Understanding the 3 Types of Overhead Costs: Essential for Your Business!

Desc: Understanding every type of overhead cost in your business is a must. Learn more in this article and ensure nothing is overlooked!

Ideal business management always has clear and systematic financial records. This is important so that the business can see actual income and expenses over a period of time. One of the expense variables is overhead costs. While other costs related to production are clearly visible in company activities, overhead costs are not. These costs are incurred to pay for things that are not directly related to the production of goods or services.

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What is the Definition of Overhead Costs?

According to an article on investopedia.com, overhead costs refer to ongoing business expenses that are not directly tied to the production process of goods or services. These costs also refer to various ongoing expenses necessary to run the business without considering direct costs. They can be fixed costs, variable costs, or a combination of both.

These costs will be recorded in detail in the income statement of your company's bookkeeping system. In the context of business, several expenses will be incurred to support the company's progress. However, these expenses are not directly related to the products or services offered by the business in the market. With careful calculation, overhead costs will help you reduce wasteful spending through efficient business expenditure.

3 Main Types of Overhead Costs in Business

Overhead costs are generally classified into three main types: fixed overhead, variable overhead, and semi-variable overhead.

Each of these types has its own definition and characteristics, and it's important for business owners like you to understand each type. The goal is simple: to know in detail the categories of costs recorded, so the financial statement analysis can be comprehensive.

1. Fixed Overhead

Fixed overhead costs do not change even though business production activities are dynamic. The amounts are relatively easy to predict and are crucial for ensuring smooth business operations. Based on its definition, several costs fall into this category, including:

• Rent
• Insurance
• Employee salaries
• Building or equipment repairs
• Bill or credit payments

In the production sector, fixed overhead costs are allocated to supervisor wages, factory rent, equipment and building maintenance, monthly bills, and production equipment insurance.

2. Variable Overhead

Variable overhead costs are dynamic, they sometimes increase or decrease. These changes depend on the volume of production. During production activities, these costs will always be present. When production increases, the costs rise, and vice versa. When there is no production activity, these costs can drop to zero. Some examples include:

• Raw materials
• Contract labor
• Production supplies
• Commissions
• Shipping and related costs

The amount of these costs will tend to adjust to the production volume. Without production activity, variable overhead costs will significantly decrease

3. Semi-Variable Overhead

The third type is semi-variable overhead, which is a mix of the first two types. This type of cost has characteristics of both fixed and variable overhead. Businesses can incur semi-variable overhead costs at any time, although the exact amount can vary depending on the business activities. Examples include vehicle usage costs, sales commission, utility needs like water and electricity, etc. These examples show that some costs are fixed, but they can vary based on business activity levels during a certain period.

Example of Calculating Company Overhead Costs

To get an idea of how to calculate overhead costs ideally, consider the following illustration.

Suppose your business records a total overhead cost of IDR 10,000,000 per month. In the same period, sales revenue is IDR 50,000,000. To find the overhead percentage of total revenue, you divide it and then multiply by 100%, as shown below:

Overhead Costs / Monthly Sales x 100%

= IDR 10,000,000 / IDR 50,000,000 x 100%

= 20%

So, the monthly overhead allocation needed is 20%. From every income you earn, one-fifth will be used to cover all the business's overhead costs.

The lower the calculation result, the more effectively the business utilizes its resources.

Read Also: 7 Steps to Prevent Theft in Your Business

It's important to always calculate and know the value of these costs, as they help you to understand the detailed allocation of expenses, set prices accurately, and monitor expenditures directly. With this data, you can identify which areas are less efficient in resource management and make improvements for better performance in the future. After fully understanding what overhead costs are, hopefully, you gain useful insights to optimize them. In addition to performance optimization, don't hesitate to protect your business as a precaution against adverse situations. Business insurance like SmartBusiness from PT  AXA Insurance Indonesia can be an option, offering various benefits during tough times. The cost won't significantly burden your overhead, making it a reasonable expense for your managed business. Plan everything carefully and meticulously, and maximize all accessible resources for your business with PT AXA Insurance Indonesia!

References:

• https://www.telkomsel.com/jelajah/jelajah-lifestyle/biaya-overheard-adalah-pengertian-jenis-dan-contohnya#:~:text=Dalam%20konteks%20bisnis%2C%20overhead%20adalah,biaya%20ATK%2C%20dan%20biaya%20administrasi.
• https://money.kompas.com/read/2022/10/07/161845726/pengertian-biaya-overhead-jenis-contoh-dan-hitungannya?page=all
• https://flip.id/business/blog/biaya-overhead-pengertian-jenis-hingga-cara-menghitungnya
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