Apportionment (Accounting and Tax)

Apportionment is the division of a total amount among several parts in proportion to some measurable basis, such as floor space, headcount, sales or relative fair values. In accounting it is a particular kind of allocation: one in which the shares are set by a ratio rather than by direct measurement of what each part consumed. The word appears in cost accounting, in recording asset purchases and, most prominently in the United States, in state corporate income tax.

Apportionment is used whenever an amount is genuinely shared and cannot be traced to its users with precision. Because the result depends on the basis chosen, the choice must be reasonable and applied consistently, and in tax it is prescribed by law rather than left to judgment.

Three flatmates sharing a $1,500 rent might split it by the size of each bedroom. If one room is half the total floor area and the other two are a quarter each, the rents are $750, $375 and $375. Nobody measures how much each person actually uses the kitchen; the floor area is a fair, simple proxy.

Businesses apportion costs and income in the same spirit. They pick a measure that roughly reflects how much each part benefits or earns, and divide the total in proportion to it.

In cost accounting, especially in British usage, apportionment means spreading an indirect cost among several cost centers on a suitable basis. Factory rent might be apportioned by floor area, canteen costs by number of employees and insurance on machinery by the value of equipment in each department. The apportioned costs are later absorbed into products through overhead rates, becoming part of applied overhead.

For example, a $120,000 rent bill for a building of 20,000 square feet, of which machining occupies 9,000, assembly 7,000 and the warehouse 4,000, is apportioned $54,000, $42,000 and $24,000 respectively.

When several assets are bought for a single price, the cost must be apportioned among them in proportion to their relative fair values, because each asset is treated differently. Land is not depreciated, while buildings and land improvements are. If a property costs $900,000 and appraisals value the land at $300,000 and the building at $700,000, a total of $1,000,000, the land is recorded at 30% of $900,000, or $270,000, and the building at 70%, or $630,000. Getting this split right affects depreciation for decades.

A corporation doing business in several US states cannot be taxed by each state on all of its income. States therefore use an apportionment formula to work out what share of a company's business income each may tax. The traditional formula, based on the Uniform Division of Income for Tax Purposes Act, averaged three factors: the share of the company's property, payroll and sales located in the state. Many states have since moved to a single sales factor, apportioning income purely by the share of sales made to customers in the state, and many now source sales of services to where the customer receives the benefit.

A company with $10 million of apportionable income and 15% of its sales in a single-sales-factor state reports $1.5 million of income to that state. Before a state can apply its formula, the company must have a sufficient connection, or nexus, with the state. Apportionment rules vary state by state, so multistate income tax compliance is a specialist area, and differences between states' formulas can cause some income to be taxed twice or not at all.

All apportionment is an approximation. A floor-space basis ignores that one department may use far more heating or security than another; a sales-factor formula ignores where a company's employees and factories are. Managers relying on apportioned costs for decisions should separate them from avoidable costs, a point developed under relevant cost, because apportioned amounts often continue even if the activity that received them is dropped. Reports should also state the bases used, consistent with the full disclosure principle.