Further Classification of Labor Costs:
Learning Objective of the Article:
Idle time, overtime, and fringe benefits associated with direct labor
workers pose particular problems in accounting for
labor costs. Are these
costs a part of the costs of
direct labor or are they something else?
Machine beak downs, materials shortages, power failure, and the like
result in idle time. The
labor costs incurred during idle time are
ordinarily treated as manufacturing overhead cost rather than as a direct
labor cost. Most managers feel that such costs should be spread over all the
production of a period rather than just the jobs that happen to be in
process when breakdown or other disruptions occur.
To give an example of how the cost of idle time is handled, assume that a
press operator earns $12 per hour. If the press operator is paid for a normal
40-hour workweek but is idle for 3 hours during a given week due to
breakdowns, labor cost would be allocated as follows.
Direct labor $12 per hour × 37 hours)
Manufacturing overhead (idle time:
$12 per hour ×
cost for the week
The overtime premium paid to all factory
workers (direct labor as well as
indirect labor) is usually considered to be
part of manufacturing overhead and is not assigned to any particular order.
At first glance this may seem strange, since overtime is always spent
working on some particular order. Why not charge that order for the overtime
cost? The reason is that it would be considered unfair and arbitrary to
charge an overtime premium against a particular order simply because the
order happened to fall on the tail end of the daily production schedule.
Assume that a press operator in a plant earns $12 per hour. she is paid time
and half for over time (time in excess of 40 hours a week). During a given
week, she worked 45 hours and has no idle time. Her labor cost would be
allocated as follows:
($12 × 45
Manufacturing overhead (overtime
premium: $6 per hour × 5 hours)
Total Cost for the week
Observe from this computation that only the overtime premium of $6 per
hour is charged to overhead account--not the entire $18 earned for each hour
of overtime work ($12 regular rate × 1.5 = $18)
Labor fringe benefits are made up of employment-related costs paid by the
employer and include the cost of insurance programs, retirement plans,
various supplemental unemployment benefits, and hospitalization plans. The
employer also pays employer's share of Social Security, Medicare, workers'
commission, federal employment tax, and state unemployment insurance. These
costs often add up to as much as 30% to 40% of base pay.
Many firms treat all such costs as
indirect labor by adding them in total
to manufacturing overhead. Other firms treat the portion of fringe benefits
that relates to
indirect labor as additional
direct labor cost. This approach
is conceptually superior, since the fringe benefits provide to
workers clearly represent an added cost of their service.