AUDIT CLIENT: Department of Finance & Administration / Cross-Functional REPORT DATE: August 31, 2017

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1 A REPORT FROM THE OFFICE OF INTERNAL AUDIT PRESENTED TO THE CITY COUNCIL CITY OF BOISE, IDAHO AUDIT / TASK: #17-03, Cost Allocation Plan AUDIT CLIENT: Department of Finance & Administration / Cross-Functional REPORT DATE: August 31, 2017 AUDIT GRADE: Satisfactory REPORT AUTHOR: APPROVED FOR RELEASE: Steven Rehn CIA, CFSA Steven Rehn CIA, CFSA AUTHORITY: Boise City Code, FY2017 Work Plan

2 TASK #17-03, Cost Allocation Plan DATE OF ENGAGEMENT: March 16, 2017 INTRODUCTION In order to more fully determine the cost of various functions and programs, the City of Boise has long maintained an Indirect Cost Allocation process as part of its accounting efforts. Cost allocation plans are commonly used in governmental and public-service entities to recognize the value that internal, administrative functions provide to associated groups that deliver goods and services directly to the organization s customers. Allocating those costs from internal-facing to external-facing groups recognizes the benefits the external groups derive from the services provided to them, or that are provided on their behalf. Within the City of Boise, the internal groups providing those benefits generally encompass leadership; accounting and finance functions; legal; payroll and personnel; information technology; and facility maintenance, security, and depreciation. External groups are those city functions that provide services directly to the citizens fire and police; wastewater treatment, utilities, and environmental services; aviation; planning, building, and zoning; cultural programs; and various licensing and enforcement functions. Prior to Fiscal Year 2016, the City used a complex double-step-down methodology to spread costs amongst internal groups, and from there to the external groups. That methodology was discontinued at the beginning of FY 16 in favor of a simpler, more straight-forward plan based on indirect cost rates that are periodically determined, and then applied over the course of approved multi-year periods. Since the City of Boise is a recipient of federally-funded grants and awards, its cost allocation plan must be reviewed and approved by its lead federal agency referred to as its cognizant agency the Department of Housing and Urban Development in Boise s case. For FY 17, approximately $34.0 Million in indirect costs will be spread to the direct service groups through the allocation plan currently in effect. 2

3 SCOPE AND METHODOLOGIES The purpose of the audit was gain a reasonable degree of assurance that the management and implementation of the Cost Allocation Plan is based upon sound business processes. The controls that surround the allocation of indirect costs should ensure processes are conducted efficiently and effectively, while maintaining compliance with relevant law, rules, and regulations. Internal Audit defined the following specific objectives for the review: Review the cost allocation plan for reasonability, and for compliance with federal cost allocation guidelines. Review the current plan iteration to ensure cost drivers, and the resulting indirect cost determinations are consistent with the approved plan for both full cost, and for allowable cost (as defined in 2 CFR 225) for those programs receiving federal grants or awards. Verify the allocation of costs from indirect service groups to direct service groups within the City, and subsequently to active federal grants. The scope period was based around the allocations applicable to Fiscal Year 2017 activities, which encompassed various aspects of operations spanning Fiscal Years 2014 thru The methodologies employed, and the evidentiary materials developed were deemed to be sufficient to support the findings, recommendations, and conclusions contained within this report. 3

4 EVALUATION AND COMMENTS Based on the work performed, it appears the Indirect Cost Allocation Plan, as currently implemented, is functioning in a Satisfactory manner. As implemented, the Plan is successfully allocating costs that reasonably represent the benefits direct-service groups are realizing from the indirectservice support groups. (Refer to Appendix A for additional details concerning Internal Audit s existing grading scale.) Our review of the current Cost Allocation Plan encompassed a relatively wide range of activities that included: (1) A high-level review of the plan components and restrictions; (2) Verification of activity and volume measures used in determining some allocation rates; (3) Validation of costs and revenues for both indirect, and direct service groups used in other rate determinations; and (4) An in-depth review of formulas utilized in the automated tools used to calculate the rates and amounts. From there, we traced the rates through to the City s ERP system set-up, which drives the accounting entries associated with the allocations. Finally, we verified the expected allocations to amounts that were posted to both normal expenditures, as well as to select grant-funded transactions. In one case, it appears that an allocation rate established in the City s ERP system was under-stated, which resulted in an under-allocation of costs that were spread across associated direct-service groups. We also noted two other areas where the potential for improvements appeared to be present. Generally, those involved the retention of documentation; and corrections associated with minor formulaic and documentation issues none of which appeared to materially impact either the volume or the distribution of indirect costs allocated. These issues are presented in greater detail in the following sections of the report. 4

5 FINDINGS AND RECOMMENDATIONS Audit s Findings are detailed below; including any recommendations that were made, and management s responses to those suggestions. 1. FINDING: ERP System Allocation Rate The Cost Allocation Plan workbook is the primary tool utilized to determine rates for allocating administrative costs to associated service groups in three areas, one of which is the Department of Finance and Administration (DFA). While validating allocated amounts, we noted a discrepancy in costs that were spread from DFA Administration, and more specifically for amounts associated with allocations based on Maintenance and Operations expenditures. DFA Administration is unique in that two separate allocation rates were established to spread costs one for personnel, and another for maintenance and operations. When rates were loaded to the Lawson system s Cost Allocation module, the rate associated with DFA personnel costs was used in both areas. As a result, Maintenance and Operations costs appear to be allocated at a rate estimated to be approximately 20% below plan specifications. RECOMMENDATION In order to allocate costs on a basis more closely tied to benefits derived, Audit recommends system allocation percentages be revised to agree with the original plan documents. Adjusting entries to correct costs previously allocated may be necessary if the accumulated differences are deemed to be significant enough to justify correction. MANAGEMENT RESPONSE Management agrees that the cost allocation module did not have the correct rates as defined within the cost allocation plan workbook: parking services: personnel should have been allocated at 11% and M&O should have been allocated at 13.8%; licensing services: personnel should have been allocated at 11.8% and M&O should have been allocated at 14.7%. The allocation using two different rate was not consistent with other department allocations; therefore, the two rates were missed when the cost allocation module was set-up. Instead, one DFA admin rate of 11% 5

