GAAP Prohibits Capitalizing Operating Expenses (OpEx)

[John Cunningham]

Under Generally Accepted Accounting Principles (GAAP), the treatment of operating costs in the context of a capital infrastructure project, such as a sewer system, follows specific guidelines to ensure proper financial reporting. 

Here’s a concise explanation:

Key GAAP Principles

GAAP, as outlined by the Financial Accounting Standards Board (FASB) in the United States, distinguishes between capital expenditures (CapEx) and operating expenditures (OpEx). For a capital infrastructure project like a sewer system, the following applies:

1. Capitalizable Costs:
   • GAAP allows costs directly attributable to the acquisition, construction, or installation of a capital asset to be capitalized. For a sewer system, these costs typically include:
     • Direct costs: Materials, labor, and equipment used in construction.
     • Indirect costs: Engineering, design, permits, and other costs directly related to the project.
     • Interest costs: Under FASB ASC 835-20, interest incurred during the construction period for debt specifically related to the project may be capitalized.
   • These costs are recorded as part of the asset’s historical cost on the balance sheet and depreciated over the asset’s useful life.
2. Operating Costs:
   • Operating costs, such as routine maintenance, utilities, employee salaries for operating the system, or administrative expenses, are not capitalizable. These are considered expenses incurred to maintain or operate the asset after it is placed in service.
   • According to GAAP (e.g., FASB ASC 720-15), operating costs should be expensed in the period incurred and reported on the income statement, typically under operating or maintenance expenses.
3. Distinguishing Capital vs. Operating Costs:
   • GAAP emphasizes that only costs that provide future economic benefits by enhancing the asset’s value or extending its useful life can be capitalized. For example:
     • Capitalizable: Costs to construct pipelines or treatment facilities for the sewer system.
     • Not Capitalizable: Costs to clean or maintain the sewer system after it is operational.
   • If a cost is incurred to repair or replace a significant component of the sewer system (e.g., replacing a major pipeline), it may be capitalized if it meets the criteria for a capital improvement under FASB ASC 360-10.
4. Project Phases:
   • During the planning phase, costs like feasibility studies or preliminary design may need to be expensed unless they are directly attributable to the project’s development (FASB ASC 970-340 for real estate projects, which can apply by analogy).
   • During the construction phase, most direct and incremental costs are capitalized.
   • Once the sewer system is placed in service, operating costs (e.g., salaries for operators, electricity for pumps) are expensed.

Specific Considerations for Sewer Systems

• Government Accounting: If the sewer system is owned by a governmental entity, GAAP principles under the Governmental Accounting Standards Board (GASB) may apply. GASB Statement No. 34 requires capitalizing infrastructure assets like sewer systems and depreciating them, but operating costs are still expensed.
• Regulatory Oversight: Public utilities may be subject to regulatory accounting rules (e.g., by state utility commissions), which could allow certain costs to be deferred or capitalized under specific circumstances, but these must align with GAAP for financial reporting purposes.
• Start-Up Costs: Under FASB ASC 720-15, start-up costs (e.g., training employees to operate the sewer system) are generally expensed, not capitalized, unless they are part of a specific capitalizable activity.

GAAP References

• FASB ASC 360-10: Property, Plant, and Equipment – Rules for capitalizing costs and depreciation.
• FASB ASC 835-20: Interest – Capitalization of interest costs during construction.
• FASB ASC 720-15: Other Expenses – Treatment of start-up and operating costs.
• GASB Statement No. 34 (for governmental entities): Capitalization and reporting of infrastructure assets.

Conclusion

GAAP prohibits including operating costs in the capitalized cost of a capital infrastructure project like a sewer system. 

Only costs directly related to the acquisition, construction, or installation of the asset, including certain indirect costs and interest during construction, can be capitalized. 

Operating costs incurred after the asset is placed in service must be expensed.

[Martin Merritt]

John

Thanks for providing the GAAP policies.

