Part 5: The operation of the Controller function

Central government: Results of the 2004-05 audits.

5.1
The Public Finance Amendment Act 2004 (the Amendment Act) made significant changes to the Controller function of the Controller and Auditor-General. Last year we described the Controller function and explained the changes that occurred from 1 July 2005.1

5.2
In this Part, we summarise the changes to the Controller function, discuss the work that has been done to bring the function into operation from 1 July 2005, and discuss the issues that have arisen to date.

Changes to the Controller function from 1 July 2005

5.3
The legislative provisions for the Controller function are set out in sections 65Y to 65ZB of the Public Finance Act 1989 (the PFA).2

5.4
The move to fully accrual-based appropriations under the Amendment Act gave Parliament an opportunity to modernise the Controller function to meet the requirements of the accrual accounting environment, and to strengthen the Controller function.

5.5
The key changes to the Controller function are:

  • abolishing the Governor-General’s warrant and certification procedures;
  • a new requirement for the Treasury to supply monthly reports to the Controller, to enable the Controller to examine whether expenses and capital expenditure have been incurred in accordance with an appropriation or other authority (section 65Y); and
  • a new power for the Controller to direct a Minister to report to the House of Representatives if the Controller has reason to believe that any expenditure has been incurred that is unlawful or not within the scope, amount, or period of any appropriation, or other authority (section 65Z).

5.6
The Controller’s power to stop payments from the Crown bank account is unchanged. However, there is an additional power to stop payments out of departmental bank accounts (section 65ZA). This amendment recognises that incurring expenditure also occurs at a departmental level.

5.7
The Controller function and the Auditor-General’s auditing functions have been intertwined for many years. Each year the Auditor-General’s appointed auditors must carry out an appropriation audit as part of the annual financial audit of a government department or Office of Parliament.3 The Amendment Act amended section 15 of the Public Audit Act 2001 to ensure that the appropriation audit is carried out as a matter of statutory duty, rather than as an aspect of the financial report audit that the Auditor-General, under the previous regime, chose to require by his auditing standards.

Bringing the reformed Controller function into operation

5.8
After the Amendment Act was passed, we worked closely with the Treasury to bring the reformed Controller function into operation from 1 July 2005.

Auditor-General’s auditing standards

5.9
We are currently updating the Auditor-General’s Auditing Standard 2: The Appropriation Audit and the Controller Function (AG-2) for the changes to the function.

5.10
AG-2 is the basis for the appropriation audit work that appointed auditors of departments and Offices of Parliament must carry out. It:

  • provides appointed auditors with an understanding of responsibilities of the Controller and Auditor-General for auditing appropriations made by Parliament and the function of the Controller; and
  • sets out the standards appointed auditors apply when auditing appropriations and doing Controller work.

5.11
AG-2 requires our appointed auditors, as part of the annual audit, to audit all appropriations to:

  • determine whether expenses or capital expenditure have been incurred within the amount, scope, and period of an appropriation or other statutory authority;
  • ensure that expenses incurred have been for lawful purposes; and
  • ensure that any unappropriated expenditure is reported in the financial statements of each department.

Memorandum of Understanding

5.12
The Auditor-General has signed a Memorandum of Understanding (MOU) with the Secretary to the Treasury that sets out the joint understanding and expectations of the Office of the Auditor-General (OAG) and the Treasury of the role and procedures associated with the Controller function. The MOU can be accessed on the Treasury website http://www.treasury.govt.nz/controller/default.asp.

5.13
The MOU sets out the procedures for:

  • providing information by departments to the Treasury;
  • providing information by the Treasury to the Controller;
  • breaches of appropriations or other statutory authority (where this has occurred or is likely to occur) or where there is reason to believe that expenditure has been or is likely to be incurred for unlawful purposes;
  • making directions under section 65Z by the Controller, directing a Minister to report a breach of appropriation to the House of Representatives (see paragraph 5.5);
  • stopping payments out of bank accounts; and
  • the general operation of the Controller function.

Monthly reports by the Treasury

5.14
All departments are responsible for setting up and maintaining a system of internal controls to provide reasonable assurance that the transactions recorded are within statutory authority and properly record the use of all public resources by the Crown.

