Applied Overhead
Applied overhead is a type of direct overhead expense that is recorded under the cost-accounting method. Applied overhead is a type of overhead that is a direct cost related to a specific production job, good produced, or department within a company. Applied overhead stands in contrast to general overhead, which is an indirect overhead, such as utilities, salaries, or rent. For instance, a business may apply overhead to its products based on a standard overhead application rate of $35.75 per hour of machine & equipment time used. Applied overhead is a type of direct overhead expense that is recorded under the cost-accounting method.
What Is Applied Overhead?
Applied overhead is a type of direct overhead expense that is recorded under the cost-accounting method. Applied overhead is a fixed rate charged to a specific production job, good produced, or department within a company. Companies use cost accounting to identify the expenses associated with manufacturing.
It is a category of overhead that is traceable. Applied overhead stands in contrast to general overhead, which is an indirect overhead, such as utilities, salaries, or rent.
Understanding Applied Overhead
Overhead refers to the ongoing business expenses not directly attributed to creating a product or service. It is important for budgeting purposes and determining how much a company must charge for its products or services to make a profit. In short, overhead is any expense incurred to support the business while not being directly related to a specific product or service.
Applied overhead is usually allocated out to various departments according to a specific formula. Hence, a certain amount of overhead is therefore applied to a given department, such as marketing. The percentage of overhead that is applied to a given department may or may not correlate to the actual amount of overhead incurred by that department.
Applied overhead costs include any cost that cannot be directly assigned to a cost object, such as rent, administrative staff compensation, and insurance. A cost object is an item for which a cost is compiled, such as a product, product line, distribution channel, subsidiary, process, geographic region, or customer.
Overhead is generally allocated (or applied) to cost items based on a standard methodology that is used consistently from one period to the next. For example:
Example of Applied Overhead
For instance, a business may apply overhead to its products based on a standard overhead application rate of $35.75 per hour of machine & equipment time used. Since the total amount of machine-hours used in the accounting period was 7,200 hours, the company would apply $257,400 of overhead to the units produced in that period.
From a management perspective, the analysis of applied overhead (and underapplied overhead) is an integral part of financial planning & analysis (FP&A) methods. By analyzing how costs are assigned to certain products or projects, management teams can make better-informed capital budgeting and financial-related operations decisions. In turn, with better analytics, management can achieve better capital use efficiency and return on invested capital, thereby increasing business valuation.
Related terms:
Activity-Based Costing (ABC) & Method
Activity-based costing (ABC) is a system that tallies the costs of overhead activities and assigns those costs to products. read more
Activity Cost Pool
An activity cost pool is an aggregate of all the costs associated with performing a particular business task, such as making a particular product. read more
Business Expenses
Business expenses are costs incurred in the ordinary course of business. Business expenses are deductible and are always netted against business income. read more
Cost Accounting
Cost accounting is a form of managerial accounting that aims to capture a company's total cost of production by assessing its variable and fixed costs. read more
Departmental Overhead Rate
The departmental overhead rate is defined as an expense rate for every department in a factory production process. read more
Distribution Channel : How It Works
A distribution channel is a chain of businesses or intermediaries through which a good or service passes until it reaches the end consumer. read more
Managerial Accounting
Managerial accounting is the practice of analyzing and communicating financial data to managers, who use the information to make business decisions. read more
Marketing
Marketing refers to the activities of a company associated with buying, advertising, distributing, or selling a product or service. read more
Overhead Rate
An overhead rate is a cost allocated to the production of a product or service. Overhead costs are expenses that are not directly tied to production such as the cost of the corporate office. read more