Measuring and recording manufacturing overhead cost

By: Rashid Javed | Updated on: November 4th, 2021

Manufacturing costs other than direct materials and direct labor are known as manufacturing overhead or factory overhead. It usually consists of both variable and fixed components. Examples of manufacturing overhead cost include indirect materials, indirect labor, factory and plant depreciation, salary of production manager, property taxes, fuel, electricity, grease used in machines, and insurance expenses etc.

Unlike direct materials and direct labor, manufacturing overhead is an indirect cost that cannot be directly assigned to individual jobs or units of products. This problem is solved by using an allocation rate which is computed at the beginning of each period. This rate is known as predetermined overhead rate.

Application of manufacturing overhead:

As stated earlier, the predetermined overhead rate is computed at the beginning of the period and is used to apply manufacturing overhead cost to jobs throughout the period.

Manufacturing overhead cost is applied to jobs as follows:

Overhead applied to a particular job = Predetermined overhead rate × Amount of the allocation base incurred by the job

Example:

Suppose the GX company has completed a job order. The time tickets show that the workers have worked for 27 hours to complete the job. The predetermined overhead rate computed at the beginning of the year is $8 per direct labor hour. The manufacturing overhead cost would be applied to this job as follows:

Overhead applied to a particular job = Predetermined overhead rate × Amount of the allocation base incurred by the job
= $8.00 × 27 DLH
= $216

The manufacturing overhead cost assigned to the job is recorded on the job cost sheet of that particular job.

A D V E R T I S E M E N T

Journal entry to record manufacturing overhead cost:

The manufacturing overhead cost applied to the job is debited to work in process account. The journal entry for the application of manufacturing overhead cost computed in the above example would be made as follows:

measuring-and-recording-manufacturing-overhead-cost-img1

The reason of using a predetermined overhead rate rather than actual overhead costs:

Notice that the procedure of the application of manufacturing overhead described above is based on an estimated overhead rate (i.e., predetermined overhead rate). The manufacturing overhead cost applied to the production is, therefore, not the actual overhead cost incurred by the job.

The reason of using this estimated rate is that the total actual manufacturing overhead costs are usually not known to managers before the end of the year. The application of manufacturing overhead based on a predetermined overhead rate helps in computing cost of goods sold of a particular job before it is shipped to the customer.

The use of predetermined overhead rate to apply manufacturing overhead cost to products or job orders is known as “normal cost system”.

A D V E R T I S E M E N T
9 Comments on Measuring and recording manufacturing overhead cost
  1. khalid

    The content is really useful in terms of the numerical work, but I am a little bit confused about whether both the ACTUAL MOH and APPLIED MOH accounts are treated simultaneously or only APPLIED MOH account is used throughout the year and closed into ACTUAL MOH account, because the ACTUAL MOH costs are usually not known before the end of the year.

    1. Liz

      They are one account. MOH is a clearance account (meaning it’s closed at the end of every time period). Besides thinking of it as a DR and CR, think of the left side as actual and the right side as applied.

      On the left goes any indirect materials, indirect labor, and other manufacturing OH costs you know you pay out (either in cash, payable, or accumulated depreciation, although you don’t pay a/d, you just record it as an accrual). On the right, that’s where you put your applied MOH (so when you apply it, you DR WIP and CR MOH).

      At the end of every time period, you then close out any difference from MOH to COGS.

  2. Tine

    Hi! Does the actual cost include direct-labor hours, machine hours, raw materials cost, and manufacturing overhead cost? thanks for the answer! God Bless!

    1. Liz

      No. Actual MOH goes in the DR side of manufacturing overhead. The right side (CR side) is where you put your applied MOH. To get your applied MOH, you calculate your POH then multiply it by the actual amount of the driver you used.

  3. Desmond A'ai

    hrs x predetermined overhead rate

  4. selam

    how can we journalize the estimated over head cost when the cost is estimated to applied job works?

  5. Octave oxon

    does administration and selling expenses go into job cost sheet

  6. kristine15

    Then what are the key source documents in job-order costing in a manufacturing company ? Thank you.

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