Hospital cost accounting when set up and maintained properly will enable the facility to charge the patient the proper amount. This is not as easy as it may seem. Facilities are performing many services under one roof, and in many cases under several roofs. The proper allocation of costs to a specific procedure can be difficult.

Normally, standard costs are used to help drive costs to a specific service. Standard cost accounting is broken down into cost elements to aid in cost allocation. These elements are direct labor, indirect labor, material costs, and burden costs.

Direct labor is the cost of the employees that provide the actual service. A standard is determined for each service by determining the time it takes multiplied by the labor cost per hour.

Indirect labor are the employees that do not actually perform the service, but are necessary to be able to provide the service. Maintenance, and support employees are some examples.

Material costs are any purchased materials that are used in the service.

Burden costs are the costs to operate the facility (rent, heat, electricity, etc.), employee benefits, etc. Burden is the most difficult cost element to allocate. To begin allocation, the cost accountant starts with the budget for the new year. The budget will have all the costs for the facility. These burden costs are then allocated based on an allocation method that the cost accountant and management have agreed upon.

The burden allocation method may be to determine the difficulty of a service and rate services based on this. For example, an easy service may get a rating of 1, while a very difficult service that consumes many resources may rate a 4. Burden costs are then allocated based on the rating. Another method is to base the burden costs on a percentage of direct labor. There are many ways to allocate burden, but the most accurate burden allocation method for a particular facility, will be the one that fairly allocates burden, and most closely resembles the actual costs used.

Once the costs are known for each service, management can make good decisions. They can determine if costs are too high for the revenue collected, and can recognize opportunities for cost savings. Some of the largest decisions management has to make are whether to continue along providing the services it currently is providing or adding or removing services. Can a facility reduce its burden rates for all services if it adds more services? If expensive equipment is purchased, will the facility be able to provide services to increase revenue and reduce the burden rates? These are very difficult decisions that are made, but decisions that are made much easier with an accurate hospital cost accounting system.