Adjusting Factory Overhead Rates

Because factory overhead rates are an approximation of actual overhead costs, there will be either an under- or over-application of overhead to work in process. It is important to monitor the overhead costs allocated so that overhead rates can be fine-tuned to reflect actual costs more accurately.

All factory overhead costs allocated to work orders are posted to the general ledger using the Applied Fixed Overhead and Applied Variable Overhead accounts defined for the operation code in Operation Code Maintenance. Reviewing the amounts posted to these accounts allows you to monitor the accuracy of the factory overhead rates.

Because a separate account can be assigned to each operation code, you can post the applied overhead amounts to the General Ledger in as much detail as you want. Usually, it is useful to post to different Applied Overhead accounts by work center. It is strongly recommended that you use different accounts for the applied fixed overhead and applied variable overhead amounts.

When recording actual factory overhead costs to the general ledger, you can debit the Applied Overhead accounts. At the end of each period, any remaining balance in these accounts shows how much overhead has been over-applied or under-applied. Any credit balance remaining in the Applied Overhead accounts indicates an over-applied overhead amount. Periodically adjust your overhead rates to minimize the amount of over- or under-application of overhead. At the end of a period, you can clear any remaining balance in the Applied Overhead accounts by transferring the balance to the Cost of Goods Sold account. You should consult with your CPA to determine the best method for handling factory overhead and the associated general ledger postings.

For more information, see:

Factory Overhead

Account Maintenance