Accounting System of the Urban Local Bodies— Issues and Challenges
“India ranks second in the population after China and contribute nearly 1/6 of the world’s population. Since majorly, India is occupied by rural areas, substantial initiatives are required to enhance the economic growth and improve the living standards of its citizens. Urbanisation and digitalisation hold the key to this process. The urbanisation trends in the country indicate that by 2025, more than half of the country’s population will be living in cities. Therefore, if urban agglomerations are to play an important role as engines of economic growth, it is imperative that the national and state governments catalyse a program of institutional, fiscal and financial reforms at the Urban Local Body (ULB) level. Read on…”
Administrative Structure of India
Indian Constitution follows a three-tier federal structure i.e. Union, State and Local Self-Government. The powers and responsibilities of all the tiers are well defined and they work in a cohesive manner for the urban infrastructural development of India. Local self-government lies at the third tier of administrative structure of India. Local self-government is responsible to assist in the financial and administrative work of the government and enhance the development of the locality both economically and socially. It serves as an important pillar of the government in the developmental of the country.
Figure 1: Administrative Structure of India (Hierarchical Flow)
- Municipal Corporation(s) (Mahanagar-Palika) – For large urban areas
- Municipality(s) / Municipal Council(s) (Nagar-Palika) – For smaller urban areas
- City Council(s) / Nagar Panchayat(s) – For transitional / semi-urban areas
- Subdivided into: Ward(s)
- District Level: Zilla Parishad
- Intermediate / Block Level: Block(s) (Tehsils / Panchayat Samitis)
- Village Level: Village(s) (Gram Panchayat)
Role of Urban Local Bodies
With the introduction of the 73rd Constitutional Amendment Act, 1992, local self-government expanded further in rural areas under the name of Panchayati Raj Institutions (PRIs), and they were entrusted with the powers and responsibilities for the economic development and social justice of the rural areas. Further, the 74th Constitutional Amendment Act, 1992, with Article 243Q, classified urban areas into a three-tier structure depending on the population of the area:
All the Urban Local bodies were conferred with such powers and responsibilities to enable them to function as effective institutions of self-government. In totality, eighteen areas of function were covered under the Twelfth Schedule of the Indian Constitution which primarily focussed on creating a democratic, effective, rational, and transparent local governance framework thereby promoting accountability and responsiveness. The overall objective of the Government of India was to strengthen the deliverability functions of the ULBs both economically and socially and ensure active participation of the local people in the governance of these bodies.
Figure 3: Roles Expected of Urban Local Bodies (ULBs)
The administrative freedom of the local bodies is affected by their finances which are further governed by their tactfulness in raising revenue and their independence in framing budgets. An improved quality of urban services and governance essentially mandates improved decision making by urban managers. It also assists in the efficient use of municipal resources and acts as a benchmark for comparison and evaluation of efficiency in civic services.
Traditionally, capital investments in civic infrastructure by cities in India are financed through inter-governmental transfers. This does not encourage performance; rather, this model of financing urban infrastructure is not sustainable given the fiscal constraints faced by governments at all levels. For ensuring rapid and planned urban growth, urban infrastructure would necessarily require an element of market financing. However, market-based financing demands urban governance to be done on the principle of creditworthiness and financial information as per capital market requirements.
Again, as one of the representatives of government entities, ULBs have the utmost responsibility to present to their stakeholders the necessary collated data in the form of government reports to many organisations and groups including various other units of the government, government officials, creditors, investors, and most importantly, the citizens of the respective country.
Accounting System and Accounting Reforms
Accounting is an integral part of good governance and this can be achieved by providing timely, accurate financial information to the public. Proper accounting information helps in finding out the solution for the following considerations which are fundamental to municipal financial management, i.e.:
- a. Valuation of municipal services: Accurate pricing and assessment of the unit cost of delivering civic amenities.
- b. Adequacy of revenues: Evaluating whether tax and non-tax revenues suffice to cover the cost of operating public services.
