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Chapter 13 Developing Line-Item, Functional, and Program Budgeting Systems

Chapter Overview The purpose of this chapter is to illustrate:

How a line-item budgeting system is created How a functional budgeting system is created How a program budgeting system is created

The following topics are covered in this chapter:

Developing Line-Item Budgeting Systems Designing the Line-Item Budget Format Developing Common Budget Definitions and Terms Identifying All Revenues and Expenses Balancing the Budget

The Link Between Line-Item, Functional, and Program Budgeting Systems Developing the Line-Item Budget Determining the Agency’s Program Structure Creating the Cost Allocation Plan Format Identifying Direct and Indirect Costs Assigning Direct Costs to Programs and Indirect Costs to the Indirect Cost Pool Allocating Indirect Costs to Programs and Determining Total Program Costs Total Direct Cost Methodology Direct Labor Costs Methodology Direct Labor Hours Methodology Direct Costing Methodology Which Cost Allocation Methodology Is Best? Is Cost Allocation Worth the Effort?

Functional Budgeting Systems Selecting the Program’s Intermediate Output (Unit of Service) Measure Determining the Program’s Intermediate Output (Unit of Service) Objective Computing the Program’s Cost per Intermediate Output (Unit of Service) Selecting the Program’s Final Output (Service Completion) Measure Determining the Program’s Final Output (Service Completion) Objective Computing the Program’s Cost per Final Output (Service Completion)

Program Budgeting Systems Selecting the Program’s Intermediate Outcome Measure Selecting the Program’s Intermediate Outcome Objective Computing the Program’s Cost per Intermediate Outcome Selecting the Program’s Final Outcome Measure Determining the Program’s Final Outcome Objective Computing the Program’s Cost per Final Outcome

A Comprehensive Budgeting System Summary Case Example Review Questions

Developing Line-Item Budgeting Systems Line-item budgeting systems are characterized by the use of standardized budget formats, common budget definitions, and a structured budgetary process. Line-item budgeting systems seek to bring consistency to the

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budgetary process and to provide a financial overview of a human service agency and its programs.

The time period (called afiscal year) covered by line-item budgeting systems is usually 12 months. A fiscal year tends to follow one of three time frames: (a) January 1 to December 31 (used by many nonprofit human service agencies and programs), (b) July 1 to June 30 (used by many state and local government human service agencies and programs), and (c) October 1 to September 30 (used by federal agencies and programs). Regardless of the fiscal year utilized, all agency budgeting systems are generally tied to a 12-month time frame.

The creation of a line-item budgeting system for a human service agency or program involves the following steps:

1. Designing the line-item budget format 2. Developing common budget definitions and terms 3. Identifying all revenues and expenses 4. Balancing the budget

Designing the Line-Item Budget Format

Table 13.1 illustrates the line-item budget format utilized by Safe Haven, our ongoing case example. The Safe Haven budget format is typical of the type that would be utilized by most human service agencies.

The revenue and expense categories (or line items) in a line-item budget format are designed to be mutually exclusive and exhaustive. This means that all revenue and expense items should fit into one, and only one, category. The number of categories created in a line-item budget format must be sufficient to cover all major items of revenue and expense. The inclusion of a miscellaneous category for both revenues and expenses ensures that the line-item budget format will accommodate all budget items.

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Note: ERE = employee-related expenses.

Developing Common Budget Definitions and Terms

Each category of revenue and expense is operationally defined to provide guidance and ensure uniformity in the treatment of budget items. For example, the expense category of employee-related expenses (ERE) would be operationally defined as those non–salary and wage costs associated with each staff position, such as Social Security payments, federal and state withholding taxes, health and dental insurance costs, pension costs, and others.

Identifying All Revenues and Expenses

A human service agency or program line-item budgeting format should include a complete presentation of all anticipated revenues and all proposed expenses. As Table 13.1 illustrates, the line-item budget for Safe Haven is balanced; total anticipated revenues are $1,369,000 and total proposed expenses are $1,369,000.

