Cost Classifications for Assigning Costs to Cost Objects (Direct and Indirect Cost):
Learning Objective of this article:
- Define and explain direct and indirect cost. Give examples of direct and indirect costs.
- What is the difference between direct and indirect cost.
Definition of Cost Object?
Costs are assigned to objects for a variety of purposes including pricing, profitability studies, and control of spending. A cost object is any thing for which cost data are desired including products, product lines, customers, jobs, and organizational subunits. For the purpose of assigning costs to cost objects, costs are classified as direct cost and indirect cost.
Definition and explanation of direct cost:
A direct cost is a cost that can be easily and conveniently traced to the particular cost object under consideration. A cost object is any thing for which cost data is required including products, customers jobs and organizational subunits. For example, if a company is assigning costs to its various regional and national sales offices, then the salary of the sales manager in its Tokyo office would be a direct cost of that office.
Definition and explanation of indirect cost:
An indirect cost is a cost that cannot be easily and conveniently traced to the particular cost object under consideration. For example a soup factory may produce dozens of verities of canned soups. The factory manager’s salary would be an indirect cost of a particular verity such as chicken noodle soup. The reason is that the factory manager’s salary is not caused by any one variety of soup. To be traced to a cost object such as a particular product, the cost must be caused by the cost object. This salary of manger is called common cost of producing the various products of the factory. A common cost is a cost that is incurred to support a number of costing objects but cannot be traced to them individually. A common cost is a particular type of indirect cost.
A particular cost may be direct or indirect, depending on the cost object. While, in the above example, the soup factory manager’s salary is an indirect cost of manufacturing chicken noodle soup, it is a direct cost of the manufacturing division. In the first case, the cost object is the chicken noodle soup product. In the second case, the cost object is the entire manufacturing division.
You may also be interested in other useful articles from “cost terms, concepts and classifications” chapter:
- Manufacturing and Non-manufacturing Costs
- Product Costs Versus Period Costs
- Cost Classifications on Financial Statement
- Cost Classifications for Predicting Cost Behavior (Variable and Fixed cost)
- Mixed or Semi variable Cost
- Cost classification for Assigning Costs to Cost Objects (Direct and Indirect Cost)
- Decision making costs – cost classification for decision making
- Quality Costs
- Further Classification of Labor Costs