- c. Improvisation of services: Enhancing the quality and coverage of services without unnecessarily raising taxes and user charges.
- d. Efficient utilisation of assets: Maximising productivity and yield from municipally owned lands, properties, and infrastructure.
Thus, in order to instil good and better financial management in the ULBs, a robust accrual-based double entry accounting system should be followed. An accrual-based double entry system recognises the occurrence of the transaction irrespective of its receipt or payment, and factors like reliability, objectivity, relevance, completeness, timeliness, and comparability of the books of accounts and financial statements are fulfilled. It also enables the preparation of annual financial reports as per the prevailing accounting framework and principles, i.e., the National Municipal Accounts Manual (NMAM), to disseminate financial information to all different stakeholders. ICAI has also issued Accounting Standards for Local Bodies (ASLBs) to assist in the preparation of annual financial reports which are recommendatory in nature at present.
Initially, ULBs were following diverse accounting practices, especially the cash-based single entry accounting system which depicted only the information related to cash inflow and cash outflow. They lack financial transparency, integrity, and accountability as required by modern international financial reporting systems. In order to bring transparency and accountability into the financial reporting system, the Government of India has been striving hard to convert the cash-based single-entry accounting system into an accrual-based double entry accounting system of ULBs by initiating different Accounting Reforms.
The trends of the accounting reforms which were initiated by the joint collaboration of the World Bank and the Asian Development Bank (ADB) can be divided into three phases:
| Phases | Period | Accounting Reforms Initiated & Scope |
|---|---|---|
| First phase | 1981–1991 | Implemented in Mumbai and Chennai but was restricted to only water supply and sewerage system. However, Chennai tried to improve the accounting operations but was not able to get the required result. |
| Second phase | 1991–1995 | Under the banner of the Gujarat Urban Development Project, accounting reforms were introduced in selected municipal local bodies of Gujarat. |
| Third phase | 1998 – till present | Several accounting reforms together with computerisation were introduced in Tamil Nadu, Jaipur, Anand (Gujarat), Tumkur (Karnataka), Mirzapur (Uttar Pradesh), Andhra Pradesh, Haryana and so on. |
Evolution of the Accrual Accounting Framework: Supreme Court, C&AG, GASAB & NMAM
The third phase also witnessed one of the major and important accounting reforms, i.e., the introduction of the Accrual based Double Entry Accounting System. The actual era of the accounting reform started with the Supreme Court judgment in Union of India vs. Almitra H. Patel (2001), which directed the Government of India to improvise the financial reporting system by developing guidelines for accrual-based accounting, and ULBs were directed to take necessary steps for converting the prevailing cash-based single entry accounting system to an accrual-based double entry accounting system.
On the recommendation and direction of the Eleventh & Twelfth Finance Commissions, the Government of India through the Ministry of Housing and Urban Affairs (MOHUA, earlier known as the Ministry of Urban Development), in collaboration with the Comptroller and Auditor General of India (C&AG), appointed a Task Force in 2002 to implement a new system of accounting for ULBs that provides better and transparent financial reports to stakeholders.
The report of the Task Force suggested adoption of the accrual basis of accounting and recommended different models and formats for books of accounts and budgets along with the adoption of a Management Information System (MIS) and extensive computerisation in the accounting system of ULBs.
Government Accounting Standards Board (GASAB) & IGFRS
On the basis of the report submitted by the Task Force, the Government of India (GOI) along with C&AG constituted the Government Accounting Standards Board (GASAB) through a notification dated 12th August 2002. GASAB prepared a “RoadMap for Accrual Accounting” and developed a detailed operational framework for accrual basis of accounting for both Central and State Government(s) through various accounting standards termed as Indian Government Financial Reporting Standards (IGFRS).