Balancing the Budget

The use of a line-item budgeting system with a standardized budget format that includes all anticipated revenues and proposed expenses clearly indicates whether the budget is balanced or unbalanced. During the budgetary process, the standardized line-item budget format facilitates the identification and discussion of where proposed

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expenses might be reduced or where additional revenues might be sought in order to bring the finalized budget into balance.

Because balancing the budget can sometimes be a painful experience, a temptation exists to force a budget into balance. A forced balanced budget is created when the management of a human service agency or program consciously overstates revenues or understates expenses. There is an old story about the director of a religiously affiliated human service agency who forced his agency budget into balance each fiscal year by routinely including a revenue category called “unanticipated income.” When asked about this unorthodox approach, the director replied that he preferred to trust in divine intervention rather than go through the pain of balancing the budget. Unless one has connections in high places, forcing the budget of a human service agency or program into balance is risky business.

Balancing the budget at the beginning of the fiscal year can be a difficult task, but it is preferable to trying to balance an unbalanced budget during the fiscal year. An unbalanced budget must eventually be balanced. Each month that a budget remains unbalanced makes the task more difficult. The actual impact of a budget reduction on the operations of a human service agency or program is equal to the amount of the necessary reduction multiplied by the number of months elapsed in the fiscal year. For example, a $2,000 budget reduction made in the sixth month of a fiscal year actually has an organizational impact equal to $12,000 on an annualized basis.

The Link Between Line-Item, Functional, and Program Budgeting Systems In human service agencies, functional and program budgeting systems are generally developed only at the program level. The reason is that an essential component is the inclusion of output measures (in functional budgeting systems) and outcome measures (in program budgeting systems) that are generally only developed at the program level. The creation of both functional budgeting systems and program budgeting systems begins with a human service agency’s line-item budget. The basic idea is to take a human service agency’s line-item budget and assign or allocate all expenses to the agency’s programs in order to determine the total cost of each program. At this point, functional and program budgeting systems diverge.

Functional budgeting systems are concerned with the outputs, efficiency, and productivity of a human service agency’s programs. Functional budgeting systems address the following questions: How much service or product do the agency’s programs intend to provide as measured in terms of intermediate outputs (units of service) and service completions (final outputs)? What is the anticipated cost per intermediate output (unit of service) and per service completion?

Program budgeting systems are concerned with the outcomes or effectiveness of a human service agency’s programs. Program budgeting systems address questions such as these: What outcome goals and objectives (results, accomplishments, or impacts) do the agency programs intend to achieve? What is the anticipated cost per outcome?

Because both functional and program budgeting systems are concerned with determining the total cost of the programs operated by a human service agency, they have several common implementation steps, including the following:

1. Developing the line-item budget 2. Determining the agency’s program structure 3. Creating the cost allocation plan format 4. Identifying direct and indirect costs 5. Assigning direct costs to programs and indirect costs to the indirect cost pool 6. Allocating indirect costs to programs and determining total program costs

Developing the Line-Item Budget

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The first step in developing either a functional or a program budgeting system is the creation of a line-item budget for a human service agency that identifies all anticipated revenues and proposed expenses. This step has already been accomplished (see Table 13.1).

Determining the Agency’s Program Structure

The second step is to determine the human service agency’s program structure. Program structure means the number of distinct programs operated by a human service agency. This issue was addressed in earlier chapters.

In our Safe Haven case example, the agency has five programs: a shelter program, a case management program, an individual and group counseling program, a financial management training program, and an employment training and placement program. In order to decrease the degree of complexity in discussing budgeting issues, we are going to deal with only three of these programs: case management, counseling, and employment training and placement.

Creating the Cost Allocation Plan Format

The cost allocation plan format is the primary document or tool used to derive a functional or program budget from a line-item budget (see Table 13.2).

In the rows of the cost allocation plan format, the same line-items appear that are used in the human service agency’s line-item budget (see Table 13.1). Revenues are not used in the cost allocation plan format, only expenses. Each of the three programs (case management, counseling, and employment training and placement) appears in a column heading. One column is labeled “Indirect Cost Pool.” With the aid of this cost allocation plan format, the total cost of each of the three programs can be determined.

