Health Care Financing & Information Systems-For Tutor Beth Only

Common Cost Allocation

Lisa M. Buentello

HCA311: Health Care Financing & Information Systems

Professor Kathleen Martocci

May 25, 2015

Common Cost Allocation

Cost allocation is a method that is used to determine the total cost of services that are provided to the users of that kind of service. This method does not determine the total price of the service provided, but it rather determines the cost of providing that service. It is always important to determine the cost allocation of any service, in order to be able to determine justifiable charge or tax for those services. There are several cost allocation methods that are used such as direct or separable method, indirect or common cost methods and incremental cost method. Direct cost are related to only one single service that is delivered to only one type of output or user for example, sector to sector hand-off. Incremental cost they usually change with the changes in the level of output produced (Peter, 1999).

Common cost allocation method is used to determine the total cost of different services that are provided; an example of common cost is physical enroute facility. Common costs are the cost insured in the supply one several products, these cost cannot be attributed to one product because they are not directly affected by the changes in the output of any single product. There are two common methods used by healthcare organizations that allocate indirect costs: the direct method and the step-down method (Smith, 2014).

Direct method of cost allocation is known to be the most popular method used in cost allocation. Direct method is used to allocate total cost in the service department to the production department, this method does not take into account the services offered by the service department to other departments. Direct method of cost allocation it fails to consider the fact that service departments they usually offer services to one another. For example, in an organization, the HR departments is responsible for recruiting staffs for the maintenance department and at the same time maintenance departments maintains the HR department facilities.

The step down method takes into account the fact that there are different service department offering services to another department. The method considers the costs that are incurred by both HR and maintenance department. Step down method of cost allocation ranks all service departments according to the importance of service and then uses several steps to allocate cost of different products that are involved. This method is of cost allocation is more complicated as compared to the other methods but the results of cost allocation are always correct.

The common cost allocation methods for patient-level costs, including relative value units, ratio of cost to charges, and activity-based costing. Under this method each service department, costs are normally allocated only among the direct patient care departments that use or consume service department’s output. This method fails to consider the fact that there are some service departments that provide service to some other service departments. In health care center, clinic’s personnel department offers service to other service departments and none of these costs which are allocated under this method.

Direct-patient-care departments using services

		orthopedics	Internal medicine
Service provider	Allocated cost	proportion	Amount	proportion	Amount
Patient records	$100000	4/10	40000	6/10	60000
personnel	60000	50/75	40000	25/75	20000
Accounting and administration	200000	35/40	175000	5/40	25000
total	360000		255000		105000

Grand total=360000

Proportion of the cost for each department is allocated to each direct care patient department which is determined by proportion by the total output consumed by every direct-patient care department. For example, in the above illustration it shows that administration and accounting department provides 35% of its services to orthopedics and 5% to internal medicine. Summation of these two percents yields 40%, this means 35/40 is the proportion of accounting and administration cost which is allocated to orthopedics and 5/40 is the proportion that is allocated to internal medicine.

References

Peter, D. &. (1999). Activity Costing and Input -Output Accounting. New York: Harper Business.

Smith, D. G. (2014). Introduction to healthcare financial management. San Diego, CA:

Bridgepoint Education, Inc. Retrieved from: https://content.ashford. edu.