Indirect business expenses that cannot be directly traced to a specific product or service, including rent, utilities, insurance, and administrative salaries.
Overhead Costs (also called indirect costs or burden) are expenses that support overall business operations but aren't directly attributable to producing a specific unit of product or service. They are categorized as: Manufacturing Overhead (factory rent, utilities, equipment maintenance, factory insurance), Administrative Overhead (office rent, management salaries, accounting, legal), and Selling & Distribution Overhead (advertising, delivery, warehousing, sales commissions). For product costing, overheads must be allocated to products using an allocation base (machine hours, labor hours, units produced). Overhead Rate = Total Overhead ÷ Allocation Base. Controlling overhead is crucial for profitability — it's often the largest controllable cost category after direct materials and labor.
Factory has monthly overhead: Rent ₹2,00,000 + Utilities ₹50,000 + Supervisor salary ₹80,000 + Maintenance ₹30,000 + Depreciation ₹1,00,000 = ₹4,60,000 total. Total machine hours: 2,300. Overhead rate: ₹200/machine hour. Product A uses 3 machine hours: ₹600 overhead allocated. Product B uses 0.5 hours: ₹100 allocated.
Ensures accurate financial reporting and record-keeping
Helps maintain regulatory and tax compliance
Enables better-informed business decisions
Improves operational efficiency and cash flow management
Negotiate rent/lease terms, switch to cloud services (reduce IT infrastructure), automate repetitive tasks (reduce admin staff needs), implement energy efficiency measures, consolidate vendors for better rates, move to hybrid/remote work (reduce office space), and regularly audit subscriptions and services. Target 1–2% overhead reduction annually.
Operating expenses include ALL expenses of running the business (COGS + overhead + direct costs). Overhead is a subset — only the indirect expenses that can't be traced to specific products. In practice, many people use the terms interchangeably for non-production costs, but technically overhead is the narrower term.
A costing method that allocates all manufacturing costs — both fixed and variable — to each product unit, also known as full costing.
A department, team, or function within a business that incurs costs but does not directly generate revenue.
The ongoing costs incurred by a business in its day-to-day operations, including rent, salaries, utilities, marketing, and administrative expenses.
A branch of accounting that records, classifies, analyzes, and allocates costs to products, services, or activities to help management make informed business decisions.
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