Direct costs are costs that can be conveniently and economically identified with some cost objectives, or which can be associated with specific segments under consideration.
Indirect costs are costs that cannot be conveniently and economically identified with cost objectives and must be allocated—on some equitable basis—to the cost objectives or segments under consideration.
Every cost for a firm must be assigned to a cost objective, which may be a production department, a division of the firm, or a unit of production. The key difference underpinning these two terms—direct and indirect costs—is their traceability .
A critical piece of information for managers is the ratio of direct to indirect costs in the total cost.
If most incurred costs are direct and traceable, then the manager is in a better position to understand and control these costs.
By contrast, the manager will not have control over the portion of indirect costs.
Direct costs are a cost that can be easily traced to a specific product or service while indirect costs cannot be easily traced.
A direct cost would be the material used to make a product.
An example of a indirect cost would be the salary of a division manager.
The division manager or department manager will typically have control over their direct costs.
The division manager or department manager will typically not have control over indirect costs.
About the Author
True Tamplin is a published author, public speaker, CEO of UpDigital, and founder of Finance Strategists.
True is a Certified Educator in Personal Finance (CEPF®), author of The Handy Financial Ratios Guide, a member of the Society for Advancing Business Editing and Writing, contributes to his financial education site, Finance Strategists, and has spoken to various financial communities such as the CFA Institute, as well as university students like his Alma mater, Biola University, where he received a bachelor of science in business and data analytics.
To learn more about True, visit his personal website or view his author profiles on Amazon, Nasdaq and Forbes.
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