Introduction
Managers in an organization ought to be conversant with cost allocation methods and all the consequences involved. Cost allocation is significant in an organization mainly for three reasons. One of the reasons financial managers should critically allocate costs is to obtain positive motivation (Finkler, Smith, Calabrese, & Purtell, 2017) . Cost allocations influence the behavior of the management team hence promoting managerial efforts and goal congruence. The second purpose of cost allocation is to compute revenue and valuation of assets. Managers often in planning, evaluation of performance and motivation of human resources apply this purpose. The third purpose of cost allocation is mainly to justify costs or get reimbursement especially when prices of items are based on costs. Based on the background above, this paper aims at discussing common cost allocation methods for patient-levels costs, including the ratio of costs to charges, relative value costs, and activity-based costing (Smith, 2015) .
Common Cost Allocation Methods for Patient-level Costs
In managerial accounting full cost used to run, a department in a healthcare organization is classified as either indirect or direct costs. Expenses incurred because a service in a particular department in the organization was provided and this cost appropriately recorded in the books of account are called direct costs (Finkler, Smith, Calabrese, & Purtell, 2017) . Indirect costs are the expenses incurred and cannot be associated with a particular department. Managerial accountings use two common methods in the allocation of the direct costs and indirect costs in a health care organization. These methods are direct and step-down cost methods. Direct apportionment method seeks to appropriate costs from overall services provided in a department to each service division in a single step (Finkler, Smith, Calabrese, & Purtell, 2017) . The direct method of cost allocation utilizes the financial accounting systems to appropriately record transferrable overheads for every single cost pool and handpick a cost driver for every indirect cost pool.
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Conversely, a step-down method is similar to the direct method conceptually. However, the former has intermediate steps added for every single cost allocation (Smith, 2015) . This method also called sequential method appropriates the costs of some service divisions or departments to other departments providing services, but no subsequent costs that are allocated to this other departments once the costs of service departments have been allocated or appropriated. It is significant for the managerial accounting to choose the department to commence with the cost allocation sequence. Production departments often have preferences over other departments in the sequence. However, it is essential to start with service departments responsible for delivering the highest percentage of services in a healthcare organization.
Relative Value Units, Ratio of Costs to Charges and Activity-Based Costing
Medicare organizations use Relative Value Units (RVU) as a measure of value formula to reimburse services provided by physicians. RVUs are cost drivers that require a measure of service values independently (Smith, 2015) . The RVU essence is that costs incurred during service provision to patients are accumulated for all services, and costs for every single service are measured against the average. On the other hand, Ratio of Costs to Charges (RCC) is a common cost driver that is used by the healthcare organizations to allocate costs from the level of departments going down to the individual patient level based upon the provision of services at a relative charge (Smith, 2015) . The RCC essence is to compile all services charge associated with the provision of services for each service against the average cost of all services in question. Activity-Based Costing (ABC) is used by Medicare organizations to gain more accurate and detailed information for determining departmental and service costs in the process of production with an aim to model the cost process (Finkler, Smith, Calabrese, & Purtell, 2017) .
References
Finkler, S. A., Smith, D. L., Calabrese, T. D., & Purtell, R. M. (2017). Financial management for public, health, and not-for-profit organizations. Thousand Oaks, California: CQ Press, an imprint of Sage Publications, Inc.
Smith, D. G. (2015). Cost Determination. In D. G. Smith, Understanding Healthcare Financial Management (pp. 1-22). Chicago, Illinois: Health Administration Press,.
