Under/over absorption of overheads.

System
System Posts: 100,534 🤖 Admin 🤖
edited 10:28AM in AAT student discussion
<BR>I am a little confused with the whole concept of over and under absorbing overheads.<BR><BR>I understand that under absorbing means that the overheads absorbed, or charged to production, are less than the actual overheads incurred. And vice-versa for over absorption.<BR><BR>Could some kind person please give me some examples of possible causes of the under and over absorption of overheads...?<BR><BR>Many thanks in advance.

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  • System
    System Posts: 100,534 🤖 Admin 🤖
    Under/over absorption of overheads.

    i think this is right - under absorption can be caused by if the production output units are less than orignally predicted and overabsorption is if the production is more than originally budgeted for so the fixed overheads will be overabsorbed.<BR><BR>EG if the total fixed overheads are £10,000 and the budgeted production is 10,000 units then the absorption rate is £1/unit.<BR><BR>you then are only able to produce 8,000 units = £8,000 which gives a underabsorption of £2000
  • System
    System Posts: 100,534 🤖 Admin 🤖
    Under/over absorption of overheads.

    jezzc100 I think you have asked a question a lot of candidates find a tricky topic.<BR>littlemissy I agree with your anser, but I'd like to add another example<BR><BR>Spry Ltd produced there budgeted overheads for the year 2004 and found that the (labour intensive) assembly department had budgeted overhead costs of £200,000 and budgeted direct labour hours of 50,000.<BR><BR>The Overhead absorption rate is £4 per direct labour hour (£200,000/50,000 direct labour hours)<BR>Note that this was before the year started.<BR>
    <BR>Now they are looking at the performance of the assembly department in May 2004.<BR><BR>Within assembly 4,000 direct labour hours were worked<BR>And when all the overhead costs incurred were added up they came to £20,000<BR><BR>How much overhead was absorbed?<BR>4,000 (direct labour hours) x £4 per hour = £16,000<BR><BR>This was UNDER the actual cost of £20,000 so there was an underabsorption of £4,000.<BR><BR>Ultimately this £4,000 will add to costs and reduce the profit.<BR><BR> _________________________________________________________<BR><BR>In April the performance was as follows:-<BR>6,000 direct labour hours were worked<BR>And when all the overhead costs incurred were added up they came to £21,000<BR><BR>Absorbed overhead = £4 x 6,000 = £24,000<BR>Actual overhead = £21,000<BR>OVERABSORBED £3,000<BR><BR><BR>I hope this helps. <BR>sandy.hood@chichester.ac.uk<BR><BR>Sandy
  • System
    System Posts: 100,534 🤖 Admin 🤖
    Under/over absorption of overheads.

    Many thanks for your reply Sandy. The whole concept seems a lot clearer now.<BR><BR>But, do you think you could give a possible CAUSE for the over and under absorption of overheads - I know they're bound to ask us in the exam/assessment to outline possible reasons for the over or underabsorption.<BR><BR>Many thanks again for your help.<BR>
  • System
    System Posts: 100,534 🤖 Admin 🤖
    Under/over absorption of overheads.

    Under or over absorption is normal. It is rare when the amount absorbed is equal to the overhead incurred.<BR>Here are 2 examples, see if you can add some more:-<BR><BR>If production is ahead of budget, then more labour hours are needed and more overhead will be absorbed.<BR><BR>If overhead costs are higher than expected the overhead absorbed may be less than the actual cost<BR><BR>Sandy

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