The purpose of the presentation of costs is not intended, nor should it be, in accordance with GAAP (we are not issuing financial statements.  We are simply a providing a presentation to our owners of the costs to be born by them in the future).

The purpose of the presentation is to ensure that our owners are aware of what their future costs of the project will be:

• The repayment of principal
• The interest costs of the loan
• The operating costs (for the next 20 years.  Obviously these will go beyond 20 years)

If we didn't let our homeowners know about these costs, it might be said by some that they were misled, or that they were not provided the full disclosure of costs.

The only reason for the presentation in this manner is for full disclosure, and to also let homeowners know their annual expected payments, and if some individuals wanted to pay the costs of the sewers up front, then they could avoid the line item of interest costs, and it is there for them to see.

If others have a presentation of costs that they think would be a better representation, and/or helpful to our homeowners, then by all means, they should feel free to post that here in the forum.

Marty

[John Cunningham]

Your stated objectives are not mutually exclusive to following FASB/GAAP accounting standards. They exist for a reason: to minimize misrepresentation of financial information by fiduciaries and thereby protect them from accusations of misfeasance, malfeasance, or fraud. The WPCA presentation as stated conflates CapEx with OpEx and raises more questions than it answers.

DEEP is the controlling authority and subject matter expert with far greater experience on projects like this and they shared their presentation of costs with us on May 13th. Their presentation was aligned with GAAP principles.  Please refer to that as a baseline.

I posted my own analysis of CapEx here. It's more conservative than DEEP's numbers – I get a ~$56k cost basis with a ~$3k NPV financing cost, compared to their $46k cost.

As far as OpEx, I know Al Roy has done more work there - he has the professional background and deep project familiarity to speak more authoritatively to that aspect.

[Alfred Roy]

Marty-

Your all-inclusive presentation of costs, assuming most individuals lack the desire or understanding to properly evaluate, is a kiss of death approach which will drive irrational no votes.

As stated elsewhere and pasted here, I strongly urge providing reasoned and logical balance in terms of negative consequences including future avoided costs and almost certain costs for litigation.  Expounding on only one side of this equation is a disservice to our members.  Alternatively, in the interest of  fostering understanding and demonstrating professionalism, you may consider a two tier presentation format.  One strictly aligned with our capital costs obligations identified in the bond resolution, another showing the all-in immediate and future 20 year total owning costs.

Personally, I am totally convinced a no vote will not end well for OLSBA.  We should support the project, get bids, and avoid putting our association in the line of fire with DEEP.  If any of the other beaches default on the consent order mandates, so be it.

Additional Potential Consequences of NO Vote

1. DEEP enforcement actions resulting in financial penalties
   
   

2. Costs incurred for future septic system failures**
   
   

3. Costs for remediation/replacement of known (self-identified) inadequate systems and/or as identified by Ledge Light, and/or as a prerequisite for sale of the property**
   
   

4. Likelihood of increased oversight from DEEP and Ledge Light**
   
   

5. Costs for routine inspection and pump out (likely to ramp up requirements and enforce compliance)**
   
   

6. Opportunity loss of increased property valuation
   
   

7. Legal costs - DEEP, beaches
   
   

8. Projected additional costs for delayed construction start 4 years out after litigation**
   
   

9. Future year costs for route 156 repaving once the project finally moves forward (loss of a > $1M accommodation from CT DOT)**
   
   

10. Canceled improvements to current stormwater management infrastructure (BOG due diligence requirement/obligation)**
    
    

**Avoidable costs and consequences if the project moves forward under the proposed 20 year payback program

On Thursday, May 15, 2025 at 10:01:03 AM UTC-4 mjmerr...@gmail.com wrote:

[GS Man]

I 1000% agree with Al Roy’s logic in how this gets presented and disseminated to the community. A one side viewpoint geared towards a “No Vote” is disingenuous to the community in my opinion.  

