In my previous blog, I discussed the rules that must be followed in order for a nonprofit to classify certain activity costs as “program”, instead of “fundraising." These rules relate to the purpose, audience, and content of the activity. In the event that not all three of these criteria are met, the organization should still determine what expenses are directly related to exchange transactions (for example, the cost of a meal that is provided during a special event). These expenses are generally not charged to fundraising.
If the purpose, audience, and content criteria are met for a particular activity, other costs (not all) can be shifted to the program category. In this article, I’ll lay out a few examples of how this allocation can be done. These illustrations are from the AICPA’s Statement of Position 98-2, Appendix F.
Physical Units Method
Joint costs (those costs not specifically identifiable to program, management/general, or fundraising) are allocated to materials and activities in proportion to the number of units of output that can be attributed to each of the materials and activities. Examples of units of outputs can be lines in a letter, square inches of a postcard, etc. In order for this method to be somewhat accurate, the output measures should reflect the degree to which costs are incurred for the joint activity. Use of this method can be difficult when the content is inseparable and not identifiable with program, management/general, or fundraising costs.
Assume a direct mail campaign meets the three criteria for joint cost allocation. If 45 lines of the total 100 lines of the letter and reply card include a call for action by the recipient, while the other 55 lines include a fundraising appeal, 45% of the total costs of the mailing campaign would be allocated to program while 55% would be considered fundraising.
Relative Direct Cost Method
Joint costs are allocated to each of the components on the basis of their respective direct costs. This method will only result in a reasonable allocation of costs if the joint costs of the materials and activity are incurred in approximately the same proportion and for the same reasons as the direct costs of the materials and activity.
Assume a direct mail campaign includes $20,000 of materials directly attributable to program content and a call to action by the recipient. Additionally, $80,000 of costs can be identified in producing the fundraising letter that will be included in the mailing. Other joint costs associated with the direct mail campaign (postage, labor, envelopes, etc) total $40,000. These joint costs would be allocated as follows:
Program: $20,000/$100,000 x $40,000 = $8,000
Fundraising: $80,000/$100,000 x $40,000 = $32,000
Stand-Alone Joint Cost Allocation Method
Joint costs are allocated to each component of the activity based on a ratio that uses estimates of costs of items included in joint costs that would have been incurred had the components been conducted independently. This method assumes the efforts for each component in a stand-alone situation are proportionate to the efforts actually undertaken in the joint cost effort, which may or may not be true.
Assume that joint costs associated with a direct mail campaign including both program and fundraising components total $100,000. The separate costs would have been $90,000 for the program component and $70,000 for the fundraising component. These joint costs would be allocated as follows:
Program: $90,000/$160,000 x $100,000 = $56,250
Fundraising: $70,000/$160,000 x $100,000 = $43,750
These three examples only allocate joint costs between program and fundraising. You could certainly have a case where costs should also be allocated to the management/general category, depending on the circumstances.