Identifying Direct and Indirect Costs

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Every item of proposed expense (as identified in a human service agency’s line-item budget) can be classified as either a direct cost or an indirect cost. Direct costs are those items of proposed expense to be incurred by a human service agency for the benefit of only one program. Examples of direct costs include the following:

salaries and wages of staff who work for only one program materials and supplies used for the benefit of only one program travel costs associated with only one program equipment used exclusively in one program any other costs that benefit only one program

Indirect costs are those items of expense proposed to be incurred for two or more programs. Indirect costs are sometimes referred to as “overhead costs” or “organizational and maintenance (OM) costs.” Indirect costs typically involve the salaries, wages, and ERE of the executive director and other agency staff who work on all agency programs. Additionally, all operating expenses that benefit two or more agency programs are considered indirect costs. Other operating costs that are generally treated as indirect costs include the following:

building rent utilities janitorial services telephones auditing

Assigning Direct Costs to Programs and Indirect Costs to the Indirect Cost Pool

For a human service agency to determine the total cost of its programs, each program’s direct costs must be determined, as well as each program’s relative share of indirect costs. The total cost of a human service program is the sum of its direct and indirect costs. Identifying a program’s direct costs is a fairly straightforward activity. If a cost item is proposed to be incurred for one program and only one program, the cost is a direct cost to that program. In our Safe Haven case study, we will assume that (1) the two case managers work exclusively for the case management program, (2) the three counselors work exclusively for the counseling program, and (3) the two job training specialists work exclusively for the employment training and placement program. Consequently, all of these costs are direct costs and are assigned to their respective programs (see Table 13.3).

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For the remaining salary and wage items in Table 13.3, the question is asked: Is this item a direct cost or an indirect cost? For example, the work of the executive director benefits all agency programs, so her salary ($110,000) is an indirect cost. As an indirect cost, the executive director’s salary cannot be placed in any of the three programs but must be assigned to the indirect cost pool. The indirect cost pool is a temporary holding category. The same procedure is followed for all the remaining salary and wage items that are indirect costs.

The work of the business manager and the accountant benefits all programs, so these costs are also indirect costs. The support services supervisor and the four support services staff work for all programs. Since different programs have peaks and valleys in their workloads, a decision was made by Safe Haven to have all support services staff work for all programs and to allow the support services supervisor to manage the workload. Therefore, the salaries and wages of the support services supervisor and the four support services staff are indirect costs and are assigned to the indirect cost pool.

Adding across the row “Total salaries and wages” in Table 13.3, we arrive at a figure of $908,000 ($120,000 + $180,000 + $120,000 + $488,000). This figure ($908,000) is the same as the figure for total salaries and wages identified in Table 13.1. Thus, we know that the math is correct and that we didn’t gain or lose money (something you can’t do) when assigning salary and wage costs.

ERE follow the salaries and wages they relate to. Thus, the ERE rate of 25% is applied to the total salaries and wages for each of the three programs as well as the indirect cost pool (see Table 13.4).

Reading across the “ERE” row, the respective amounts are $30,000, $45,000, $30,000 and $122,000. These four amounts total $227,000, which is again the same figure that appears for ERE in Table 13.1. All salary and wage costs have now been assigned, and attention can be directed to dealing with other operating costs.

Other operating costs is the term applied to those items of cost in a line-item budget that are not salary and wage related. Other operating costs tend to be indirect costs because they generally benefit all programs. For example, all human service programs benefit to some extent from rent, utilities, supplies, telephone, equipment, printing and duplicating, and so on. Additionally, all human service programs generally have at least some travel and

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conference costs. Thus, all the other operating costs in the Safe Haven budget are indirect costs and are therefore assigned to the indirect cost pool (see Table 13.5).

Each program’s total direct costs, as well as the total indirect costs in the cost allocation pool, can now be determined by totaling the columns. The total direct cost of the case management program is $150,000, the counseling program is $225,000, the employment training and placement program is $150,000, and the total of

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the indirect cost pool is $844,000. When the four column amounts are totaled ($150,000 + $225,000 + $150,000 + $844,000), the resulting amount ($1,369,000) is the same as the total Safe Haven line-item budget shown in Table 13.1.

