Reciprocal Distribution Method of Cost Allocation

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  • 0:03 The Reciprocal…
  • 0:37 How Does it Work?
  • 1:07 Benefits of Reciprocal…
  • 1:45 Problems of Reciprocal…
  • 2:20 Lesson Summary
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Lesson Transcript
Instructor: Kevin Newton

Kevin has edited encyclopedias, taught history, and has an MA in Islamic law/finance. He has since founded his own financial advice firm, Newton Analytical.

The reciprocal distribution method of cost allocation solves one of the primary issues in cost allocation: how to allocate costs between service departments. This lesson teaches how to use the method.

The Reciprocal Distribution Method

If you've been looking at methods of cost allocation for long, you'll notice that a number of them have certain issues. The direct method allows for the quick assigning of costs, but only to production departments. Meanwhile, the step-down method allows you to assign costs from one service department to another, but those costs can only go in one direction. Two departments cannot assign each other costs.

However, there is a solution that allows different departments to do just that. In the reciprocal distribution method, there can be a situation in which costs are assigned at will between service departments.

How Does it Work?

Well be warned, the math for doing this is a little involved. The reciprocal distribution method is also called the simultaneous equation method, and that's because you'll have to use simultaneous equations. You know, the ones you learned back in high school.

Essentially, you have to set up two equations, one equal to the total overhead cost of each department. From there, you substitute one equation in for the value of one of the variables and solve. Then, plug in the other known value and solve for the final overhead cost.

Benefits of Reciprocal Distribution

By far the biggest advantage of the reciprocal distribution method is that it allows for you to account for the fact that service departments often provide services for one another. The direct method of cost allocation completely ignores this, while the step-down method only permits movement in one direction. However, two departments can both give and receive services from one another by use of the reciprocal distribution method.

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