Published by: Sayuja Koirala
Published date: 20 Sep 2024
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Overheads are indirect expenses continual in nature that are required to run a business that must be paid regardless of the sales or revenue activities. A car retail shop, for example, might pay increased rent for a business located in a neighborhood with a larger space to deal with a showroom. All production-related expenses are subtracted from net revenue to arrive at net income [Revenue – Expenses = Net Income], also known as the top line: income generated by selling products or services.
Net Income = Revenue – Expenses
These expenditures can be fixed, i.e., the same amount every time, or variable, varying based on the degree of activity in the firm.
Determining overheads is an essential activity that accountants must fulfill. They should be aware of how much the company is charging for its products and services and how much it is making in profits. It is important to consider the nature of the overheads, which are classified into three categories, to accomplish this.
These expenses remain the same month after month and do not fluctuate in response to changes in business revenue. Salaries, rent, property taxes, asset depreciation, and government licensing are a few examples.
These expenditures fluctuate with the degree of company activity and might rise or fall with varying activity levels. Expenses will rise while business activity is high, but when business activity is low, overheads will drop significantly, if not disappear entirely. For example, increasing the number of employees raises the cost of office snacks since there are more people to feed.
Fixed and variable expenses share several features with it. Such costs may be created by a firm, albeit the specific amount will vary depending on the level of commercial activity. A semi-variable overhead may include a basic charge that the corporation must pay regardless of activity level and a variable cost based on consumption level. Sales commissions, car usage, and utilities such as power and water prices with a set charge and an extra fee dependent on consumption are examples of semi-variable overheads.