Allocating Indirect Costs to Programs and Determining Total Program Costs

The next step is to allocate the indirect cost pool to individual programs. A method must be determined to apportion the costs in the indirect cost pool to the three programs. The process by which indirect costs are apportioned between programs is called cost allocation. The actual practice of cost allocation is a technical matter best left to accountants. However, the logic behind cost allocation is not difficult and is essential to a complete understanding of how functional and program budgets are derived from line-item budgets.

Cost allocation involves the selection of a methodology, or base, to be used in allocating indirect costs to programs. The cost allocation methodologies, or bases, most frequently used by human service agencies are (a) total direct costs, (b) direct labor costs, (c) direct labor hours, and (d) direct costing (Hay & Wilson, 1995; Horngren, Foster, & Datar, 1997; Martin, 2001; Mayers, 2004).

Total Direct Cost Methodology

Cost allocation using the total direct costs methodology involves four steps:

1. Determining each program’s share of direct costs 2. Totaling all direct costs 3. Determining the indirect cost rate 4. Allocating the indirect cost pool to each program, using the derived indirect cost rate

Calculating total direct costs for each program represents a starting point, but we must remember that the $844,000 of indirect costs cannot just be ignored. We must find a way to allocate this amount back into programs in order to determine total costs. Cost allocation using total direct costs as the base involves apportioning the indirect cost pool ($844,000) to the three programs according to each program’s relative percentage share of total direct costs (see Table 13.6). The total direct costs of the three programs is $525,000 ($150,000 + $225,000 + $150,000).

To allocate the indirect cost pool ($844,000) to the three programs, an indirect cost rate must be computed. An indirect cost rate is a ratio that expresses the relationship between a program’s direct costs and its indirect costs. Determining the indirect cost rate using the total direct costs methodology involves dividing the indirect cost pool ($844,000) by the total direct costs of all three programs ($525,000). The resulting percentage (1.60762%) is the indirect cost rate.

Example:

The indirect cost rate is then applied to the total direct costs of each program. For example, the total direct costs of the case management program ($150,000) are multiplied by the indirect cost rate (1.60762). The resulting amount ($241,143) is the case management program’s allocated share of indirect costs.

Example:

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Each program’s direct costs and indirect costs are then totaled (see Table 13.6). The resulting amounts constitute the total costs of each program. For example, the cost of the case management program is $150,000 in direct costs plus $241,143 in indirect costs for a total cost of $391,143.

The total costs of the other two programs operated by Safe Haven (counseling and employment training and placement) are computed utilizing the same process. It should be noted that the overall total from a cost allocation plan may differ slightly from the overall original line-item budget; this is due to rounding errors.

Direct Labor Costs Methodology

The second approach to cost allocation is called the direct labor costs methodology. The process is essentially the same as the total direct costs methodology, except that instead of finding each program’s relative percentage share of total direct costs, each program’s relative percentage share of direct labor costs is computed and then used as the base. Direct labor costs are those staffing costs, including ERE, that are considered direct costs. In the total direct costs example shown above, all the direct costs are direct labor costs. Consequently, for purposes of our Safe Haven case example, there is no difference between the results one gets using either the total direct costs methodology or the direct labor costs methodology.

Direct Labor Hours Methodology

The third approach to cost allocation is the direct labor hours methodology. Again, the process is essentially the same as for the total direct costs and the total direct labor costs methodologies, except that with this methodology each program’s relative percentage share of total direct labor hours is determined and then used as the base. Direct labor hours means the total annual hours worked by all agency staff that are considered direct costs.

The average work year is frequently computed at 2,080 hours. In the Safe Haven case example, the two staff members who work full time for the case management program are the program’s only direct costs. Thus, the

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case management program has 4,160 direct labor hours (2 @ 2,080). The counseling program has three staff who work full time and are the program’s only direct costs. Consequently, the counseling program has 6,240 direct labor hours (3 @ 2,080). In the same vein, the employment training and placement program has two full- time staff members who are considered direct labor costs. The number of direct labor hours for the training and placement program is 4,160 (2 @ 2,080). Finally, the total direct labor hours (14,560) is computed by adding together the direct labor hours for each of the three programs (4,160 + 6,240 + 4,160).