5.15
Treasury instructions require departments to provide information to the Treasury on the expenses and capital expenditure incurred against the statutory authority available. This information must be provided by the seventh working day of the next month.4

5.16
The Treasury is responsible for collating this information and providing a monthly report to the OAG within 3 working days of receiving the information from the departments. The Treasury has agreed (through the MOU) to provide, before the end of September each year, a schedule of the dates on which the monthly reports will be provided to the OAG during the financial year.

5.17
The monthly reports provide information on:

  • all actual expenses and capital expenditure incurred against an appropriation, or other authority (which includes approvals under imprest supply);
  • all actual expenses and capital expenditure incurred in excess of or without an appropriation or other authority; and
  • the balance between the amount of expenses and capital expenditure authorised to be incurred and the amount that was actually incurred.

Standard operating procedures for the Controller function

5.18
We have prepared standard operating procedures that the OAG and appointed auditors carry out to give effect to the Controller function. These procedures are carried out in accordance with AG-2 and the MOU.

5.19
The procedures require the OAG to obtain assurance about the systems and controls that the Treasury uses to prepare the monthly report.5 The procedures also specify the work that needs to be carried out centrally when these reports are received. Under the MOU, the OAG will write to the Treasury within 7 working days of receiving the Treasury monthly report to either confirm no issues have come to our attention from the work carried out centrally or provide advice of the issues arising and the action to be taken.

5.20
The monthly reports are provided to appointed auditors to use when auditing appropriations. The confirmations we provide are subject to any further action required as a result of the work carried out by appointed auditors.

5.21
In June each year, after receiving the May monthly report, appointed auditors are also required to assess whether the department is operating and will operate within appropriation, and to report the outcome of that work to the OAG. Appointed auditors are required to assess whether the department has adequate internal control systems and procedures to enable effective monitoring of expenditure against appropriation.

Breaches of scope of appropriation

5.22
The monthly report provides a formal process for identifying breaches of the amount of an appropriation. But an appropriation may be breached in another way – for example, if the activities for which expenditure is incurred are outside the scope of the appropriation. We expect to continue to receive information on such breaches through the appropriations audit.

Operation of the Controller function from 1 July 2005

5.23
We outline in this section the key issues that have arisen in the operation of the Controller function from 1 July 2005 to 31 December 2005. We also report on the instances where expenditure in excess of the amount of appropriation has been incurred during this period, and the corrective action that has been taken or is proposed.

5.24
We received 4 monthly reports from the Treasury during this period – for the months ended September, October, November, and December 2005. The Treasury has met the statutory deadlines (see paragraph 5.16) for providing these reports in all cases. We have also met the agreed timeframes (see paragraph 5.19) for advising the Treasury on the outcome of the work we have carried out centrally, the issues arising, and the action to be taken.

In-principle expense transfers

5.25
The first monthly report we received from the Treasury for 2005-06, which was for the 3 months ended 30 September 2005, identified 7 instances where expenditure exceeded the amount of the appropriation (a breach of appropriation) because of “in-principle expense transfers”. We list the instances in Figure 5.1 and discuss the issues raised in paragraphs 5.26 to 5.32.

5.26
During the baseline update process in March each year, Joint Ministers can approve expense and capital transfers between financial years when these are fiscally neutral (Cabinet Circular CO(02)17). These expense and capital transfers can be in 2 forms:

  • explicit transfers; or
  • in-principle transfers.

5.27
Ministers approve an explicit transfer as part of the March baseline update process. The legal authority for the transfer is the Crown’s imprest supply authority, which is subject to the expenditure being validated by an Appropriation Act at a later date.

5.28
An in-principle transfer is an agreement between Joint Ministers to a transfer, but with the final amount of the transfer being determined only after the 30 June financial statements have been completed. Formal approval for the transfer is not given by Ministers until the following October – well into the next financial year – as part of the baseline update process.

5.29
In our view, an in-principle transfer does not constitute the necessary authority to incur expenses under the imprest supply system. Accordingly, the expenditure is unlawful to the extent that it exceeds the amount or scope of an existing appropriation for the financial year in question. The Treasury has agreed with our view.

5.30
The lack of authority for the 7 cases listed in Figure 5.1 is to a large extent a timing issue, with approval expected as part of the October 2005 baseline update process. The Treasury therefore advised departments that had incurred expenditure in excess of an existing appropriation solely on the basis of an “in-principle” approval that it was unnecessary to seek immediate approval. We accepted that position on the basis that it was a newly identified problem and that steps would be taken to ultimately validate the expenditure. However, we recommended that action be taken to ensure that these issues do not recur in future years.

