Allocation and Appointment of Overhead Costs

Allocation of overheads is the term used where the overhead cost item can be charged to a specific cost center without the need for any estimation procedure. For example,

  1. The salary of the sales manager will be allocated to the selling overhead cost center,
  2. The salary of the engineer in charge of power generation will be charged to power generating cost center.

Apportionment of overheads occurs where the total value of an overhead item is shared between two or more cost centers that use the overheads. It is important that an apportionment basis which reflects the benefit extracted by a cost center is used. For example, the rates payable to the local authority may be apportioned on the basis of area of occupancy of each cost center

Re-apportionment of overheads occurs when service department costs are charged to user departments. For example, the maintenance department overhead costs are summarized and then charged to the user department, which will probably include other service or non-production departments.

Service departments do not participate directly in the manufacturing process but play a supportive indirect role. Products do not pass through the support departments. It is for this reason that service department costs have to be reapportioned to the production cost centers or departments.

The re-apportionment of service department costs may be implemented in a number of ways.

The Two extremes are

Where costs of each service department are only charged to production centers administration; selling and distribution centers are not charged with the cost of the service departments are they are they not production centres. This is referred to as the Direct Method

Where the reciprocal nature of service costs is fully recognized; that is service departments serve each other. This approach may be implemented using two methods.

A compromise method (elimination method) may be used where by the costs of each service cost centers are re-apportioned in turn. The costs of the first service center will be reapportioned to all user centers including other service centers. The first service center however, is then eliminated from any further reapportionment. The cost of the second service center including any costs already reapportioned from the first service center are then reapportioned to all user centers other than the first service center. The process is continued until all service centers are eliminated