4.3: Departmental rates to estimate factory overhead

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A different predetermined rate may be used to estimate factory overhead in each department. Within a department, the rate is the same for all products. The following amounts are given.

Total budgeted factory overhead costs for the Cutting Department for the year	$310,000
Total budgeted direct labor hours for the Cutting Department	2,000
Total budgeted factory overhead costs for the Assembly Department for the year	$236,000
Total budgeted direct labor hours for the Assembly Department	1,000

The department factory overhead rate is $155 per direct labor hour in the Cutting Department and $236 per direct labor hour in the Assembly Department, determined as follows.

	Cutting	Assembly
Budgeted departmental factory overhead	$310,000	$236,000
Departmental budgeted activity base	2,000 = $155	1,000 = $236

Direct labor hours used and factory overhead estimated for this job are as follows:

Job 1:	Cutting Department	135 direct labor hours x $155 =	$20,925
Job 1:	Assembly Department	75 direct labor hours x $236 =	17,700
Job 1:		Total	$\ \overline{$38,625}$
Job 2:	Cutting Department	65 direct labor hours x $155 =	$10,075
Job 2:	Assembly Department	25 direct labor hours x $236 =	5,900
Job 2:		Total	$\ \overline{$15,975}$
		Total	$54,600

The journal entry to apply factory overhead of $54,600 to this job is as follows:

Account	Debit	Credit
Work in Process	54,600		▲ Work in Process is an asset (inventory)
Factory Overhead		54,600	▼ Factory Overhead is an expense account that is decreasing

In the example so far, the use of departmental rates vs. a single factory rate yields different results in terms of how much factory overhead is applied to each of the two jobs. Although the total factory overhead applied, $54,600, is the same under both methods, the amount allocated to each job differs, as follows:

	Single Factory	Departmental
Job 1:	$38,220	$38,625
Job 2:	16,380	15,975

Using departmental rates is more job-specific and therefore results in a more precise allocation of factory overhead to the jobs than the single rate. However, it takes a bit more effort to calculate vs. using the single factory rate that is applied to all jobs uniformly.