The indirect cost rate is determined by dividing the indirect cost pool ($844,000) by the total direct labor hours (14,560). The result is an indirect cost rate that represents a dollar figure rather than a percentage.

Example:

In the case of our Safe Haven example, the indirect cost pool ($844,000) is divided by 14,560 direct labor hours, which results in a rate of $57.967 per direct labor hour. The amount of indirect costs that is allocated to the case management program is $241,143 ($57.967 × 4,160). The same procedure is followed to allocate indirect costs to the other two programs (see Table 13.7). It should be noted that regardless of the cost allocation methodology utilized, the amount of direct costs in each program and the amount in the indirect cost pool always remain constant.

Direct Costing Methodology

The fourth and final approach to cost allocation is direct costing. This methodology involves converting indirect costs to direct costs. The direct costing method requires that a unique measure or base be found and used to allocate each item of indirect cost. The indirect cost item “telephone” from Table 13.7 can be used to illustrate how an item of indirect cost can be converted to a direct cost. The cost item telephone (defined as basic monthly

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service charges) is generally treated as an indirect cost because the telephone system of a human service agency benefits all its programs. One way of converting this item of indirect cost to a direct cost is to determine the total number of telephones utilized in Safe Haven and the number of telephones used by each of the three programs. Each program’s relative percentage share of total telephones then becomes the base for allocating telephone charges to the agency’s programs.

Any item of indirect cost can be converted into a direct cost by finding a measure (e.g., hours, square feet) to serve as the allocation base. The allocation bases shown in Table 13.8 are generally acknowledged as acceptable for purposes of the direct costing methodology.

Which Cost Allocation Methodology Is Best?

There is no one best cost allocation methodology for a human service agency or program to use in allocating indirect costs. One methodology may be more appropriate in some situations and less appropriate in others. Some methodologies are more difficult to implement than others. Also, depending on the nature of the program, different methodologies may result in only marginal if any changes in the actual allocation of indirect costs.

The total direct costs methodology is the simplest approach to implement. The assumption underlying this approach is that there is a strong relationship between the total direct costs of a program and the amount of operations and maintenance or overhead expenses (indirect costs) associated with the oversight of the program. The direct labor costs methodology is said to be a superior approach when the majority of an agency’s programs are labor intensive. Most human service agency programs are labor intensive, with 70% or more of an organization’s budget comprising salaries, wages, and employee-related expenses. This methodology is only slightly more difficult to implement than the total direct costs methodology. The direct labor hours methodology is said to be even more appropriate for labor-intensive agencies than the direct labor costs methodology. Staff members in human service programs are frequently paid at differing rates. Consequently, two staff members performing the same type of work can have significantly different budget implications. The direct labor hours methodology is slightly more difficult to implement than the direct labor costs methodology. The direct costing methodology is said to be the most accurate form of cost allocation, because a different and more relevant base is used for each item of indirect costs. Sometimes, a funding source (either government or private) may mandate the use of this methodology. The direct costing methodology is the most difficult to implement.

For some human service agencies, a combination of direct costing for salaries, wages, and ERE combined with another methodology for the remaining costs may be more appropriate. With this combination of methods,

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personnel costs can be easily converted to direct costs based on estimated hours to be worked for each program.

The choice of the most appropriate cost allocation methodology for a human service agency or program to use is best left to accountants and auditors after consultation with major funding sources. Nevertheless, the guiding principle is to ensure that each program is allocated its fair share of agency indirect costs. It should be noted that once a human service agency or program decides on a cost allocation methodology, it is required by federal and state regulations, as well as generally accepted accounting principles (GAAP), to utilize the same methodology for all its programs.

Is Cost Allocation Worth the Effort?

Considering the additional work involved with cost allocation, the question is invariably raised: Is cost allocation really worth the effort? The answer is yes! Without resorting to cost allocation, a human service agency will always be in the dark about the full costs of providing its various programs. In turn, an agency cannot develop accurate costs per unit of service (intermediate output), service completion (final output), or outcome.

