Cost allocation: What is it?
Cost allocation is the distribution of one’s cost across multiple entities, business units, or cost centres.
In tax, we know from our “benefit test experience” the importance of a cost allocation methodology to identify what services are being provided to a legal entity and the link with the origin of that cost.
In practice, the pooling and reallocation, or recharging, of costs can be divided, in a simplified manner, in three clusters:
Most companies make use of central service centres or shared services centres which may require the right allocation to those who benefit from it
Recharging Management Fees is perhaps the most-clear example of central cost which are recharged to local entities
Cost Sharing (IP)
Similar allocation schemes central services as with central services and management fees albeit with different allocation keys (i.e. anticipated benefits)
Cost allocation: Challenges?
Tax departments have been grappling too long with spreadsheets, whereas most Enterprise Performance Management or tax add-on solutions have the capability to extract, pool, allocate and recharge end-to-end costs in an appropriate way.
How does it work?
Step 1: Define Cost Pools
The technology pulls in data from expense accounts, matching it through a mapping table to pre-identified costs pools.
Step 2: Determine the Beneficiaries
A digital dialogue can be set up between the different stakeholders to capture substantive documentation, or sanitize cost pools or allocated amounts.
Step 3: Allocate Costs
The cost amounts based on the allocation table(s) are distributed to the relevant beneficiaries.
Step 4: Invoicing
A number of systems can also be configured to automatically create all associated journal entries and help prepare with automated invoicing.
Automating the process also helps by establishing a clear audit-trail for future tax audits. This cost allocation system saves significant time by freeing your team from performing repetitive tasks such as periodic calculations, manual preparations of journal entries, or continuous maintenance of allocation tables. Whether you are using Excel or other EPM systems, or perhaps a combination of both, we are ready to assist you in configuring and structuring your processes.
Define the cost pools
-Direct vs. Indirect
Allocation of cost