6 and 11.8% for parking and licensing services, respectively, were applied to the total of personnel and M&O costs during execution for each department. We quantitively evaluated the impact of not using two separate rates to allocate DFA-Admin charges to parking services and licensing services for the 9 months ended June 2017 and concluded there was no material understatement of cost allocated: Management has identified a new initiative to re-evaluate the cost allocation plan which includes evaluation of budget impacts, clarity of methodology, and consistency of application. Further, we are not confident allocating DFA admin costs separately to personnel and M&O was the original intent of the plan. Therefore, we have made the decision to not change the set-up in the cost allocation module for fiscal year We will consider this change in future years and as we reevaluate the cost allocation plan. Corrective Action to bolster internal controls: during system maintenance and changes, management will review inputs into the cost allocation module to ensure inputs are correctly populated in accordance with the approved cost allocation plan. Further, management will review and sign-off on a static version of the final cost allocation plan to ensure data integrity and effective execution of the plan. 6

7 OTHER AREAS OF CONCERN Internal Audit provides management with Other Area of Concern comments to direct attention to issues noted during a project that appear to deserve additional focus. We issued the following comments during this project. We did so with no expectation or requirement that a response be provided. Retaining Supporting Documentation Internal Audit reviewed the most current Cost Allocation Plan (CAP), and the workbooks and original documentation that had been utilized to devise the original plan ultimately approved for use. We performed verifications of both financial and non-financial bases that were utilized to determine the rates that spread indirect service costs to direct service groups. We noted the following: Activity Measures: Original supporting documentation for the plan did not always agree with figures used in the allocation process. Most variances were immaterial, diverging by 1% or less. Others varied somewhat more widely. Plan Inconsistencies: A limited number of minor inconsistencies were noted within the allocation processes / spreadsheet formulas, and supporting documentation associated with Indirect Service functions. Federal Code (2 CFR 225 Cost Principles for State, Local, and Indian Tribal Governments) requires that documentation used as a basis for claiming costs under Federal awards must be adequately documented and retained. Audit recommends that adequate documentation be developed and retained to support revenue, expense, and activity-level data that is used to allocate central service costs. Additionally, management may consider verifying original bases and formulas, and the associated references within the current Cost Allocation Plan workbook to ensure their veracity. 7

8 Cost Allocation Plan Changes Internal Audit noted during review of the Indirect Cost Allocation Plan (CAP), and the supporting documentation, that rates being used to allocate costs during the current year differed in some instances from those appearing in the original plan. The plan was initially approved as a predetermined rate plan. Federal guidelines indicate that any changes to this type of plan should be due to extra-ordinary circumstances. Otherwise, approved rates are expected to be utilized for approved periods of time typically from two to four years. Accounting corresponded with representatives of the cognizant agency (HUD) relative to needed plan alterations resulting from organizational changes experienced by the City. HUD responded to the request for change affirmatively, with the caveat that proposals and supporting documentation be retained for audit purposes. When we requested copies of supporting documentation, no information beyond the detail contained in the CAP workbook was available. Audit recommends management develop the documentation necessary to support the plan changes that have already taken place, as well as any additional alterations that might be necessary going forward. 8

9 CONCLUSION The overall purpose of the city s Cost Allocation Plan is to identify the total cost of providing specific services to the public. To do so, the efforts of central-service departments must be determined, and then distributed to direct-service groups in some logical and methodical manner. The process that has been put in place is successfully accomplishing that objective. As the plan currently in its initial approval / implementation period is refined and further institutionalized, it will likely result in a more efficient and more effective means of distributing costs. MANAGEMENT PARTICIPANTS Jennifer Jenkins, Controller / City of Boise Sabrina Peterson, Staff Accountant Sr / City of Boise 9

10 APPENDIX A Evaluation and Grading of Audits Each audit will be evaluated or graded, and will receive one of the three following ratings. Grades will be assigned based on the perceived best fit. Thus, not all attributes associated with an assigned grade may be present within a given Department or Division. Satisfactory No significant weaknesses or operational issues were noted during the audit. If any issues were noted, they did not materially detract from the business unit s ability to deliver services and / or to accomplish defined mission, goals, and objectives. Overall, systems of internal control are effective, and management oversight is adequate and effective. Needs Improvement Weaknesses or issues detrimental to operational efficiency or effectiveness existed within the audited area, and were encountered frequently enough to lose the appearance of isolated. Issues noted were strongly suggestive of an impaired ability to provide services at needed levels, or to accomplish mission, goals, and objectives successfully. Internal control mechanisms may not be universally in place, implemented, or actively observed. Management oversight is weak. Unsatisfactory Material or significant issues were noted within the operations under review. Issues posed risks that were mission-fatal; the business unit could not successfully deliver services in an acceptable fashion. Management failed to implement appropriate internal control mechanisms. Management oversight is ineffective, absent, or willfully avoided. 10