The knowledge of a program’s true unit costs is necessary for the setting of fees and for operating under pay-for- performance contracts and grants. Today, state and local governments as well as foundations are increasingly utilizing pay-for-performance approaches in their contracts and grants. These pay-for-performance approaches tie contract and grant payments to the achievement of specified numbers of units of service (intermediate outputs) and outcomes. The federal government is also moving toward pay-for-performance approaches, with issuance in 2013 and 2014 (“2 Code of Federal Regulations,” 2013; “Federal Awarding Agency Regulatory Implementation,” 2014) of major revisions to its grants administration policies and procedures.

If a human service agency or program does not include indirect costs in the computation of its unit costs, then the agency or program is actually underpricing its services. A human service agency or program that consistently underprices its services may find itself committed to a contract or grant that actually causes it to lose money.

Functional Budgeting Systems Determining program total costs completes the first seven steps required to move from a line-item budgeting system to a functional or program budgeting system. Six additional steps are required to create a functional budgeting system:

1. Selecting the program’s intermediate output (unit of service) measure 2. Determining the program’s intermediate output (unit of service) objective 3. Computing the program’s cost per intermediate output (unit of service) 4. Selecting the program’s final output (service completion) measure 5. Determining the program’s final output (service completion) objective 6. Computing the program’s cost per final output (service completion)

For purposes of this section, the focus will be on Safe Haven’s case management program.

Selecting the Program’s Intermediate Output (Unit of Service) Measure

The intermediate output (unit-of-service) measure for the case management program is one hour of direct client contact time.

Determining the Program’s Intermediate Output (Unit of Service) Objective

The management of Safe Haven has established an objective for the case management program of 3,500 intermediate outputs (units of service) for the first year.

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Computing the Program’s Cost per Intermediate Output (Unit of Service)

The total cost of the case management program is $391,143 (Table 13.7). The intermediate output (unit of service) objective is 3,500. The cost per intermediate output (unit of service) is $111.76 per hour of direct client contact time.

Example:

Selecting the Program’s Final Output (Service Completion) Measure

The final output (service completion) for the case management program is one client receiving a full complement of services.

Determining the Program’s Final Output (Service Completion) Objective

The management of Safe Haven has established an objective for the case management program of 20 service completions for the first year.

Computing the Program’s Cost per Final Output (Service Completion)

The total cost of the case management program is $391,143. The final output (service completion) objective is 20 clients. The cost per final output (service completion) is $19,557.15

Example:

The Safe Haven functional budgeting system for the case management program is shown in Table 13.9. The same type of format would also be utilized in constructing a functional budgeting system for Safe Haven’s other two programs.

Program Budgeting Systems Once total program costs have been calculated, the creation of a program budget involves essentially the same steps as the creation of a functional budgeting system. The only difference is that functional budget systems focus on outputs while program budgeting systems focus on outcomes.

Selecting the Program’s Intermediate Outcome Measure

The intermediate outcome measure for the case management program is one client completing her case plan (individual rehabilitation plan).

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Selecting the Program’s Intermediate Outcome Objective

The management of Safe Haven has established an objective for the case management program of achieving 18 intermediate outcomes for the first year.

Computing the Program’s Cost per Intermediate Outcome

The total cost of the case management program is $391,143. The intermediate outcome objective is 18. The cost per intermediate outcome is $21,730.17.

Example:

Selecting the Program’s Final Outcome Measure

The final outcome for the case management program is one client free of abuse for one year.

Determining the Program’s Final Outcome Objective

The management of Safe Haven has established an objective for the case management program of achieving 15 final outcomes for the first year.

Computing the Program’s Cost per Final Outcome

The total cost of the case management program is $391,143. The final outcome objective is 15. The cost per final output (service completion) is $26,076.20.

Example:

The Safe Haven program budgeting system for the case management program is shown in Table 13.10. The same type of format would be utilized in constructing a program budgeting system budget for Safe Haven’s other two programs.

The type of programmatic and financial data and information provided by program budgeting systems is extremely useful for planning purposes. By relating costs to planned outcomes (results, accomplishment, or impacts), a human service agency can determine how cost-effective its various programs are. Hard data and information on program outcomes will also help to increase the credibility of a human service agency with its funding sources, advocacy groups, and clients.

