Recording Applied Manufacturing Overhead Costs

At the end of the month, entries are made to record the estimated
manufacturing overhead to be charged to production. The amount for this
entry is obtained by totaling the overhead entries on the job cost Se
during the month. Assume that the applied manufacturing overhead
column ot the job cost sheets show a total of P540,000. Therefore, the
journal entry to record the applied manufacturing overhead is:

Work in Process. 540,000

Manufacturing Overhead Control. 540,000
To record applied manufacturing overhead
for the month.

It should be noted that the Work in Process account is not to be debited

for any of the actual manufacturing Overhead costs.

Recording Actual Manufacturing Overhead Costs

Assume that the actual manufacturing overhead costs incurred totaled

P640,000. This is recorded by a debit to manufacturing overhead control
account Kept in the general ledger. Details of the general ledger account
are kept in a Subsidiary overhead ledger which are usually taken from
several source documents such as, store requisition for indirect materials,
Overhead analys1s sheets and analysis of time tickets for indirect labor.

OVERAPPLIED OR UNDERAPPLIED OVERHEAD

The amount of manufacturing over head incurred will never equal the
amount of overhead applied at the end of the period except by coincidence.
The following will result if the actual overhead is not the same with the
applied overhead:

1. Overapplied overhead (a credit balance in Manufacturing

Overhead Control account) results when product costs are
overstated because the actual overhead Costs were lower than
expected (applied overhead).

2. Underapplied overhead (a debit balance in Manufacturing

Overhead Control account) results when product costs are
understated because the actual overhead costs were higher than
expected (applied overhead).

At the end of the month the balance of the Manufacturing Overhead

Control account 18 closed to Overapplied or Underapplied manufacturing
Overhead account in the general ledger. In our example, there is
underapplied overhead of P100,000 because the applied overhead
(P540,000) is lower than the actual overhead (P640,000). This is recorded
by the following journal entry:

Underapplied Manufacturing Overheadd. 100,000

Manufacturing Overhead Control. 100,000
To close manufacturing overhead control
account at the end of the month.

Disposition of Overapplied or Underapplied Manufacturing

Overhead

At the end of the year, Overapplied or Underappied Manufacturing

Overhead account must be closed. The disposition of the overapplied or
underapplied overhead will depend on the materiality of the amount.

Assumption 1:

If the amount is material, from the viewpoint of accounting theory, the

overapplied or underapplied overhead should be allocated proportionately
to all goods that have been worked on during the year. Some of the goods
are still in process, some are finished goods, and some have already been
sold, thus, the overapplied or underapplied balance should logically be
allocated among Work in Process, Finished Goods, and Cost of Goods sold.

To illustrate, assume that the year end balances of inventories and cost
of goods sold were as follows

Work in Process Finished Goods Cost of Goods Sold

Direct Materials 10,000 40,000 100,000
Direct Labor 15,000 20,000 90,000
Applied Overhead 15,000 20,000 90,000
Total 40,000 80,000 280,000

The underapplied overhead of P100,000 is allocated to the three accounts

in proportion to their respective balances. The allocation and the journal
entry to close the underapplied overhead are as follows:

Allocation:
Account Balances Percentage to Total Allocated Amount
Work in Process 40,000 10% 10,000
Finished Goods 80,000 20% 20,000
Cost of Goods Sold 280,000 70% 70,000
40,000 100% 100,000
Journal Entry:

Work in Process lnventory. 10,000

Finished Goods Inventory. 20,000
Cost of Goods Sold. 70,000
Underapplied Mfg. Overhead. 100,000
To close underapplied manufacturing
overhead at end of year.

The above procedure is so difficult and time-consuming that the theoretical

benefits obtained usually do not warrant the amount of work involved. In
addition, most of the goods worked on during the year have probably
been transferred to finished goods and sold to customers, so that most of
the overapplied or underapplied overhead would be closed to Cost of
Goods Sold. For this reasons, Assumption 2 below is usually used in
practice.

Assumption 2:

If the amount is immaterial, it is customary to close underapplied or

overapplied overhead costs directly to the Cost of Goods Sold account. In
our example above, the entry to close the underapplied overhead of
P100,000 is as follows:

Cost of Goods Sold. 100,000

Underapplied Mfg. Overhead 100,000
To close underapplied manufacturing
Overhead at end of year.