National Municipal Accounts Manual (NMAM) – December 2004
Government of India, in joint collaboration with C&AG, initiated the formulation of the National Municipal Accounts Manual (NMAM) to be provided to State Governments for developing state-specific Budget and Accounts Manuals according to their specific statutory requirements. Accordingly, NMAM was prepared under the guidance of C&AG and GOI and made available to all States in December 2004.
The basic aim of NMAM is to improvise financial management and internal government operations for stimulating good governance. As per NMAM, municipal accounts have to be prepared on an accrual-based double entry accounting system resulting in the mandatory preparation of four annual financial statements:
- Income and Expenditure Statement
- Balance Sheet
- Receipt and Payment Account
- Cash-flow Statement
ULBs were mandated to prepare an opening balance sheet and adopt a standardized Chart of Accounts to facilitate financial statements in a well-structured, uniform, and reformed manner. NMAM was subsequently followed by the introduction of the National Municipal Accounts Training Manual (NMATM) and the National Municipal Asset Valuation Methodology Manual (NMAVM).
Major Accounting Reform Initiatives & Statutory Drivers
Apart from the introduction of NMAM, several landmark national programs, legislations, and institutional frameworks served as critical drivers of municipal accounting reforms:
1. Model Municipal Law, 2003
Facilitated by the Indo-USAID FIRE-D (Financial Institutions Reform and Expansion – Debt and Infrastructure) project to assist state governments in revising their municipal legal and administrative frameworks as per their local requirements. The model law focused primarily on:
- a. Improvement in municipal finances through the recommendations of Sustainable Furnishing councils;
- b. Mandatory framing of ULB debt limitation policy;
- c. Development of a state-wide municipal accounting manual;
- d. Formation of a committee for the preparation of accounts of municipalities and financial statements;
- e. Mandatory requirement for ULBs to prepare an inventory of all municipal assets;
- f. Encouragement for ULBs to implement their own development plans;
- g. Comprehensive framework for private sector participation in the construction, financing, and delivery of civic services.
Note: While these provisions would have had a profound positive impact on the Public Finance Management Act if fully adopted, the Model Municipal Law was not readily welcomed by councils and has not been adopted completely by several states.
2. The Right to Information Act (RTI), 2005
Introduced to ensure transparency in the governance and financial management of public bodies. It requires government bodies to provide operational information and disclose it publicly in order to maintain transparency and accountability. The RTI Act, though not directly related to municipal accounting reforms, gave much needed impetus to promote transparency and accountability in the working of public bodies.
3. Jawaharlal Nehru National Urban Renewal Mission (JNNURM), 2006
Launched to aid Urban Local Bodies and state governments in building proper infrastructural facilities and improvising capacity building and governance through central financial assistance. Significantly, JNNURM made the implementation of the accrual-based double entry accounting system a mandatory prerequisite condition for the sanction and disbursement of central reform-linked grants.
4. Atal Mission for Rejuvenation and Urban Transformation (AMRUT), 2015
JNNURM was replaced in 2015 by AMRUT. The basic objective of AMRUT is to channelise the activities of ULBs not only towards infrastructural facilities but also towards the achievement of accounting reforms and capacity building. Besides improvising deliverability of civic services, AMRUT strives to reduce service costs, augment municipal revenues, and enhance transparency through digitalisation. It mandates complete migration to accrual-based double entry accounting with regular statutory and internal audits, and requires the publication of annual financial statements on municipal and government websites.
5. Public Disclosure Law (PDL), 2008 & 14th Finance Commission Grants
The Public Disclosure Law (PDL), 2008 aimed at disclosing necessary financial and operational information on municipal services, creating a uniform and consistent structure of financial statements accessible to citizens, and setting an institutional precedent for transparency.
The Fourteenth Finance Commission under the supervision of MOHUA introduced the Performance Grant Scheme to ensure reliable audited accounts, transparent data on receipts and expenditures, and revenue maximisation to expedite the municipal accounting reform process.
