What are Overhead Costs?

Overhead costs, often referred to as overhead or operating expenses, refer to those expenses
associated with running a business that can’t be linked to creating or producing a product or
service. They are the expenses the business incurs to stay in business, regardless of its success
level.

Overhead costs are all of the costs on the company’s income statement except for those that are
directly related to manufacturing or selling a product, or providing a service. A potter’s clay and
potting wheel are not overhead costs because they are directly related to the products made. The
rent for the facility where the potter creates is an overhead cost because the potter pays rent
whether she’s creating products or not.

Some of the examples of Overhead Costs include Advertising Cost, Insurance Cost, Rent, Utilities,
Depreciation, Spoilage cost, Postage & Stationery Expenses, etc.

Let’s understand the same with the help of a Numerical example:

ABC Limited has incurred a total overhead cost of Rs 120000 and spent 24000 direct labor hours (10
workers employed for 48 hours per week for 50 weeks during the year)in a production of its three
product lines A, B, and C. ABC is trying to work cost one its product line A. Details of which are as
follows:

 Material Consumed: Rs 2000

 Direct Labor Hours: Process A: 10 hours @ Rs 8 per hour
 Process B: 5 hours @ Rs 10 per hour
 Work Overhead is levied based on Direc Labor Hour Rate

Direct Labor Hour Rate= Rs 120000/24000.

= Rs 5.00 per hour