if during the year, the enterprise fund incurs an operating loss, the loss must be raised in the subsequent year's budget.

Adopting an Enterprise Fund
Generally, a Town may adopt an enterprise fund with approval by Town Meeting. Each enterprise fund must be adopted separately with its own vote. This allows municipal legislative bodies to identify and evaluate each enterprise on its own merit.

DOR recommends that the community accept Chapter 44, Section53F in advance of the budget process and clearly state what services will be provided and when the fund will commence. Unless otherwise designated, the enterprise fund will commence as of the next fiscal year after it has received Town Meeting approval. Once adopted, the community may begin the process of transferring the estimated revenues and operating budget of the services and identifying the assets (capital items in infrastructure) and liabilities in the general fund to be transferred to the enterprise fund.

The following is sample language to adopt an enterprise fund: "To see if the Harwich will accept the provisions of Chapter 44, Section 53F of the Massachusetts General Laws, establishing (the service) as an enterprise fund effective fiscal year (year)."

The Enterprise Budget
Once an enterprise fund is enacted, a budget is subject to the appropriation process. A request is prepared like any other departments request for review any eventual adoption. Any transfers among the enterprise fund's line-item appropriations also require action by town meeting. The enterprise budget includes both revenue and expenditure estimates.

Revenues
Similar to any operating department, revenue estimate are prepared. These may include user charges and fees, investment income, and any other enterprise revenues.

All enterprise revenues may only be used to support the expenditures of the enterprise fund. At no time may these funds be used to support ongoing municipal operations or subsidize the general fund.

Costs
All costs of operating the enterprise must be identified. This should include direct costs, indirect costs, employee benefits, legal and borrowing cost, and capital expenditures. These costs may also include an appropriation for emergency reserve and a budget surplus.

Direct costs are those associative directly with the enterprise fund. Generally these include salaries and wages of the enterprise employees, other operating expenses and contractual payments. These expenditures will be appropriated in and incurred directly by the enterprise fund.

Indirect costs are those costs that cannot be directly or exclusively assigned to one service. Enterprises often benefit from expenditures made by the general fund. For example, the collector, whose salaries paid by the general fund, make process enterprise user billed payments. DOR recommends that these indirect costs be identified and allocated to the enterprise fund using clearly established formulas to prorate the expense among departments.

Because indirect costs are appropriated in the general fund, and operating transfer is made by the auditor/accountants to reimburse the general fund from the enterprise fund. Ideally, these operating transfers are made monthly to ensure that the enterprises transferring revenues to provide for the general fund expenditures as they are made. All operating transfers from the enterprise fund are credited to the general fund's cash account; at no time is an operating transfer made to replenish an operating department appropriation.

Employee benefits include health and life insurance, FICA and medical expenses, workers compensation, unemployment insurance, and pension and retirement costs. These expenditures are generally budgeted in the general fund (or insurance trust funds) for all employees, including those of the enterprise fund. Therefore, the enterprise portion of these expenses, like the indirect costs, must be allocated to the enterprise fund.

Legal and borrowing costs may be appropriated or budgeted for directly in the enterprise on area. These include debt service costs (principal, interest and temporary borrowing costs), bond counsel expenditures relating to an enterprise debt issuance and/or financial service costs relating to a bond and the bonded prospectus. Alternatively, these expenditures are currently provided for in the treasurer's or debt service budgets and must be allocated to the enterprise fund appropriately.

Capital expenditures or improvements are items generally found in a capital budget such as construction or major repairs, equipment or acquisitions. While these items may be reviewed and recommended generally by the capital planning committee, it is advisable that the capital expenditures for the enterprise are voted separately from the general fund's capital expenditures.

Emergency reserve, like the general fund reserve fund (MGL 40, Section 5A or Section 6), the is an appropriation available to meet unanticipated spending needs that may arise during the course of the year and require immediate action. Following the same guidelines set forth in the general fund, the reserve may be transferred by the city council/finance committee action rather than having to wait for the next scheduled legislative meeting. There should be no direct charge for the emergency reserve rather the auditor/accountant should transfer the amounts to the line item as stated in the approved transfer. At the close of the fiscal year, any remaining balance in this emergency reserve would close to the enterprise fund balance.

Budgeted surplus is an appropriation within the enterprise budget established as an available revenue source during the budget year. Generally, a budgeted surplus is established when the prior year's enterprise operation resulted in little or no retained earnings. Without sufficient surplus available for appropriation, the community may have to use its general fund revenues to fund/subsidize the enterprise if additional enterprise expenses are incurred that exceed its available resources. Alternatively, the community may increase its user fees and charges and appropriate the new estimated revenues to a budget surplus available for use it if need arises.

The budget surplus may be used to fund additional spending after the community's tax rate is set and is subject to the appropriation process by the municipal legislative body. It should be further noted that because there is no legal authorization for the continuing balance or the establishment of a stabilization fund in an enterprise fund, any remaining balance in this budgeted surplus would close to the fund balance of the enterprise fund at the close of fiscal year.

Another cost of the enterprise not included in the operating budget is depreciation of the fixed assets and infrastructure. While it is not a budgetary item, depreciation should be considered by the community when preparing a cost analysis to determine charges and fees. Depreciation is calculated in order to recognize the annual expense associated with the use of an asset is a given reporting period. In general, depreciation is calculated by dividing the purchase price of the asset by its useful life. If the asset has outstanding debt and a debt services is already budgeted, depreciation is not included in the costing analysis because it would result in a double counting of expenses.

What are the Advantages of Enterprise Fund Accounting?
A community may account for a certain services in the general fund, special revenue fund or an enterprise fund. The advantages of using an enterprise fund rather than the other two methods are as follows.

Demonstrate total cost of service - With all the direct, indirect (e.g., interdepartmental support, health and insurance costs) and capital cost of providing the service in a consolidated fund, the community will be able to readily identify the true cost of providing a service, in this case, for water supply, storage and distribution.
Provide useful management information - With the consolidation of revenues and the cost of services and information on the operating performance (positive or negative) of the fund, the community will have useful information to make decisions on user charges and other budgetary items. The community will be able to analyze how much the user fees and charges support the services and to what extent if any tax levy or other available revenues are needed to subsidize the enterprise fund. The community will also be able to include the fixed assets and infrastructure of the enterprise as assets in the financial statement and recognized the annual depreciation of these assets.
Retain investment income and surplus - Unlike services operating in the general fund or a special revenue fund, all investment earnings and any other operating surplus is retained in the enterprise fund rather than returned to the general fund at year-end. Once a surplus is certified as available (similar to free cash), it may be used to fund operating, capital or debt service costs associated with the enterprise.
Provide better ability to implement capital improvements - The enterprise fund will allow the Department providing the service to better plan for and implement capital improvements, because these needs can be forecasted and integrated into the long-term financial management of the Department.

The Water Department has established a priority of improving and maintaining the quality of the system and the water delivered to its customers, which will require that the capital improvements plan by pursued and consistently implemented every year. These improvements are outlined in the Water System Master Plan prepared in 2003, and include replacement of undersized and aged water mains and distribution piping throughout Town to improve water quality and fire flow, expanded storage and replacement of old storage reservoirs, and development of new water supplies to enhance the reliability, redundancy and flexibility of the Town's existing water supplies.

The Water Department has not been able to make capital improvements consistently over the last twenty years or more, and as a result the Water Department has had to make an increasingly greater number of Emergency Funding requests to the Town (nine in the last two years).

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