1. Overhead Allocation and Disposition
Chapter 31
Managerial Accounting
Overhead Allocation and Disposition
Prepared by Diane Tanner
University of North Florida
Copyright ©2015. University of North Florida. All rights reserved.

2. Assigning Overhead Costs to Products
Manufacturing overhead cost is allocated to products
Why is it allocated?
Either impossible or not feasible to identify to a specific product
Allocation involves
Determining a basis on which to distribute the cost
Calculating a rate
Assigning a portion of the estimated overhead to each product
A portion of the MOH costs are removed from the MOH account and added to the other costs of the product accumulated in the WIP account
DR Work in Process
CR Manufacturing overhead

3. Predetermined Overhead Rate
The rate at which manufacturing overhead is allocated (applied) to products
Referred to as ‘predetermined overhead rate’ (POHR)
Determined ‘before’ the period begins
At which time, the actual costs are unknown
Estimated Manufacturing Overhead Cost
Estimated Activity
POHR =

4. Selecting an Activity Often called a cost driver
The denominator of the predetermined overhead rate is ‘estimated activity’
Common estimated activities include
Number of units to be produced
Number of direct labor hours to be used
Number of direct labor dollars to be incurred
Number of machine hours to be used
Based on management’s best guess of what causes costs to increase
Often called a cost driver

5. Allocating Manufacturing Overhead
Allocating overhead means to assign a portion of the overhead cost to a product
Often called ‘applying’ overhead
Each time the ‘activity’ occurs, the allocation amount is added to the product cost
Allocation amount
POHR × Actual activity
Example
Suppose the POHR is $2 per direct labor hour
Each time one hour of direct labor is used, the company will assign $2 of overhead to the specific product.

6. Under and Overapplied Overhead
A balance usually remains in the MOH expense account at the end of the period
Possible balances in MOH
Debit balance
Underapplied = Not MOH enough was ‘applied’, i.e. not enough MOH cost was added to products
Credit balance
Overapplied = Too much MOH was ‘applied’. i.e., too much MOH cost was added to products

7. Applying Overhead Based on Units
McAlister Company provided the following amounts:
Estimated MOH costs = $50,000
Actual MOH costs = $49,500
Estimated units to be produced = 4,000
Actual units produced = 4,100
The company allocates overhead based on units produced.
Step 1: Determine the allocation rate (POHR) =
$50,000/4,000 = $12.50/unit
Step 2: Apply overhead:
Applied = $12.50 x 4,100 = $51,250
MOH
49,500
51,250
1,750 overapplied

8. Applying Overhead Based on DL Hours
McAlister Company provided the following amounts:
Estimated MOH costs = $50,000
Actual MOH costs = $49,500
Estimated direct labor hours = 12,500
Actual direct labor hours = 12,400
The company allocates overhead based on DL hours.
Step 1: Determine an allocation rate (POHR) =
$50,000/12,500 = $4.00/DL hour
Step 2: Apply overhead:
Applied = $4.00 x 12,400 = $49,600
MOH
49,500
49,600
100 overapplied

9. Applying Overhead Based on DL Cost
McAlister Company provided the following amounts:
Estimated MOH costs = $50,000
Actual MOH costs = $49,500
Estimated direct labor cost = $156,250
Actual direct labor cost = $153,600
The company allocates based on DL cost.
Step 1: Determine an allocation rate (POHR) =
$50,000/156,250 = $0.32 per DL$
Step 2: Apply overhead:
Applied = $0.32 x $153,600 = $49,152
MOH
49,500
49,152
Underapplied 348

10. Disposing of Over/Underapplied
Any balance at year end in the MOH account must be ‘closed’ or ‘adjusted’ to a zero balance
Why?
MOH is a temporary product account
Not reported on the financial statements
Disposition is based on materiality
If immaterial in amount
Close directly to cost of goods sold
Because this account will contain most of the overhead cost at year end
If material in amount
Allocate proportionately to work in process, finished goods, and cost of goods sold
Because these accounts contain all of the manufacturing overhead costs incurred by a company
Overhead

11. Disposition of MOH Example
Some balances of accounts prior to adjustment appear below for Perco:
Cost of goods sold $400,000
Actual MOH costs ,500
Estimated MOH costs ,000
Applied MOH costs ,250
Cost of Goods Sold
Mfg. Overhead
Actual overhead
$49,500
Overhead Applied $51,250
400,000
1,750
1,750
overapplied
398,250
1,750
adjustment

12. The End