Difference between direct costs and indirect costs

Direct Costs Definition

Direct costs are the costs that can be conveniently and economically identified with some cost objectives or can be associated with some particular segments under consideration.

Indirect Costs Definition

Indirect costs are the costs that cannot be conveniently and economically identified with cost objectives and must be apportioned to the cost objectives or segments under consideration on some equitable basis.

Explanation and Examples

All costs incurred by a firm must be assigned to some cost objective. A cost objective could be a production department, a division of the firm or a unit of production. key to the difference between the two terms direct costs and indirect costs is their traceability.

A manufacturing cost that is traceable to a specific product activity or a department is known as direct cost. Direct costs are fully traceable to a cost objective. For example, the salary of the manager of a particular department is easily traceable to that department and hence is a direct cost for that department.

An indirect cost is a manufacturing cost that is not traceable to a specific product or cost objective and must be assigned using some allocation method. For example, the manufacturing overhead costs are not directly identifiable with any particular product or service and are hence indirect costs with respect to that product or service.

Also Check:  Semi-variable costs

Managers are concerned with the portion of the total costs that is direct and the portion that is indirect. If the majority of costs incurred are direct and traceable, the manager is in a better position to understand and control these costs. But he will have control over the portion of indirect costs his area must bear.

Leave a Comment