How To Work It Out

MOHMEDSALIM PATEL

IS THERE ANYONE WHO CAN EXPLAIN OVER/UNDER ABSORPTION PLEASE?:001_smile:

SandyHood

If you know that dept B absorbs overhead on a labour hour basis at £7.00 per direct labour hour and that during March 3000 direct labour hours were worked, then you can work out that:-

1. £7 x 3,000 = £21,000
2. This is the amount absorbed so should be
3. debited to work in progress and credited to production overheads
   
   
   If we collect the March production overheads summary we now find that the actual cost of overheads (incurred) were:
   
4. £20,000
5. This means we absorbed £1,000 more (or over) the actual cost
6. The £1,000 is debited to the production overhead control account and credited to the under/over absorbed overhead account
7. The net effect of over charging for overheads by£1000 is then a credit item and adds to the profit for March.

Spring Flower

Hi

For Instance;

when u calculate over/under absorption in cost sheet

Let say, your budgeted repair charges is £200 a week, that is you had charge in cost sheet(i.e as per budgeted exp's) but actual charges occured for that week is £250.

Therefore,

Actual Exp's - Budgeted Exp's = Over/ Under Absp

Over absp = when actual is Less than Budgeted exp
Under absp = when actual is More than budgeted exp

In this case

Actual oh £250
(-)oh absorbed £200
repair charges are under absorbed as actual is more.:thumbup1:

visha

Don't use the word ABSORPTION, instead unse the word RECOVER and this will become much clearer!

In business you will incurr expensed that are not directly related to the products(MP3 PLAYER) that is manufactured. such an example of an expense could be RENT. At the begining of the year we could estimate how much the rent is likely to be - say £20,000

Now that rent needs to be recoved as a part of cost of MP3 PLAYER. and say we have planned to manufacture 200,000 unit then the cost of rent to be revoved from each MP3 PLAYER is £20,000 divide by 200,000 units = 1/10th of a £1 equals 10 pence per unit.

Therefore the cost of each MP3 palyer will increase by 10 pence. For every MP3 PLAYER we manufacture we will RECOVER (absorb) 10 pence for RENT OVERHEADS.

If we then only manufacture only 190,000 MP3 PLAYERS we will have recoved 190,000 x £0.10 = £19,000 but our Actual Rent expense was £20,000 and therefore we have under RECOVERED £1000 from our MP3 Players. That will reduce our profit by £1000 from the sale of 190,000 MP3 players. Therefore we have an UNDERABSORPTION of £1000.

If on the otherhand we manufacture and sell 220,000 MP3 PLAYERS we will have recovered 220,000 x £0.10 = £22,000 towards our Rent expense OVERHEADS. We will have over recovered £2,000 (22000-20000) or OVERABSORPTION of £2000 that will be credited to P&L increasing our profits by £2000.

SandyHood

The above answers probabably mean that for most people this addition is not necessary. But, I looked at this topic on Tuesday and came across one error with some students, so I've added this to try to highlight the trap.

Budgeted overheads are before the accounting period has started and by their very nature they are budgeted amounts.
Use the budgeted overhead cost only to calculate the overhead absorption rate.

BUT do not use the budgeted total overheads after that.
________________________________________________________________
Time has now passed

The hours worked x the overhead absorption rate = the overhead absorbed

The overhead incurred is the actual amount spent on overheads in the accounting period

And the difference between the overhead absorbed and the overhead incurred is the (under) or over absorbed amount