Accounting

How To Categorize Direct Departmental Overhead Costs

Direct departmental overhead costs: Inasmuch as overhead is allocated to all products, a lax or incorrect classification results in direct labor applying to only one product being allocated as indirect labor in the form of overhead to other products, thereby understating the one product cost and overstating the others.

The majority of direct departmental overhead costs can be categorized as follows:

1. Supervision, indirect labor, and overtime
2. Labor fringe benefits
3. Indirect materials and factory supplies
4. Repairs and maintenance
5. Equipment depreciation

These expense categories are generally readily identified with the originating department, whether producing or service. In the discussion that follows, detailed attention is given to each of the categories of direct departmental overhead costs.

Supervision, Indirect Labor, and Overtime. These factory labor categories, in contrast to direct labor, do not alter the shape or content of a product; they are auxiliary to its manufacture. It is important to realize that any factory labor not classified as direct labor is automatically classified as factory overhead.

Inasmuch as overhead is allocated to all products, a lax or incorrect classification results in direct labor applying to only one product being allocated as indirect labor in the form of overhead to other products, thereby understating the one product cost and overstating the others. Thus, decisions on whether or not to classify costs as direct labor can have an important effect on overhead rates. Direct labor cost is often used as the base for determining overhead rates. In such a case, a decision to classify certain labor as “indirect” reduces the denominator and increases the numerator of the ratio.

The premium portion of overtime paid should generally be charged as overhead to the departments in which the overtime occurred. This method should be followed for all labor except for special cases discussed in the labor chapters. However, the straight-time portion of overtime paid to direct labor employees should be charged to direct labor.

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