Read the following extract from a CIMA report into annuality in public budgeting.

Public sector budgeting: The annuality phenomenon

Annuality is a widespread and pervasive phenomenon that affects public budgeting throughout the world. It is fundamentally a problem for financial accounting theory, which requires accounts to be prepared on an annual basis, at an arbitrary point in time during the year. 

The fundamental principle of annuality is that budgets (i.e. an authorisation to spend) have a definite time limit and must be spent during the related year. A failure to spend all of the budget (i.e. an under-spending) results in loss of the unspent amount by the budget-holder, whilst an overspending could result in a range of possible penalties, including personal liability of the budget-holder for the overspent amount and other major political and managerial consequences.

Typical of many public sector budgets, there are often substantial amounts within the budget that are not strictly controllable by the budget holder. Public sector budgets are forecasts of spending that is determined by outside factors (such as changes in law that grant people the right to government benefits). Because of this, overspendings need to be identified at periodic intervals and funded in some way. It is natural for those who are responsible for the financial control of budget-holders to want to use any under-spending to fund overspends and, therefore, impose annuality, even if other incentives not to impose annuality outweigh this. 

There is one widely acknowledged effect of annuality. Put simply, annuality can lead to a disproportionately large amount of spending during the final quarter of the financial year. 

Evidence of annuality is often hard to come by without access to an organisation’s accounting system. One area of public sector expenditure where UK national statistics do provide some evidence of an increase in spending in the final quarter is that of capital expenditure. For example, average capital expenditure in the last quarter of each of the fiscal years from 1998/1999 to 2003/2004 was approximately 45 per cent of the year’s total.

What literature there is on annuality tends to judge the disproportionate spending of the final quarter unfavourably: as spending that is uneconomic, inefficient, ineffective and/or of inappropriate quality.

Whilst there are certain benefits of annuality for those at the centre of an organisation who wish to impose traditional central control, it is argued that it can lead to dysfunctional spending behaviour that is uneconomical, inefficient and ineffective and can therefore fail to provide value for money. Examples of this include an increase in capital expenditure in the final quarter of the year to get money ‘off the books’, and using creative techniques such as ‘parking’ money with service providers to ensure that money appears to have been spent by the end of the financial year.

Required

A. Who are the stakeholders affected by annuality?

B. What are the ethical issues involved, if any?

C. Should managers be discouraged from spending large in the last financial quarter of the year?