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ACC 561 Cost Allocation

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ACC 561 Cost Allocation
Cost Allocation
ACC/561
Cost Allocation
The purpose of cost allocation is to identify and correctly allocate costs
associated with a job, product, or service. The main uses of cost
allocation are to facilitate decision-making regarding costs, justify prices
charged for products and services, cost control, and for optimal
utilization of resources. There are several methods used for cost
allocation, depending on the type of product or service offer by the
company.
Variable cost allocation includes only variable manufacturing costs, such
as direct materials, direct labor, and variable manufacturing overhead.
Absorption cost allocation includes manufacturing costs, including both
variable and fixed overhead as well as direct labor and materials. There
are advantages and disadvantages of each method, and these will be
explored further.
Methods of Cost Allocation
There are three main methods of cost allocation used by businesses:
The Direct Method, the Step Method, and the Reciprocal Method.
The direct method, which is the simplest of the three, allocates the costs
of service departments directly to operating departments. Under the
direct method, there are no costs allocated from one service department
to another service department regardless of how much service may be
provided between them. For instance, there would be no cost allocation
between a custodial department and the mail room, even though the
custodial department cleans the mail room. Instead, the costs of both
custodial and mail room service hours would be allocated directly to the
operating departments of the company, such as the manufacturing,
packaging, and shipping departments. The advantage of ignoring the
interdepartmental allocation of service departments provides a straight
forward calculation for overhead rates for the company's operations.

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