What is the 'Overhead Rate'

In managerial accounting, a cost added on to the direct costs of production in order to more accurately assess the profitability of each product. Overhead costs are all costs that are not directly related to the production of the good to be sold. These include administrative salaries, the costs of the building or machinery, commissions to salespeople, and many other items.


To allocate these costs, an overhead rate is applied that spreads the overhead costs around depending on how much resources a product or activity used. For example, overhead costs may be applied at a set rate based on the number of machine hours required for the product. In more complicated cases, a combination of several cost drivers may be used to approximate overhead costs.

BREAKING DOWN 'Overhead Rate'

It is often difficult to assess precisely the amount of overhead costs that should be attributed to each production process. Therefore, costs must be estimated based on an overhead rate for each cost driver or activity.

RELATED TERMS
  1. Applied Overhead

    A type of overhead that is recorded under the cost-accounting ...
  2. Underapplied Overhead

    An accounting record in cost accounting where the overhead costs ...
  3. Variable Overhead

    The indirect costs of operating a business that fluctuate somewhat ...
  4. Overhead

    An accounting term that refers to all ongoing business expenses ...
  5. Variable Overhead Spending Variance

    The difference between actual variable overhead based on costs ...
  6. Activity Cost Driver

    A factor that influences or contributes to the expense of certain ...
Related Articles
  1. Small Business

    What's Overhead?

    Overhead is an accounting term used for expenses that have to be paid even if the business doesn’t earn any revenue. The business would not be able to operate without paying its overhead expenses, ...
  2. Investing

    Understanding Marginal Cost of Production

    Marginal cost of production is an economics term that refers to the change in production costs resulting from producing one more unit.
  3. Investing

    What is Absorption Costing?

    Absorption costing is an accounting method primarily used in manufacturing. In absorption costing, the cost of a manufactured product includes the direct costs plus an apportioned share of the ...
  4. Investing

    What Are The Different Types Of Costs In Cost Accounting?

    Cost accounting measures several different types of costs associated with a company’s production processes.
  5. Investing

    Explaining Prime Cost

    Prime cost is a way of measuring the total cost of the production inputs needed to create a given output.
  6. Investing

    Understanding Cost of Revenue

    The cost of revenue is the total costs a business incurs to manufacture and deliver a product or service.
  7. Investing

    Gross, Operating and Net Profit Margins

    A company’s income statement includes the company’s gross, operating and net profits.
  8. Personal Finance

    What is the Cost of Funds?

    Cost of funds is the interest cost financial institutions pay to use the funds they deploy in their business.
  9. Investing

    What are Direct Costs?

    Direct costs for finished goods refer to the items and services directly used in production. Other costs such as rent and insurance for the production site are indirect costs. These costs may ...
  10. Investing

    What is Incremental Cost?

    Incremental cost is the added cost of manufacturing one more unit.
RELATED FAQS
  1. How does fixed overhead differ from varied overhead?

    Learn about overhead costs and the two types of overhead costs, and discover the difference between fixed and variable overhead ... Read Answer >>
  2. How is overhead distributed through total absorption costing?

    Learn how overhead is distributed through total absorption costing, and the steps required for a company to determine its ... Read Answer >>
  3. How do some contra account types reduce book value?

    Look at a brief example of how cost accounting treats overhead expenses, how those expenses are different from direct labor ... Read Answer >>
  4. Does gross profit include labor and overhead costs?

    Find out how companies treat different kinds of labor costs when calculating gross profit and whether overhead costs impact ... Read Answer >>
  5. How does quantifying fixed overhead volume variance show whether a company is profitable ...

    Find out why some fundamental analysts look at fixed overhead volume variance as an indicator of company profitability or ... Read Answer >>
  6. Why is overhead cost allocation sometimes manipulated on an income statement?

    Learn why companies sometimes manipulate overhead costs to boost the appearance of overall profitability, and other reasons ... Read Answer >>
Hot Definitions
  1. Cover Letter

    A written document submitted with a job application explaining the applicant's credentials and interest in the open position. ...
  2. 403(b) Plan

    A retirement plan for certain employees of public schools, tax-exempt organizations and certain ministers. Generally, retirement ...
  3. Master Of Business Administration - MBA

    A graduate degree achieved at a university or college that provides theoretical and practical training to help graduates ...
  4. Liquidity Event

    An event that allows initial investors in a company to cash out some or all of their ownership shares and is considered an ...
  5. Job Market

    A market in which employers search for employees and employees search for jobs. The job market is not a physical place as ...
  6. Yuppie

    Yuppie is a slang term denoting the market segment of young urban professionals. A yuppie is often characterized by youth, ...
Trading Center