Burden Rate
A burden rate, also known as an overhead rate or a load rate, is the proportion of indirect costs (overhead) allocated to direct labor or production costs in a business. It is used to calculate the total cost of a product or service, including both direct and indirect expenses, to determine product pricing, assess the efficiency of a company’s operations, and make management decisions.
The burden rate typically includes expenses that cannot be directly attributed to a specific product or service, such as rent, utilities, insurance, management salaries, and equipment depreciation. These indirect costs are allocated to the cost of goods or services based on a predetermined method, often using direct labor hours or direct labor costs as the allocation base.
To calculate the burden rate, divide the total indirect costs by the total direct labor hours or direct labor costs. The resulting rate can then be applied to individual products or services to determine the total cost, including both direct and indirect expenses.
For example, if a company has $500,000 in indirect costs and $1,000,000 in direct labor costs, the burden rate would be:
Burden Rate = $500,000 / $1,000,000 = 0.5 or 50%
This means that for every dollar spent on direct labor, an additional 50 cents must be allocated to cover indirect costs.
Example of a Burden Rate
Let’s consider a small manufacturing company that produces custom furniture. To calculate the burden rate, we’ll first identify the direct and indirect costs involved in the production process.
- Direct labor cost: $300,000 (wages for workers directly involved in furniture production)
Indirect Costs (Overhead):
- Rent: $50,000
- Utilities: $20,000
- Insurance: $10,000
- Equipment depreciation: $30,000
- Management salaries: $90,000
Total indirect costs (overhead) = $50,000 + $20,000 + $10,000 + $30,000 + $90,000 = $200,000
Now, we can calculate the burden rate:
Burden Rate = Total Indirect Costs / Total Direct Labor Cost
Burden Rate = $200,000 / $300,000 = 0.67 or 67%
This means that for every dollar spent on direct labor, an additional 67 cents must be allocated to cover indirect costs.
Now, let’s say the company receives an order for a custom piece of furniture, and the direct labor cost for this particular order is $1,500. To find the total cost, including overhead, we apply the burden rate:
Total Cost = Direct Labor Cost + (Direct Labor Cost * Burden Rate)
Total Cost = $1,500 + ($1,500 * 0.67)
Total Cost = $1,500 + $1,005 = $2,505
So, the total cost of producing the custom furniture, including both direct and indirect expenses, is $2,505. This information can be used to determine pricing, assess the efficiency of the company’s operations, and make informed management decisions.
