Every year, for the past fourteen years, Truth in Accounting has released its Financial State of the States report which examines the financial status of the fifty states. This year our report was released on October 11, 2023. One of the data sets we reviewed is the auditors’ reports. Did the state receive an unmodified report for  their Annual Comprehensive Financial Report? Last year I wrote an article for Accounting Today explaining which states did not meet auditing standards for 2021. This is a follow-up to that article.

To review why audit reports are significant and to understand the various types of reports that can be issued, let's begin with an explanation. An audit report represents an independent evaluation of an entity's financial records conducted by a CPA (Certified Public Accountant) firm. If the auditor's assessment concludes that the financial information is fairly presented by management, an unmodified opinion is given.

An unmodified government audit report typically contains a statement like this: "In our opinion, based on our audit and the reports of the other auditors, the financial statements referred to above present fairly, in all material respects, the respective financial position of the governmental activities, the business-type activities, the aggregate discretely presented component units, each major fund, and the aggregate remaining fund information, as well as the budgetary comparison schedule." This is a desired, albeit expected, outcome when auditors believe they have gathered "sufficient, appropriate" evidence to confidently vouch for the accuracy of the financial information, without the need for any modifications, hence an unmodified opinion.

If the auditor cannot obtain "sufficient appropriate" information, they may either qualify the opinion or, in severe cases of information being in violation of GAAP (Generally Accepted Accounting Principles) rules, issue an adverse opinion. If sufficient information is not available, they may offer a disclaimer of an opinion rather than attest to less-than complete information.

Whether a qualified, disclaimer, or adverse opinion is given depends on the nature and scale of the problem. This is not a desired outcome for any audited report.

Audit Findings

The information presented below comes from the states’ individual 2022 Annual Comprehensive Financial Reports.  The good news is that more states received unmodified opinions in 2022 than did in my 2021 review. However, we have a few states that remain on the audit Hall of Shame for 2022.

Missouri – Income Taxes not Verified

Auditors were unable to obtain access to tax returns and associated source documents related to income taxes; the request was denied by the Department of Revenue. This denial was based on their interpretation of a decision made by the Missouri Supreme Court in the case of Director of Revenue v. State Auditor 511 S.W.2d 779 (Mo. 1974). It's important to note that approximately 29 percent of governmental activities revenues and 32 percent of General Fund revenues originate from this income tax source. Consequently, the auditors couldn't verify the accuracy of the recorded income tax revenue through standard audit procedures.

Georgia – The Unemployment Compensation Fund

Georgia’s Department of Labor encountered significant challenges in providing the necessary audit evidence for evaluating the financial status of both receivables and payables within the unemployment compensation fund. This situation arose due to several factors:

1.  Lack of Internal Controls: Firstly, there was a deficiency in the internal controls governing benefit payments. This deficiency meant that the auditors couldn't rely on these controls to ensure the accuracy and appropriateness of payments.

2.  Eligibility Verification: Secondly, there was an inability to collect sufficient, appropriate audit evidence to determine whether certain previously disbursed claims complied with the eligibility requirements. In other words, it was unclear if the payments made were to individuals who were eligible to receive them.

3.  Ongoing Reconciliation: Furthermore, at the time of the audit report, management was still in the process of reconciling the balances related to receivables and payables, particularly due to overpayments of certain unemployment insurance claims. This ongoing reconciliation meant that the financial figures were not finalized.

4.  Inadequate Records: The State's records didn't allow for the application of additional auditing procedures to obtain the required audit evidence. This limitation made it impractical to ascertain that the balances of receivables and payables, as well as the associated revenues, expenses, and cash flows in both business-type activities and the unemployment compensation fund, were free from material errors or misstatements.

Given these challenges, it was impossible for the auditors to determine whether any further adjustments were necessary in relation to the recorded or unrecorded receivables, payables, and the components that make up the statements of activities and cash flows. In essence, the audit couldn't provide a conclusive assessment of the accuracy and integrity of the financial information due to the limitations and uncertainties encountered during the process.

Alaska – Qualified and Disclaimer Opinions

The Governmental Fund – General Fund and Governmental Activities for the State raised auditor concerns and their opinion was qualified.

