Indirect costs (overheads)

Last updated: 26.03.2016

Indirect costs are costs not directly and clearly identifiable with cost object (usually product or service). Together with direct (prime) costs they form total costs of the entity.

Indirect costs can be both fixed and variable, production and non-production or external and internal.

They are often called as OVERHEADS. Whether or not (and how) the terms differ is a subject of discussions but here suppose they are the same.

Although indirect costs are NOT DIRECTLY attributable to the product, some or all of the costs can be somehow allocated to it. There is a wide range of costing methods and different methods may be appropriate for different entities depending mostly on the type of production process.

 

DIVISION OF INDIRECT COSTS (OVERHEADS)

 

ACCOUNTING FOR INDIRECT COSTS (OVERHEADS) IN MOST ACCOUNTING SYSTEMS

Non-production overheads are treated as period costs and booked immediately to profit & loss statement.

Production overheads are either booked immediately to profit  & loss (less often) OR rather allocated partly or almost in full to the value of inventory (or possibly any other asset). They thus mostly become part of profit & loss statement after they are sold.

The treatment depends mainly on the accounting system/standard (IFRS, US GAAP, ….).

The treatment under IAS 2 – Inventories is as follows.

 

Because the production differs from industry to industry, or even from business to business it is difficult to prepare a detailed list of indirect costs (overheads). There are usually only a several general lists and definitions (see e.g. above) which can help to comprehend their meaning. Therefore, the final detailed classification is usually up to the entity.

 

Examples of direct/indirect costs split into variable/fixed and production/non-production:



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