A measure of cost that consists of indirect materials, indirect labor costs and indirect expenses which are not directly identifiable or cannot be allocated to a cost object in a systematic manner or an economically feasible way. Overheads are allocated into the cost of a product/ service at a pre-determined rate (that defines the rate of absorption). Examples of overhead costs include office supplies, rent, utilities, insurance, legal fees, advertising, payroll (salaries and wages), and accounting fees (audit costs), etc.
The absorption of overheads into the cost of a product can be based on multiple methods including: production volume (units), labor hours (for labor intensive production), machine hours (for capital intensive production), percentage of direct material cost, percentage of direct labor cost, percentage of prime cost.
Overheads are classified on the basis of functions (cost centers) to which the overheads relate such as production overheads, administrative overheads, selling overheads, distribution overheads, etc. Overheads may also be classified on the basis of behavior (degree of variability) such as variable overheads, semi-variable overheads and fixed overheads.
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