Figure 5.1
Expenditure in excess of appropriation – in-principle transfers

2005-06 Appropriation* Actual expenditure for 4 months to 31 October 2005#
Name Type Amount ($000) ($000)
Vote: Arts Culture and Heritage
National Memorial Park in Wellington Capital expenditure (846)† 4,952
Vote: Economic, Industry and Regional Development
Large Budget Screen Production Fund Other expenses to be incurred by the Crown 35,556 44,682
Vote: Economic, Industry and Regional Development
NZ’s Participation at Expo 2005, Aichi, Japan Non-departmental output class 971 1,285
Vote: Energy
Development of Reserve Electricity Generation Capacity Capital expenditure 0 9
Vote: Health
Health Sector Projects Capital expenditure 1,112 3,314
Vote: Health
Response to Significant Health Emergencies Capital expenditure 0 16,512
Vote: Justice
Contribution to Foreshore and Seabed Negotiation Costs Other expenses to be incurred by the Crown 0 90
Ministers agreed “in-principle” transfers for all of these instances as part of the March 2005 baseline update process.
All of the breaches were authorised by Joint Ministers under imprest supply authority delegated by Cabinet on 14 November 2005 as part of the October 2005 baseline update process.

* As reflected in the Appropriation (2005/06 Estimates) Act 2005, or in Cabinet/Ministerial approvals given under imprest supply.
# These figures are not audited.
† The original appropriation for 2005-06 was nil. Cabinet authority was later provided to reduce the appropriation to ($846,000) under imprest supply before the in-principle transfer was authorised in the October 2005 baseline update process.

5.31
Formal approval for the transfers was subsequently given by Joint Ministers on 5 November 2005. The October 2005 monthly report therefore continued to reflect the expenditure in excess of appropriation.

5.32
Treasury officials have advised us that action has been taken to ensure that breaches of appropriation amount due to in-principle transfers do not occur in future years. The procedures for these transfers are to be revised so that, before the end of the financial year, an explicit (rather than an in-principle) authority is given under imprest supply to incur the transferred expenses in the next financial year up to a particular amount.

Expenditure in excess of appropriation amount

5.33
The monthly monitoring process has also identified expenditure incurred in excess of the amount of appropriation (breaches of appropriation) that are not due to in-principle transfers. Figure 5.2 lists the instances identified in the monthly monitoring reports during the 6 months ended 31 December 2005. The corrective action that has been taken or is proposed is also described.

Figure 5.2
Expenditure in excess of appropriation – other

2005-06 Appropriation* Actual expenditure for the period
Name Type Amount ($000) ($000)
September 2005, Vote: Labour
Bad Debt Expense Other expenses to be incurred by the Crown 0 2
Joint Ministers authorised the breach under imprest supply authority delegated by Cabinet as part of the October 2005 baseline update process.
November 2005, Vote: Community and Voluntary Sector
Community Organisation Grants Scheme Other expenses to be incurred by the Crown 11,394 11,730
The department believes it has overestimated the GST component of the appropriation in removing GST as part of the 2005 Budget. The department is still assessing the correct amount of GST. Joint Ministers have provided imprest supply authority as part of the March 2006 baseline update process.
December 2005, Vote: Courts
Care of Children Act Costs Other expenses to be incurred by the Crown 3,120

4,314

 
Joint Ministers authorised a fiscally neutral transfer from the “Family Court Counselling and Professional Services” appropriation to the “Care of Children Act Costs” appropriation under imprest supply authority as part of the March 2006 baseline update process.

* As reflected in the Appropriation (2005/06 Estimates) Act 2005, or in Cabinet/Ministerial approvals given under imprest supply.

Net asset holdings and imprest supply

5.34
We identified some issues relating to the new provisions in the PFA about net asset holdings and the Imprest Supply (Second for 2005/06) Act 2005 (the Imprest Supply Act) when we received the September 2005 monthly report and carried out our Controller function work.

5.35
Parliament approves the incurring of public expenditure through Appropriation Acts and Imprest Supply Acts. Appropriation Acts provide the Executive with statutory authorisation to incur expenses or capital expenditure. Imprest Supply Acts provide the Executive with authority to incur expenditure up to a specified amount and for any purpose in advance of an appropriation and as if an appropriation existed.

