Accounting

# How To Calculate Predetermined Overhead Rate

#### The illustration uses four producing departments here such as Cutting, Planing, Assembly, and Upholstery; and four service departments: Materials Handing, Inspection, Utilities, and General Plant. The total estimated overhead prepared has now been departmentalized, but under the account classification described above and with a slight modification of figures for ease to calculate predetermined overhead rate.

The fixed-variable cost classification has been retained. Its purpose will be explained. The calculation of predetermined overhead rate for departmentalized factory operations proceeds in the following manner:

### Method to Calculate Predetermined Overhead Rate

1 . Estimate or budget total direct factory overhead of producing and service departments at the selected activity levels. Determine the fixed (F) and variable (V) nature of each expense category whenever possible, because it will be useful.

Indirect departmental expenses are prorated in two ways: electric power, fuel, and water are charged to Utilities from where a distribution is made; depreciation of building, property taxes, and fire insurance are prorated only to producing departments on the basis of floor area as shown in the Factory Survey (Schedule A); i.e., 25 percent of \$5,000 = \$1,250 charged to the Cutting Department for building depreciation. However, as an alternative, these costs could also be allocated to service departments as well as to producing departments. Certain rules are followed for the transfer of service department overhead to benefiting departments.

In the course to calculate predetermined overhead rate,One rule states that service department expenses should be transferred on the basis of the use made by producing and other service departments of the respective services. In order to use this rule, a decision must be made with respect to the service department which should be closed first, for service from a service department is received not only by producing departments but also by other service departments.

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