1. A significant material misstatement of $1.4 billion was reported in the Constitutional Budget Reserve Fund, also known as the state's rainy-day fund. This misstatement is due to a directive from the Attorney General advising that certain taxes and royalties should not be deposited into the fund, contrary to historical practice. Additionally, tax credits offset against owed taxes further skewed the fund's balance. The Attorney General argued for reclassifying prior-year funds as General Fund assets, reducing future repayments.

2. Misreporting of prior period adjustments highlights a misreporting problem for the State of Alaska. In particular, there were deviations from generally accepted accounting principles, and a prior period adjustment of $199 million made to correct overstated General Fund royalty revenues in FY 2018 and FY 2019. These royalties were initially categorized incorrectly. In FY 2022, an appropriation was made to restore the Alaska Permanent Fund with the $199 million in revenues owed, but management disputes that this was a correction of a prior-year error. Auditors issued a qualified opinion. 

Alaska International Airport’s statements led auditors to issue a disclaimer of opinion.

1. During the fiscal year 2022, Alaska International Airports experienced significant turnover in key staff positions. As of the date of the audit report, this turnover had implications for the ability of the management to provide audited financial statements for the Alaska International Airports Fund. Consequently, this led to the inability to ascertain whether the financial figures of the Fund accurately represented the statement of financial position, changes in financial position, and cash flows.

2. Auditors found it essential to note that Alaska International Airports Fund's financial activity is integrated into the State of Alaska's basic financial statements as a major enterprise fund and as a Business-Type Activity. Their integration states that the Alaska International Airports Fund constitutes 100% of the assets, net position, and revenues within the State of Alaska's major enterprise fund. This is significant to the report and a lack of information in this Fund led the auditors to issue a disclaimer of opinion in this matter.

Illinois – Unemployment Trust Fund Concerns

The auditor's report discussed their findings regarding the State of Illinois' financial statements, specifically focusing on the Unemployment Compensation Trust Fund and business-type activities.

1.  Unemployment Compensation Trust Fund: The report states that the Department of Employment Security (IDES) in Illinois did not maintain proper accounting records and supporting documents for transactions related to the Unemployment Compensation Trust Fund. Additionally, the internal controls were deemed inadequate to safeguard the Fund's assets and ensure proper transaction recording. As a result, the auditors were unable to determine the impact of these issues on the Fund's financial statements, leading to a disclaimer of opinion.

2.  Business-Type Activities: The report notes that the issues identified in the Unemployment Compensation Trust Fund also impacted the business-type activities of the state, which include major enterprise funds like the Unemployment Compensation Trust Fund, Water Revolving Fund, and Prepaid Tuition Fund. Due to these issues, the auditors couldn't gather enough evidence to conclusively state that the financial statements of these business-type activities were free from material misstatements, resulting in a qualified opinion.

Nebraska – Unemployment Insurance

The State of Nebraska was issued a Disclaimer of Opinion on their Business-Type Activities and the Enterprise Fund.

Nebraska encountered significant challenges in substantiating the adequacy of controls necessary to ensure the accuracy of the financial statements. Specifically, the Nebraska Department of Labor faced difficulties in furnishing both timely and precise records for the Enterprise Fund - Unemployment Insurance, along with supporting documentation for the associated balances. Notably, funds for this Enterprise Fund are maintained in separate bank accounts outside the purview of the Nebraska State Treasurer. Furthermore, the process of recording activity in the state's accounting system, EnterpriseOne, involved several inaccuracies.

The audit revealed numerous errors within the financial statements, necessitating multiple proposed adjustments that cumulatively exceeded $80,000,000. It is noteworthy that the Department concurred with the auditor’s adjustments. However, due to the Department's inability to provide accurate and comprehensive accounting records, the auditors could not ascertain whether any additional adjustments might have been necessary.

Conclusion

Truth in Accounting was not able to determine the auditors’ opinions for 2022 for Arizona, Nevada and California as those states are extremely tardy in issuing their 2022 ACFRs. Accountability is a cornerstone of government reporting. It is clear some states still have more work to do.