Direct expenses are costs that can be traced back to a specific department, often called an object, and are incurred only to benefit that department. In other words, direct expenses sole purpose is to benefit one department. Take receiving department workerís salary for example. His services only benefit the receiving department. Thus, his salary is a direct expense to that department.
Some companies report their activities by department throughout the year. For instance, each department makes a set of financial statements for the board of directors to base their decisions on. In this case, the accountants have to divide up the expenses into direct and indirect and allocate them to specific departments.
Indirect expenses are slightly more difficult to divide and allocate because they are not readily traceable back to a single department and often benefit several different departments. Think of factory overhead for example. The building insurance and utilities benefit every department using the building. These canít be attributed to only one department.
Since most expenses incurred during the year benefit multiple departments, there are usually more indirect expenses than direct. This means the indirect costs will need to be allocated logically to each department. The building insurance, for example, could be allocated based on how much square footage each department uses.
You might ask whatís the difference between a direct cost and a direct expense. Well, itís all in the semantics. They could mean the same thing; however, direct costs are usually associated with a manufacturer and some type of production or product. Also, direct costs can benefit more than one department.
Direct expenses, on the other hand, can be traced back to a single department and only benefit that department. Direct expenses is typically used to categorize and allocate expenses between departments; where as, direct costs more broadly allocates expenses to cost objects.
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