Role of ICAI: CASLB, CP&GFM, ICAI ARF & Full Suite of ASLBs
In order to formulate a single set of uniform, consistent, and high-quality financial reporting standards for Local Bodies, ICAI issued a Technical Guide on Accounting and Financial Reporting by Urban Local Bodies. A specialized committee was constituted by the Council of ICAI in 2005, known as the Committee on Accounting Standards for Local Bodies (CASLB). Its primary responsibility was to develop and formulate Accounting Standards for Local Bodies (ASLBs) and assist local bodies in adopting accrual double entry accounting. ASLBs are harmonized to the extent possible with the International Public Sector Accounting Standards (IPSAS), after giving due consideration to local statutory conditions prevailing in India.
Subsequently, another committee, the Committee on Public Finance and Government Accounting (CPF&GA), was established to facilitate transitional implementation. During Council year 2019–20, ICAI merged both committees into a unified entity: the Committee on Public and Government Financial Management (CP&GFM). CP&GFM actively assists Central and State Governments and ULBs in standard formulation, capacity building, technical guides, e-learning courses, and interactive workshops.
ICAI also established the ICAI Accounting Research Foundation (ICAI ARF), which has executed prestigious national reform assignments including accounting conversions for the Indian Railways, Municipal Corporation of Delhi (MCD), and Kolkata Municipal Corporation (KMC).
| Standard Code | Title of Accounting Standard for Local Bodies (ASLB) |
|---|---|
| ASLB 1 | Presentation of Financial Statements |
| ASLB 2 | Cash Flow Statements |
| ASLB 3 | Accounting Policies, Changes in Accounting Estimates & Errors |
| ASLB 4 | The Effect of Changes in the Foreign Exchange Rates |
| ASLB 5 | Borrowing Costs |
| ASLB 9 | Revenue from Exchange Transactions |
| ASLB 11 | Construction Contracts |
| ASLB 12 | Inventories |
| ASLB 13 | Leases |
| ASLB 14 | Events after the Reporting Date |
| ASLB 16 | Investment Property |
| ASLB 17 | Property, Plant & Equipment |
| ASLB 18 | Segment Reporting |
| ASLB 19 | Provisions, Contingent Liabilities & Contingent Assets |
| ASLB 20 | Related Party Disclosures |
| ASLB 21 | Impairment of Non-Cash-Generating Assets |
| ASLB 23 | Revenue from Non-Exchange Transactions (Taxes and Transfers) |
| ASLB 24 | Presentation of Budget Information in Financial Statements |
| ASLB 31 | Intangible Assets |
| ASLB 32 | Service Concession Arrangements: Grantor |
| ASLB 33 | First Time Adoption of Accrual Basis ASLBs |
| ASLB 34 | Separate Financial Statements |
| ASLB 36 | Investments in Associates and Joint Ventures |
| ASLB 39 | Employee Benefits |
| ASLB 42 | Social Benefits |
| Cash Basis ASLB | Financial Reporting under Cash Basis of Accounting |
Issues and Challenges in Implementing the Accrual Accounting System
The implementation of an accrual-based double entry accounting system in ULBs is not a smooth process and faces numerous practical bottlenecks. While some metropolitan ULBs have successfully transitioned, many local bodies remain reluctant or continue struggling. A comprehensive survey of selected ULBs highlighted four major clusters of operational challenges:
1 Accounting Department and Accounting Staff
- Non-existence of dedicated Accounts department: Many smaller ULBs do not possess an independent accounts department; accounts work is handled haphazardly by general administrative cadres.
- Non-qualified and non-commerce staff: Accounting personnel frequently lack formal commerce or accounting degrees, resulting in fundamental conceptual gaps regarding double-entry mechanics.
- Computer illiteracy: Most accounting staff possess minimal computer skills and are unversed in modern ERP applications. They have only been exposed to basic tailor-made software designed strictly for cash transaction entries.
- Irregular and non-continuous training: Training initiatives are ad hoc and one-time rather than structured, continuous professional development programs.
