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| Corporate Accounting Treatment |
What is common expense? How it is allocated to the department?
refer to costs that are incurred for shared services or resources that benefit multiple departments, units, or individuals in an organization, business, or property. These expenses cannot be attributed to one specific department or cost center alone. Common expenses often include things like:Rent for office or shared space
Utilities (electricity, water, gas)
Insurance premiums
Salaries for administrative or support staff
Maintenance of shared facilities (e.g., cleaning services)
Office supplies used by multiple departments
These costs are not directly tied to the production or delivery of a particular product or service but are necessary to support the overall operation of the business or property.
Allocation of Common Expenses:
Because common expenses benefit multiple areas, businesses need to allocate these costs across departments, units, or cost centers based on specific criteria. The allocation ensures that each unit bears a fair share of the cost, usually following logical and equitable methods. Here are common methods for allocating these expenses:
1.Square Footage or Usage Basis:
Example: If rent or utility costs are being allocated, they might be distributed based on the square footage that each department occupies.
Formula:
Application:
A company’s building rental expense is $10,000 per month. If Department A occupies 2,000 square feet of the 10,000 square-foot office space, its allocated rent would be $2,000.
2.Headcount (Employee Basis):
Example:
Salaries for administrative staff might be allocated based on the number of employees in each department.
Formula:
Application:
If administrative salaries total $50,000 and Department A has 20 of the company’s 100 employees, Department A would be allocated $10,000 of administrative salaries.
3. Revenue or Profit Basis:
Example: Expenses might be distributed based on each department’s contribution to revenue or profit.
Formula:
Application:
A marketing cost might be spread across departments according to their revenue generation. If a department generates 30% of total revenue, they will bear 30% of the marketing costs.
4.Activity-Based Allocation:
Example:
Some expenses, like IT services or legal fees, may be allocated based on specific activities or use.
Application:
If the IT department supports different departments, the costs might be divided based on the number of service tickets or hours spent supporting each department.
Importance of Proper Allocation:
Accurate cost control: Each department understands and manages its share of indirect costs.
Fair resource distribution: No single department bears an unfair burden of shared costs.
Profitability insights:
Allocating common expenses allows for a better understanding of the profitability of each department, product, or service.
Example of Allocating Rent Expense:
Suppose a company rents an office space for $50,000 per year, shared by three departments based on space occupied:
Sales: 40% of the total space
Marketing: 35%
HR: 25%
The allocation would be:
Sales: $20,000 (40%)
Marketing: $17,500 (35%)
HR: $12,500 (25%)
Each department would record its share of the rent expense in their financials.
In Finally:
Proper allocation of common expenses is essential for transparency, accountability, and precise financial planning in organizations, ensuring equitable distribution of overheads across departments.