We need fair and balanced viewpoints sharing the impacts to the community of a no vote.  If the community votes no we’re still on the hook for the shared infrastructure, and monies already spent / identified likely in the $4-6Million range and the community gets nothing, repeat nothing in exchange.  No sewers, no new & improved roads and no run off water drainage management.  

What we likely will get is penalties from the State of Connecticut, litigation from other beaches & the Town of Old Lyme ultimately driving us to compliance with the consent decree.  

eom- gss 

On May 15, 2025, at 11:59 AM, Alfred Roy <alin...@gmail.com> wrote:

Marty-

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[Martin Merritt]

John,

I like your financial presentation.  It is a good way to look at this in a different perspective and there for everyone to see.  So I welcome this.   Unfortunately, I don't believe there are many of our homeowners logged onto this forum, so unfortunately it isn't being seen by many.  You should consider sending to a larger database.  But since it is a deeper financial approach, it may need a cover page to help the homeowner understand it.

We are not trying to mislead anyone here and I'm hoping you weren't suggesting we were.   We are being completely honest, transparent and straightforward with all of the financial information we are providing.  The materials are clearly labeled as being the payments over 20 years.  The capital costs, the financing costs and the operational costs are all clearly labeled and segregated.  In all of the previous WPCA presentations, the annual payments that the homeowner was expected to make have always included the interest and operating costs.   Please see pages 14 and 22 of the October 2024 presentation provided to homeowners.  Are you upset that we did the math of what does this mean over 20 years?  The homeowners were already doing the math anyway, as all they want to know is what will my total out of pocket expenses be for this project.

I believe the financial spreadsheets that we have provided to our homeowners are the most comprehensive analysis of this project that we have had to date (we believe they are a great improvement upon the old F&O analysis that was previously provided. We even provide a comparison of our numbers to F&O numbers).  And every line item and assumption is there to be challenged, questioned and reviewed.  If people disagree with our estimates, our assumptions, our methodology, no problem (previous challenges are exactly why we increased the costs for contingencies in the current analysis).  Homeowners are free to review this information and analyze it in any way they would like.  There are MANY estimates, and MANY assumptions in our spreadsheets.  The only thing that I am completely confident about this project is that our estimates are not 100% correct.  We will be too high on some numbers, and too low on others.  Is our total estimate too much or too little, I have no idea?  We think it's reasonable, but there is absolutely no way to know.   Homeowners can also come up with their own spreadsheets, and their own assumptions, and are free to distribute that analysis to all of the other homeowners.  This forum is a perfect opportunity to do that.

With regards to your comments about the State figures compared to the OLS figures, which set of costs are a better representation of the project, we have completed a comparison between the States numbers and our numbers, and I will be posting that today in this forum, Jay is suppose to be posting that on the OLS Web (it appears that only about a dozen or so of our members, besides the Board and WPCA members, are logged onto this forum.  The primary differences between DEEP numbers and our numbers is that we are being more cautious with our contingencies.  For instance:

