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Exercise 3-14 : Overhead Rates and Capacity Issues

Security Pension Services helps clients to set up and administer pension plans that are in
compliance with tax laws and regulatory requirements. The firm uses a job-order costing system
in which overhead is applied to clients’ accounts on the basis of professional staff hours
chargedto the accounts. Data concerning two years appear below.

2008 2007
Estimated professional staff hours to be charged to clients’ accounts 4,600 4,500
Estimated overhead cost $310,500 $310,500
Professional staff hours available 6,000 6,000

“Professional staff hours available “is the measure of the capacityof the firm. Any hours
available that are not charged to clients’ accounts represent unused capacity.
Required :
1. Marta Brinksi is an established client whose pension plan was set up many years ago. In
both 2007 and 2008, only 2.5 hours of professional staff time were charged to Ms.
Brinksi’s account. If the company bases is predetermined overhead rate on the estimated
overhead cost and the estimated professional staff hours to be charged to clients, how
much overhead cost would have been applied to Ms. Brinksi’s account an 2007?2008?
2. Suppose that the company bases its predetermined overhead rate on the estimated
overhead cost and the estimated professional staff hours to be charged to clients as in (1)
above . Also suppose that the actual professional staff hours charged to clients’ accounts
and the actual overhead costs turn out to be exactly as estimated on both years. By how
much would the overhead be under- or overapplied in 2007?in 2008?
3. Refer back to the data concerning Ms. Brinksi in (1) above. If the company bases its
predetermined overhead rate on the estimated overhead cost and the professional staff
hours available, how much overhead cost would have been applied to Ms. Brinksi’s
account in 2007?in 2008?
4. Suppose that the company bases its predetermined overhead rate on the estimated
overhead cost and the professional staff hours available as in (3) above. Also suppose that
the actual professional staff hours charged to clients’ account and the actual overhead
costs turn out to be exactly as estimated on both years. By how much would the overhead
be under- or overappplied in 2007?in 2008?

Answer
2008:
1. P.O.R = 310500
4600
= 67.5
2007:
P.O.R = 310500
4500
= 69
2008 :
2. Overhead applied = 2.5 X67.5
=$168.75
2007 :
O.applied = 69 X 2.5
=$172.5
3. 2008 :
P.O.R = 310500
6000
= $51.75
2007 :
P.O.R = 310500
6000
= $51.75
4. 2008 :
2.5 X 51.75 = $129.38

2007 :
2.5 X 51.75=$129.38