5.36
Section 22(3) of the PFA states “The amount of net asset holding in a department must not exceed the most recent projected balance of net assets for that department at the end of the financial year, as set out in an Appropriation Act in accordance with section 23(1)(c).” This is subject to section 22(2), which establishes a permanent legislative authority for “reported net asset holdings” to increase as a result of a remeasurement of an asset or liability.

5.37
Section 9(1) of the Imprest Supply Act states “The amount of net asset holding in departments (other than intelligence and security departments) and Offices of Parliament during the 2005/06 year must not exceed in the aggregate the sum of $16,000 million.”

5.38
As at 30 September 2005, the net assets of such departments were $16,496 million. We examined whether this was a breach of section 9(1) of the Imprest Supply Act. We accepted the Treasury’s interpretation that section 22(2) of the PFA applies alongside the Imprest Supply Act provision. This means that the level of net asset holdings for the purpose of determining compliance with the Imprest Supply Act limit can be adjusted for remeasurements.

5.39
After excluding the remeasurements (largely revaluations as at 30 June 2005), the $16 billion limit was not exceeded ($14.761 billion as at 30 September 2005).

5.40
We were accordingly of the view that the Imprest Supply Act had not been breached.

5.41
Another issue that arose was whether section 9 of the Imprest Supply Act gave authority for the asset holdings of individual departments to exceed the projected net asset balances set out in the Main Estimates and the Appropriation Act, as long as the aggregated total was below $16,000 million. The Treasury’s view was that it did. We agreed that the side-by-side effect of the Imprest Supply and PFA means that the Treasury’s view was correct.

5.42
However, we were of the view that the wording of the Imprest Supply Act provision needed to be improved so that the statement that “the amount of net asset holdings … must not exceed $16,000 million” is open to being read, not as an unequivocal statement that supplants the amounts of individual asset holdings set out in the Appropriation Act, but as an authority for those net asset holdings to increase within a certain limit, subject to later validation in an Appropriation Act.

5.43
We were subsequently consulted on the wording for section 10 of the Imprest Supply (Third for 2005/06) Act 2005. We are satisfied that the revised wording addressed the issues we had raised.

Summary

5.44
In our view, the nature of the issues that have come to our attention through the operation of the Controller function from 1 July 2005 already show the value of the changes made to modernise and enhance that function.

5.45
The new monthly reporting process has identified breaches of appropriation amounts earlier than the previous system. The previous system did not require monthly reporting to the Auditor-General against appropriation or other authority. Also, the daily Controller certification required under the previous system had limited use in an accrual accounting environment where departments incur expenditure. The audit of appropriations that evolved during the 1990s to address the limitations of the certification procedures generally focuses on reporting towards the end of the financial year. Therefore, the monthly reporting is providing more timely information on breaches of the amount of the appropriation.

5.46
It is important to note, though, that breaches of the scope of an appropriation are still more likely to come to our attention through the appropriation audit work carried out by our auditors.

5.47
The monthly reports contain information about expenditure incurred either under an appropriation or by some other authority (which includes an Imprest Supply Act). This means that more information is provided about expenditure funded under imprest supply than has previously been the case.

5.48
The reformed Controller function has also brought to light some processes, such as in-principle expense transfers, that do not provide the appropriate statutory authority to incur expenditure. These deficiencies have existed for some time but were not visible under the previous system. This is further evidence that the changes made have enhanced the Controller function.

5.49
We intend to report annually to Parliament on the significant issues arising during the previous year from the operation of the Controller function. This will ensure that Parliament and the public can be suitably informed about this important constitutional function of the Auditor-General.

1: Central Government: Results of the 2003-04 Audits (parliamentary paper B.29[05a]), “Changes to the Controller function”, pages 51-57.

2: As amended by the Public Finance Amendment Act 2004.

3: See Central Government: Results of the 2003-04 Audits, “Changes to the Controller function”, pages 54-57 for a brief explanation of the audit of appropriations.

4: Monthly reporting is not required for June, July, and August. In the case of December, the report must be provided by the Tuesday immediately following Wellington Anniversary Day.

5: Section 65Y explicitly recognises the Auditor-General’s powers, under Part 4 of the Public Audit Act 2001, to access such information as the Auditor-General may require to independently verify the Treasury reports.

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