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October 29, 2007

Expenditure Commitment Controls, the essence of fiscal discipline – IMF Technical Guidance Note

Posted by Dimitar Radev and Pokar Khemani

Fiscal discipline, one of the key objectives of good public financial management (PFM), requires a well developed expenditure control framework, including at the commitment level, to prevent accumulation of payment arrears. A July 2006 IMF FAD Technical Guidance Note, "Commitment Controls," by FAD staff members Dimitar Radev and Pokar Khemani, provides technical advice on a number of areas related to commitment controls, including objectives, preconditions for successful implementation, and institutional design. These guidelines are intended to apply primarily to IMF operational work and technical assistance but have also implications for the relevant government departments and agencies within national, provincial/state and local jurisdictions.

[Click here to Download pfm_guidance_note_3_commitment_controlsradevkhemani.pdf]

Definition and Objectives

Commitment, in the PFM context,  means an obligation to effect a future payment subject to the fulfillment of certain conditions (contractual or otherwise). Commitment is the critical stage of the expenditure process. Controlling commitment is essential for controlling expenditure. The key objective of commitment controls is to manage the initial incurrence of obligations, rather than the subsequent cash payments, in order to enforce expenditure ceilings and avoid expenditure arrears. To this end, the commitment control system imposes limits on commitments.

The limits on commitments can be based on budget appropriations or on cash plans. Ideally, commitments should be regulated by annual budget appropriations. However, this approach could prove to be insufficient in preventing the incurrence of arrears in case of overall revenue shortfalls. Commitment controls based on expenditure ceilings or cash limits reconcile the availability of resources with commitments, thus ensuring that spending units enter only into contracts or other arrangements for which sufficient unencumbered cash balances are available or likely to be available at the time of their payments.

Preconditions for Successful Implementation

The introduction of effective commitment controls requires a comprehensive approach involving a number of PFM areas.

  • A realistic budget is a key precondition for efficient budget execution, including commitment controls.
  • A good cash planning system for setting credible expenditure ceilings is needed to support commitment controls. 
  • A good accounting and reporting system is also required for effective commitment controls. The ideal situation would be when the accounting and reporting system is organized on an accrual basis, because commitments are formally accounted in the system. However, it is not the case of developing countries that apply cash-based recording and reporting. The cash-based systems require additional records with respect to commitments.

Institutional Design and Operational Arrangements

Institutional design and operational arrangements for commitment controls vary from one country to another. However, the many varieties of commitment control arrangements can be broadly classified in two main categories:

(1) centralized commitment controls are performed by a central agency, usually ministry of finance (MoF)/treasury.

(2) decentralized commitment controls are performed by respective line ministries/spending agencies.

If the basic PFM system and control procedures are weak and the organizational arrangements are fragmented with limited skills and capacity, building a centralized system is the more appropriate and cost-effective way to control expenditure commitments. On the other hand, when the basic PFM system is well established and supported by modern technologies, decentralized commitment controls could be a viable alternative.

Regardless of the institutional design, a commitment control system should meet the following basic operational requirements:

  • a commitment should be incurred only when it is within the budget appropriations, respectively within the expenditure ceilings/cash releases approved by the MoF;
  • no payment should be made unless it is based on an approved commitment;
  • outstanding commitments and unpaid bills should be monitored on a regular (preferably monthly) basis; and
  • payment arrears should not be allowed to accumulate, and if they do, they should be cleared as a matter of priority.

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Comments

i am in indian civil service i want to know is there is any country where there appropriation /budget funding act is not about commitment and payment both but only for commitment. and payment is regulated by other law/ act

Annual budget appropriations have traditionally been on a cash basis. In several countries, budget system laws specify the cash basis of annual appropriations. In a few countries (e.g., France and Germany), budget system laws contain provisions relating to expenditures on a commitment basis. In recent years, a few OECD countries, notably Australia, Denmark, New Zealand and the United Kingdom have changed the basis of their appropriations to an accrual basis, which is pre-cash, but post-commitment (commitments are first made and later on, after the delivery of goods or services, an economic exchange takes place -- the accrual transaction is recorded at this point). The United States is somewhat different, as various laws adopted by Congress provide "budget authority". In addition, annual appropriation laws allow spending agencies to incur financial obligations, which are binding agreements that result in disbursements (or "outlays"), either immediately or in the future. Further details on the legal basis of appropriations in selected OECD countries can be found in the OECD special edition of the Journal of Budgeting. Our blog posting of November 26, 2007 (concerning the release of the OECD comparative budget law study in French language) contains a reference for downloading the OECD study.

In all countries, government regulations elaborate on the basis of appropriations, whether on the basis of commitments, accruals, or cash. In the United States, for example, internal rules within the executive branch of government are issued by the Office of Management and Budget (OMB)--various budget circulars are available on OMB's website (the General Accountability Office's Principles of Federal Appropriations Law, which is a collection of Comptroller General rulings, is also important -- see the GAO website). Since annual appropriations in the USA are on a commitment (obligation) basis, OMB's and agencies' controls are on spending commitments. In this respect, the USA is different from most other countries because the legal and regulatory basis for spending control is solely for commitments, rather than spending at the accrual or cash stages.

thank for response.kindly give me some information about indian appropriation act and articles relating to finance ,accounta in indian constitution (1)is indian appropriation act is about commitment/incurring of expenditure only or it is a authory for commitment/incurring of expenditure and payment both

kindly enlight me that if indian apropriation act is about authorising for commitment of expenditure/incurring of expenditure or it is authoriseing for commitment of expenditure and payment both

India’s annual budget estimates are formulated on a cash basis, and the Appropriation Act is meant for authorizing withdrawals from the Consolidated Fund for incurring expenditure based on the approved budget estimates. India’s budget estimates and the Appropriation Act do not distinguish between commitment and expenditures. Annual appropriation accounts (budget outturn data ) are also prepared on a cash basis, and do not report on commitments.

Very useful guide.

I am from a developing country, in which we have made made significant strides in our PFM reform process. We have in place an IFMIS, which allows us to control budget allocations on an annual and also a quarterly basis. It therefore means that agencies are required to spend only within the approved limits, thereby negating any unauthorised commitments.

However commitments/incumbrances can only be controlled by the system if entered in the system. However, Agencies have a window to incur commitments without Purchase Orders(PO), particularly for services, though recent procedures require that most transactions be done by PO.
Our budget development process is also quite credible as we strive to obtain as much information and to be as realistic as possible.

I can therefore identify with the sentiments of the guide, but would recommend the use of technology as much as possible and also quarterly allocation/cashflow reviews, which would allow for review of revenue performance, ministry/agency performance as well as any commitments, though within the approved limits.

Sir, since India Do not distinguish between commitment and expenditure, what can we consider be commitments? Can we consider Budget Estimates are commitments?

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