- Centralised work culture & lack of operational autonomy: Over-centralised decision-making deprives middle and lower-level accounting personnel of initiative and autonomy.
2 Infrastructural Facilities
- Paucity of regular electricity: Frequent power outages and a lack of proper backup arrangements (inverters/generators) severely disrupt municipal operations.
- Dearth of computer hardware & software licenses: Severe shortage of computing hardware, with local bodies relying on outdated machines or unverified software lacking genuine vendor licenses.
- Irregular internet connectivity: Absence of continuous, high-speed broadband hindering real-time data entry and inter-departmental integration.
- Improper data backup systems: Lack of automated, offsite, or cloud backups, leaving municipal records vulnerable to catastrophic data loss.
3 Flaws in Accounting System & Asset-Liability Management
A. Liabilities Management:
- Lag in recognizing outstanding expenses: Delayed recognition of contractual liabilities creates overdue payables, damaging the credit rating and market standing of ULBs.
- Non-availability of loan documentation: Missing loan agreements, repayment schedules, and interest calculation sheets generate distorted debt figures.
- Non-disclosure of contingent liabilities: Pending litigations, claims, and guarantees are omitted, distorting municipal solvency assessments.
B. Asset Management:
- Absence of receivables recognition: Property tax, water charges, and user fee arrears are unrecorded on an accrual basis, understating current assets.
- Outdated or non-maintained fixed asset registers: Municipal land, buildings, roads, bridges, and infrastructure are not inventoried or valued.
- Deficient rental properties database: ULB-owned commercial shops, markets, and leased parcels lack structured registers, leading to widespread revenue leakage.
- Unmonitored project advances: Project advances disbursed to contractors remain unadjusted for years without proper tracking.
- Handwritten single-entry books: Continued reliance on physical manual cash books recording only liquid receipts and payments.
- Irregular bank reconciliation: Multi-year delays in reconciling municipal bank statements with cash books.
- Unrecognized interest on earmarked funds: Interest earned on designated mission grants (e.g., AMRUT, Smart Cities) is neither identified nor allocated to appropriate project funds.
4 Reporting Lacunas & Weak Internal Controls
- Non-availability of data for timely financial statements: Missing departmental records prevent timely closure of annual accounts.
- Absence of budget vs. actual reconciliation: Budgetary variances are neither investigated nor incorporated into corrective management actions.
- Irregular and delayed statutory audits: Books of accounts remain un-audited for several financial years in succession.
- Non-systematic project and grant reporting: Inability to furnish accurate utilization certificates (UCs) and status reports of unutilized grants.
- Absence of structured MIS reports: Top administrators lack real-time dashboards on tax collections, operational expenditures, and fund balances.
- Non-publication of financial reports: Balance sheets and audit statements are not placed in the public domain, depriving citizens and rating agencies of vital information.
- Complete absence of internal control frameworks: Inadequate segregation of duties, lack of pre-audit checks, and absence of standardized standard operating procedures (SOPs).
Actionable Recommendations and Strategic Solutions
To overcome the multifaceted bottlenecks identified across Indian ULBs, a comprehensive, institutionalized strategy must be executed across four core dimensions:
I. Complete Digital Transformation of Accounting & Administration
- i. Setting digital targets & promoting IT investments: Establish mandatory timelines and capital allocation for procuring server infrastructure, licensed municipal ERPs, and cloud storage.
- ii. Redesigning e-governance services: Configure citizen-centric portals for online property tax payments, water billing, trade licenses, birth/death certificates, and grievance redressal.
- iii. Recruiting specialized IT professionals: Establish dedicated municipal IT cells staffed by qualified systems analysts, software engineers, and database administrators.
- iv. Imbibing big data, analytics & cybersecurity: Deploy business intelligence tools for revenue trend analysis, spatial property tax mapping (GIS integration), and robust firewall/encryption security protocols.
