Cost Allocation Methodology Best Practices

When non-payroll costs benefit two or more awards or projects it is required that departments understand the benefit to each award and document the allocation methodology used to charge each award. As non-compliance in documenting and applying a cost allocation methodology is an area of focus for all audits, adhering to the following best practices is recommended.

Why is Cost Allocation Important?

Uniform Guidance Subpart E §200.405 (d), Allocable Costs, stipulates that it is necessary to substantiate the proportional benefit of costs when costs benefit two or more projects.

“If a cost benefits two or more projects or activities in proportions that can be determined without undue effort or cost, the cost must be allocated to the projects based on the proportional benefit.”

These costs should be simply allocated to each award to reflect the easily determined proportional benefit.

“If a cost benefits two or more projects or activities in proportions that cannot be determined because of the interrelationship of the work involved, then … the costs may be allocated or transferred to benefited projects on any reasonable documented basis.”

When non-payroll costs benefit two or more projects or activities in proportions that are not easily determined, an allocation is necessary.

When to Use Cost Allocation

Cost allocation is required when non-payroll costs benefit two or more projects or activities in proportions that are not easily determined. Note that payroll costs should always be distributed based on actual effort that accurately reflects the work performed during the applicable time period, as covered in §200.430 Compensation - personal services.

Allocation methodologies differ based on:

  • Whether the costs apply to one or multiple awards or projects, and
  • Whether or not the relative benefits of the cost can be easily determined and measured.

Cost allocation methodologies are as follows:

  • Costs charged to one award or project based on an easily determined, measurable benefit to the project or activity.
  • Costs allocated among multiple awards or projects based on an easily determined, measurable relative benefit across several benefiting projects or activities.
  • Costs allocated among multiple awards or projects based on relative benefit when the benefit is known, but not easily determined or not practically measurable across several funding sources. An allocation uses a reasoned basis to approximate the measurable benefit to distribute a direct cost.

Required Components of Cost Allocations

Departments must document the following components of an allocation:

  1. The percentage of the cost charged to each project or activity
  2. The method or reasoning used to derive that percentage
  3. Accompanying documentation and, where applicable, approvals

Cost Allocation Best Practices

The following are best practices for allocating costs and documenting the methods used.

  1. Whenever possible, identify the basis of the allocation method before purchasing or ordering the goods or services.
  2. Across a department or research group, apply appropriate allocation methodologies that best fit the expense types and allocation cost basis, rather than using the same methodology for all costs in the department.
  3. Document the allocation methodology prior to, or concurrently with, the costs being incurred and allocated. Include the rationale for using the selected basis to approximate the relative benefit received by each project or activity.
  4. Review allocations regularly to ensure they continue to reflect the correct proportions of benefit to the projects or awards.
  5. Obtain approvals according to department practices.

Documenting Departmental Cost Allocation Methodologies

It is important that departments document the methodologies that are used for all award and project costs that must be allocated. Best practices include the following:

  • Once the allocation methodology has been determined and approved, retain the documentation with records of the financial transaction.
  • Document the rationale or logic that supports the linkage between costs incurred and proportional benefit to all benefiting projects.
  • Document the determination or calculation of percentages used to allocate costs to all benefiting projects, including all supporting metrics such as headcounts, FTEs, etc.
  • Document the process for updating the methodologies used for particular costs, including the frequency of review, revision, and approval to ensure that costs remain allocated based on relative benefit to all benefiting projects.
  • If the allocation requires a calculation for each distribution, attach documentation supporting the calculation with records of the financial transaction.
  • If the allocation does not require a calculation for each distribution and uses a department-approved methodology, document the methodology with records of the financial transaction.

Cost Allocation Examples

Cost allocation based on usage. The monthly cost of supplies/expendables to maintain a lab computer system is $1,000. The computer system is used solely for projects A and B. The computer operating system keeps a log of users and their time on the system. Project A assistants have 100 combined user hours a month and Project B assistants have 80 combined user hours a month. A reasonable base to allocate the expense would be computer user hours.

  • The cost allocated to Project A is $560 (100 user hrs. / 180 total user hrs. x $1,000).
  • The cost allocated to Project B is $440 (80 user hrs. / 180 total user’s hrs. x $1,000).

Cost allocation based on effort. A research assistant spends 80% effort on Project A and 20% effort on Project B. The research assistant uses supplies totaling $3,000 per month on the two projects. Usage is directly related to the amount of effort devoted to each project.

  • $2,400 (80% of $3,000) is charged to Project A.
  • $600 (20% of $3,000) is charged to Project B.

Cost allocation based on square footage. A total of $3,000 a month in rent is paid for two laboratories that are conducting similar research. In this example, the square footage of the laboratories could be used as a reasonable basis. Lab A is 1,600 square feet and Lab B is 1,200 square feet.

  • Lab A is charged $1,714 (1,600 sq. ft / 2,800 sq. ft x $3,000).
  • Lab B is charged $1,286 (1,200 sq. ft / 2,800 sq. ft x $3,000).