• Firstly, with regards to DEEP's presentation of the $44,416 per EDU costs, it is true that their costs did not include operational costs and interest costs.  However, the information that we have, identifies that DEEP does consider interest costs and operating costs when assessing affordability.  In the August 21, 2023 letter from DEEP to OLS, DEEP references the EPA guidelines that they utilize in determining affordability and provides a link to that document. (I attach the letter below)  In those guidelines, it specifically states, that the interest costs and the operational costs should be considered in determining affordability.  Further, I have communications from DEEP specifically stating that they do consider operating costs and interest costs in assessing affordability of a project.  So in actuality, it would appear that the inclusion of future interest and operational costs should be presented to the homeowners, as it is what the State uses to determine affordability, and it helps the homeowner as it informs them of an estimate of their future obligations.  If the State included those costs, their $44,416 per EDU figure would be $62,927.   
• In comparing our numbers to DEEP figures some of the differences are  - they provide for a 10% contingency on the construction, and we are providing a 23% contingency (although our contingency isn't just for project overruns, it also considers a contingency for potential admin and legal costs and hiring a project manager and other variables).  We absolutely hope, that we would not have to utilize that full contingency.  But is included here, so that if the overruns are above the 10% threshold that the State suggests, that we wouldn't have to go back to homeowners for further approval.  But it is there in clear daylight for all homeowners and everyone to see.  No one is being misled.  If the OLS community believes this contingency is too great, then we could easily suggest that we vote on a lower level of bond authorization.  (one of the complaints of previous years analysis, was that the WPCA was not being realistic in suggesting that the project will only have a 10% overrun, and that the figure should be closer to 20%, which is routinely used in many construction estimates).  
• Our Bid estimate provides for a 40% increase from the 2021 bids.  This 40% comes exactly from the the bid differences that Old Colony, Sound View and the Shared Project received from their 2021 bids, to the bids they received in February 2025.  The State only used a 31% difference.  We believe our estimate represents the current market.  I'm not sure why the State believes our bid will be 9% lower than the bids received in February?
• We also include a 5% inflation of the bids.  This is for two reasons.  The first is that we will be going out to bid in June or July, and we believe the market is not improving, but getting more expensive.  Hopefully we are wrong, but it would appear there are signs of increasing costs.  Also, two of the bidders on the shared project have stated that they will continue to hold their bids open past the 120 day requirement, but that they are not going to commit that there will not be cost increases on their bids.  So out of caution, we are utilizing this 5% for their bids also.
• The three contingencies above, are clearly cautious in nature.  Again, if the OLS community believes we are being too cautious and want to vote for a lower bond authorization, then that should be brought up in this forum, in discussions and on May 20th.  Personally I have no problem with that.  So everyone knows - the dollar value of the additional contingencies we have in our estimates, compared to the State are $3.3 million of the overall bond authorization.  
• Also, DEEP suggested that the operating costs would be $450 per year, and we have estimated at $1,192 per year.  The major difference in our estimates, is that DEEP has not considered any funding for future capital expenditures on the project.  This funding and reserving for future capital expenditures is specifically required in the CSA.  The difference between our figures and the State's figures is $2.6 million

John, your analysis is another way to look at the project.  I'm happy to have that out there.  If others have different analysis, they should feel free to share their thoughts also.

As mentioned, I will post the comparison of our analysis and the State Analysis in a separate post.

Marty

[Alfred Roy]

Marty-

I'll review lengthy post more carefully, but for now....   messaging from WPCA members (not a formal consensus) has repeatedly been and continues to be: 

• vote no - too expensive
• vote no - we are not polluting

These stated positions, combined with lack of cost/benefit and cost avoidance as balance in your cost estimates are driving completely negative messages.

I repeat:

A NO VOTE will not end well for OLSBA.

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[Martin Merritt]

Greg and Al,

I'm fully on board with coming up with a different financial analysis.  

Yes we have already spent approximately $4,200 per homeowner.  We are stuck with this no matter what, and should start accruing for this with this years bills to homeowners.

With regard to other costs if we don't move forward, for sure, there would be legal costs, continued dealings with DEEP, some "other implementation costs" if DEEP agreed to it (such as the cost for a new septic system), I don't know what the outcome of any litigation would be (I would guess this is why Jay posted the Hinckley Allen memo), and yes certain other costs.  

Greg - what's the best way to estimate these costs and to present them?  Who has the best handle on them?  I can't recall seeing any previous analysis of this.  Do you know if one was done?

There is no doubt about it, whether we vote yes or no, the costs, thoughts and REAL issues of this project are definitely ahead of us, not behind us.

[Jay Moynihan]

Good Afternoon - I have previously 

begun a personal assessment of yes/no…

including working to identify some potential costs that

I believe may be at least reasonable to project…

Thanks 

Sent from my iPhone

On May 15, 2025, at 3:20 PM, Martin Merritt <mjmerr...@gmail.com> wrote:

Greg and Al,

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