CAS 403 - Allocation of Home Office Expenses to Segments

CAS 403 - Allocation of Home Office Expenses to Segments. The purpose of CAS 403 is to establish criteria for allocating home office expenses to the segments of the organization on the basis of a beneficial or causal relationship. A home office is one that is responsible for directing or managing two or more but not necessarily all segments of an organization (CAS 403.30(a)(2). This definition includes intermediate levels of home offices such as group organizations which report to a common home office. An intermediate level may be both a segment and a home office.

In the context of CAS 403, there are three types of home office expenses.

1. Expenses incurred for specific segments
2. Expenses that have a clear relationship (i.e. measurable with reasonable objectivity) to two or more segments.
3. Residual expenses which possess no readily measurable relationship to segments.

Expenses that are incurred for specific segments are to be allocated directly to those segments to the maximum extent practical. Expenses that are not directly allocable, but possess an objective measurable relationship to segments, should be grouped in logical and homogeneous expense pools and distributed over allocation bases reflecting the relationship of the expenses to the segments concerned. These allocations, to the extent practical should minimize the amount of expenses which may be categorized as residual expenses.

CAS 403 provides a few examples of home office expenses and suggested methods for allocating or assigning these costs to segments.

1. Centralized service functions are to be allocated to segments on the basis of the service furnished to or received by each segment. Examples include centrally performed personnel administration and centralized data processing.
2. Staff management or policy guidance functions shall be allocated to segments receiving more than a minimal benefit over a base (or bases) representative of the total specific activity being managed.
3. Line management shall be allocated only to the particular segment or group of segments which are being managed or supervised.
4. Central payments or accruals shall be allocated directly to segments to the extent that all such payments or accruals of a given type or class can be identified specifically with individual segments. Examples of central payments include pension, insurance, state and local taxes, payrolls, etc.

Residual Expenses. The method for allocating residual expenses is a two part process. First, there is a formula for determining whether residual expenses are material. If material, residual expenses must be allocated to segments over a three-factor formula. If not material (in the context of CAS 403), residual expenses must be allocated to all segments by means of a base representative of the total activity of such segments.

To determine materiality, take the residual expense pool and compare it to the aggregate operating revenue of all segments, factored as follows: 3.35 percent of the first $100 million, 0.95 percent of the next $200 million, 0.30 percent of the next $2.7 billion, and and 0.20 percent of amounts over $3 billion. If residual expenses exceed this amount, contractors must allocate the expenses over a three-factor formula. The three-factor formula consists of payroll dollars, operating revenue (net of interdivisional purchases), and average net book values of tangible capital assets and inventories (net of progress payment billings). 

Regardless of the method, there may be instances where a particular segment receives significantly more or less benefit from residual expenses than would be reflected by the allocation of such expenses pursuant to the standard. In these cases, a special allocation may be agreed to by the parties provided such special allocation is commensurate with the benefits received (CAS403.40(c)(3)).