A predetermined overhead rate, also known as a plant-wide overhead rate, is a calculation used to determine how much of the total manufacturing overhead cost will be attributed to each unit of product manufactured. The rate is determined by dividing the fixed overhead cost by the estimated number of direct labor hours.

Predetermined Overhead Rate (what it is and how to calculate it)

Uses of predetermined overhead rate

There are a number of ways in which companies use predetermined overhead rates, including:

What is predetermined overhead rate?

Predetermined overhead rate is an allocation rate that applies a certain amount of manufacturing overhead to job orders or products. Predetermined overhead is typically calculated at the beginning of each reporting period and is determined by dividing the estimated overhead costs for manufacturing by an allocation base. The allocation base is often referred to as the activity driver. Some commonly used activity drivers are machine hours, direct materials, direct labor hours and direct labor dollars.

How to calculate predetermined overhead rate

Predetermined overhead rate is calculated by dividing the manufacturing overhead cost by the activity driver. For example, if the activity driver was machine-hours, then you would divide overhead costs by the estimated number of machine-hours. Here are the basic steps you take to calculate predetermined overhead rate.

1. Estimate manufacturing overhead costs

These overhead costs are the expenses that directly result from manufacturing products. They include things like facility maintenance, utilities, factory supplies and the depreciation of the equipment. Employee wages or salaries may also be included as part of manufacturing overhead costs. However, only the employees whose jobs are directly linked to manufacturing are considered when calculating overhead, such as maintenance workers, factory supervisors and cleaning crews.

2. Estimate the activity driver

As mentioned above, an activity driver could be direct labor hours, machine hours or something else. If a business was an auto repair shop, then they would calculate the number of labor hours it took to complete a job. If you run a factory, you need to estimate the number of hours that a machine runs during the activity period.

3. Calculate predetermined overhead rate

The final step is to calculate your predetermined overhead rate by dividing the manufacturing overhead hours by the activity driver. For example, if you estimate that you have $15,000 in overhead costs and $25,000 machine-hours, your predetermined overhead rate is $0.60 per unit.

Examples of predetermined overhead rate

Here are a couple of examples of how you can calculate predetermined overhead rate:

Example 1

Lets say that an automotive parts manufacturer budgeted the following costs for its year:

FAQ

How do you calculate a predetermined overhead rate?

How to calculate predetermined overhead rate. Predetermined overhead rate is calculated by dividing the manufacturing overhead cost by the activity driver. For example, if the activity driver was machine-hours, then you would divide overhead costs by the estimated number of machine-hours.

What is the meaning of predetermined overhead rate?

What is Predetermined Overhead Rate? A predetermined overhead rate is an allocation rate that is used to apply an estimated cost of manufacturing overhead to either products or job orders.

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