GL - Account Allocations
An allocation is a process of shifting overhead costs to cost objects, using a rational basis of allotment. Understand what is the meaning of allocation in the accounting context and how defining mass allocations simplifies the process of allocating overheads to various accounting segments. Explore types of allocations and see some practical examples of mass allocations in real business situations.
What is Account Allocation?
Allocation is the act of distributing according to a plan. As per the dictionary allocate means to set apart for a special purpose; designate; distribute according to a plan. From an accounting context, it means a system of dividing overhead expenses between the various departments of a business. Figuratively, earmarked is often used in regard to monetary allocations although it is heard in other contexts as well.
The allocation also refers to a piece of the pie, a share in the profits, a portion of whatever is being divided up and parceled out usually money, but in an accounting context is applicable to account balances. This expression probably has its origin in the graphic representation of budget allotments in circular, pie-shaped form, with various sized wedges or pieces indicating the relative size of allocations to different agencies, departments, etc.
Concept of Mass Allocations:
Mass allocations is a functionality offered by many automated systems and ERPs to distribute the account balances from one account to several others based on a formula or mathematic logic. Users can define a Mass Allocation formula to create journals that allocate revenues and expenses across a group of cost centers, departments, divisions, locations, and so on using any accounting dimension available. Users can include parent values in allocation formulas that can enable allocating to the child values referenced by the parent without having to enumerate each child separately.
Different Type of Allocations:
The commonly used allocations can be grouped as follows:
- Net Allocations: allocated amounts that reflect changes to the cost pool.
- Step–Down Allocations: distributing amounts from one allocation pool to a subsidiary allocation pool.
- Rate-Based Allocations: using current, historical, or estimated rates to allocate costs.
- Usage-Based Allocations: using statistics such as headcount, units sold, square footage, number of deliveries, or computer time consumed to calculate allocation amounts.
- Standard Costing Allocations: using statistics such as sales units, production units, number of deliveries or customers served to perform standard costing.
Examples of Allocation:
Allocations can be used in various practical business situations. For example, consolidated rent paid can be allocated to another division based on the area of usage, or, a pool of marketing costs can be allocated to several departments based on the ratio of department revenues to total revenues. Some of the commonly used examples are:
- Distributing rent to departments based on area
- Distributing common project costs to various cost centers
- Distributing head office expenses to sales offices based on the volume of sales
- Distributing marketing costs to product lines based on revenue
- Distributing common employee expenses to employee cost for assessments
In the example shown in the figure, we have a company which has taken a 1000 square feet office space on rent. The expenses for rent are borne by the head-office and payment to the landlord is also made by the head office. To know the true profitability of each of the departments (Department A, B & C) the rent needs to be allocated to each one of them.
Each department occupies different areas and the company has taken the measurement of the areas occupied by each of the departments. In the example shown here, the rent is being allocated to different departments based on their usage factor. This is an example of the concept of allocation and automated accounting systems help handle complex allocations programmatically.
Difference between Allocations & Recurring Journals:
Recurring Journals are for transactions that repeat every accounting period and allocation Journals are for single journal entry using an accounting or mathematical formula to allocate revenues and expenses across a group of accounting dimensions like cost centers, departments, divisions, locations, or product lines depending upon usage factors.
Related Links
You May Also Like
-
GL - Understanding Chart of Accounts
A chart of accounts (COA) is a list of the accounts used by a business entity to record and categorize financial transactions. COA has transitioned from the legacy accounts, capturing just the natural account, to modern-day multidimensional COA structures capturing all accounting dimensions pertaining to underlying data enabling a granular level of reporting. Learn more about the role of COA in modern accounting systems.
-
In some of the ERP tools, there are more than 12 accounting periods in a financial year. This article discusses the concept of accounting calendar and accounting periods. Learn why different companies have different accounting periods. Understand some of the commonly used periods across different organizations and the definition & use of an adjustment period.
-
Concept of Representative Office
A representative office is the easiest option for a company planning to start its operations in a foreign country. The company need not incorporate a separate legal entity nor trigger corporate income tax, as long as the activities are limited in nature.
-
The general ledger is the central repository of all accounting information in an automated accounting world. Summarized data from various sub-ledgers are posted to GL that eventually helps in the creation of financial reports. Read more to understand the role and benefits of an effective general ledger system in automated accounting systems and ERPs.
-
GL - Different Accounting Methods
The accounting method refers to the rules a company follows in reporting revenues and expenses. Understand the two common systems of bookkeeping, single, and double-entry accounting systems. Learners will also understand the two most common accounting methods; cash and accrual methods of accounting and the advantages and disadvantages of using them.
-
Learn the typical accounting cycle that takes place in an automated accounting system. We will understand the perquisites for commencing the accounting cycle and the series of steps required to record transactions and convert them into financial reports. This accounting cycle is the standard repetitive process that is undertaken to record and report accounting.
-
Hierarchical Organization Structures
Hierarchical structure is typical for larger businesses and organizations. It relies on having different levels of authority with a chain of command connecting multiple management levels within the organization. The decision-making process is typically formal and flows from the top down.
-
For any company that has a large number of transactions, putting all the details in the general ledger is not feasible. Hence it needs to be supported by one or more subsidiary ledgers that provide details for accounts in the general ledger. Understand the concept of the subsidiary ledgers and control accounts.
-
Horizontal or Flat Organizational Structures
Flat organizational structure is an organizational model with relatively few or no levels of middle management between the executives and the frontline employees. Its goal is to have as little hierarchy as possible between management and staff level employees. In a flat organizational structure, employees have increased involvement in the decision-making process.
-
Matrix Organizational Structures
In recent times the two types of organization structures which have evolved are the matrix organization and the network organization. Rigid departmentalization is being complemented by the use of teams that cross over traditional departmental lines.