Figure 13.1 Comprehensive Budgeting System

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A Comprehensive Budgeting System As discussed in Chapter 12, the combination of all three budgeting systems (see Figure 13.1) provides a comprehensive view of the operation of a human service agency and its various programs that none can provide by itself. Once a line-item budget system has been created, it takes only a little additional effort to construct a functional budgeting system and a program budgeting system.

Summary Line-item budgeting systems require the design of a standardized budget format that identifies all anticipated revenues and all proposed expenses. All budget categories in a line-item budget should be operationally defined. Line-item budgets should be balanced; anticipated revenues should be equal to or greater than proposed expenses.

Functional and program budgeting systems both begin with a human service agency’s line-item budget. Direct costs are assigned to their respective programs. Indirect costs are allocated to programs based on some methodology or base. Direct costs are those items of cost that benefit only one program. Indirect costs are those items of cost that benefit two or more programs. Four cost allocation methodologies or bases are generally used by human service agencies to allocate indirect costs: total direct costs, direct labor costs, direct labor hours, and direct costing (converting indirect costs to direct costs). Cost allocation is essential to the successful financial management of human service agencies and programs today.

Functional budgeting systems require the designation of intermediate and final output measures, the establishment of intermediate and final output objectives, and the computation of output costs (both intermediate and final outputs). Unit costs are determined by dividing total program cost by total intermediate outputs (units of service) and by total final outputs (service completions).

Program budgeting systems require the determination of program outcome objectives and the computation of cost per outcome. When programs share an outcome objective, cost per outcome is computed by dividing the total program cost of all programs that contribute to the outcome by the number of planned outcomes. When programs have their own individual outcome objectives, cost per outcome is computed by dividing each program’s total cost by the number of outcomes to be achieved.

Case Example For many years, basic family counseling, referral, and advocacy services were provided to the Hispanic community by Casa Familia, a small private agency funded by the United Way, several churches, and some local fund-raising events. Based on a recent needs assessment conducted by the county human services department, the top-priority needs in the Hispanic community are for employment training and placement, English as a second language (ESL) courses, and housing services. From a variety of sources, there could be a total of over $2 million per year if Casa Familia is able to expand its services to include these three top priorities, if it is able to present a cost allocation plan for the three new services, and if it can operationally define expected outcomes

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for the three new programs. If you were asked to consult with Casa Familia staff members to help them achieve these goals, how would you approach the budget requirements?

Review Questions 1. List and define budget categories in a line-item budget. 2. Determine program structure for the new programs. 3. Identify direct costs (direct costs are those items of expense to be incurred by a human service agency for

the benefit of only one program). Examples of direct costs include the following: salaries and wages of staff who work for only one program materials and supplies used for the benefit of only one program travel costs associated with only one program equipment used exclusively in one program any other costs that benefit only one program

4. Place all indirect costs in an indirect cost column (indirect costs are those items of cost that benefit two or more programs).

5. Explain why it is important to know the total cost (direct and indirect) of a human service program.

References 2 Code of Federal Regulations, chapter I, chapter II, part 200, et al.: Uniform administrative requirements, cost

principles, and audit requirements for federal awards. (2013, December 26). Federal Register, 78(248). Retrieved from http://www.gpo.gov/fdsys/pkg/FR-2013-12-26/pdf/2013-30465.pdf

Federal awarding agency regulatory implementation of Office of Management and Budget’s uniform administrative requirements, cost principles, and audit requirements for federal awards. (2014, December 19). Federal Register, 79(244). Retrieved from https://www.federalregister.gov/articles/2014/12/19/2014- 28697/federal-awarding-agency-regulatory-implementation-of-office-of-management-and-budgets-uniform

Hay, L., & Wilson, E. (1995). Accounting for government and nonprofit entities. Chicago, IL: Irwin.

Horngren, C., Foster, G., & Datar, S. (1997). Cost accounting: A managerial emphasis. Englewood Cliffs, NJ: Prentice Hall.

Martin, L. (2001). Financial management for human service administrators. Boston, MA: Allyn & Bacon.

Mayers, R. (2004). Financial management for nonprofit human service organizations. Springfield, IL: Charles C Thomas.