II. Capacity Building & Cadre Professionalisation
- i. Forming a dedicated Municipal Cadre of Accountants: Create a specialized state municipal accounting service with defined entry examinations and promotion criteria to end reliance on non-finance generalists.
- ii. Introducing ULB Accountant Certification Programs: Institute mandatory certification courses on NMAM, ASLBs, and municipal taxation in partnership with ICAI.
- iii. Imparting continuous professional training: Conduct hands-on ERP simulations, refresher modules on accrual concepts, and bank reconciliation workshops for existing municipal personnel.
III. Institutional and Infrastructural Arrangements
- i. State-level monitoring body: Appoint an apex state-level Directorate/Commission to monitor, standardize, and supervise the municipal accounting conversion process across all ULBs.
- ii. Decentralisation and delegation of authority: Clearly delineate financial delegation orders (FDOs) and operational responsibilities across administrative and accounts officers.
- iii. Dedicated hardware & continuous connectivity: Equip accounting departments with modern workstations, licensed ERP licenses, and high-speed broadband leased lines.
- iv. Uninterrupted power supply: Install institutional UPS, solar inverters, and heavy-duty generators to guarantee zero downtime during accounting hours.
- v. Cloud-based offsite data backup systems: Adopt automated daily cloud backup protocols with dual off-site geographic replication to prevent data corruption or loss.
- vi. Robust internal control frameworks: Institutionalize comprehensive Standard Operating Procedures (SOPs), pre-audit checklists, segregation of payment and approval duties, and biometric access controls.
IV. Standardised Operational Modules & Governance Practices
- Formulating an integrated MIS: Establish real-time reporting interlinks between revenue, public works, town planning, and accounts departments for automatic transaction logging.
- Periodic reporting of unutilised grants: Submit structured monthly grant utilization and unspent balances reports to the Directorate of Municipal Administration (DMA) in standardized templates.
- Comprehensive ERP accounting sub-modules: Deploy integrated accounting modules specifically covering:
• Fixed Assets & GIS-tagged Asset Registers
• Current Assets & Trade/Tax Receivables
• Payroll & Terminal Employee Benefits (ASLB 39)
• Stores & Inventory Management (ASLB 12)
• Debt, Contractor Deposits & Retention Monies - Budgetary reconciliation: Formulate multi-year capital investment plans and short-term annual budgets within strict DMA timeframes, enforcing quarterly budget vs. actual variance reconciliations.
- Concurrent internal & timely statutory audit: Mandate concurrent pre-audits and engage independent Chartered Accountant firms for annual statutory audits completed within scheduled due dates.
Conclusion: The Indispensable Role of Chartered Accountants
Chartered Accountants can play a vital and transformative role in assisting and executing these municipal accounting reforms. By serving as financial advisors, system designers, project management consultants (PMCs), internal auditors, and statutory auditors, Chartered Accountants can smoothen the implementation of accrual-based double entry accounting systems initiated by the Government.
Key Strategic Benefits of Accrual Accounting Adoption for ULBs and the Nation:
- Standardised Reporting: Smooth preparation and finalisation of comprehensive financial statements in strict conformity with NMAM guidelines and ICAI ASLBs.
- Timely Administrative Compliance: Prompt submission of audited accounts and utilization certificates to the DMA, Central Ministry, and State Assemblies.
- Public Transparency & Accessibility: Easy availability of published annual financial reports on digital portals, boosting transparency and stakeholder trust.
- Market Financing & Municipal Bonds: Sound financial health and creditworthiness ratings enable ULBs to access capital markets and successfully float Municipal Bonds to finance critical urban infrastructure.
- Enhanced Municipal Profitability: Improved asset-liability management, leakage plug-in, and cost rationalization augment local body revenues, enabling both Central and State Governments to reap substantial fiscal benefits.
The proper and systematic adoption of accrual-based double-entry accounting in Urban Local Bodies will augment the profitability of local bodies and ultimately enable both Central and State Governments to reap the enduring benefits of urban fiscal resilience and sustainable national development.