Direct vs Indirect Costs Research Administration and Compliance

What is the Difference Between Direct vs. Indirect Costs?

Much like direct costs, indirect costs can be fixed or variable. Fixed indirect costs include expenses such as rent; variable indirect costs include fluctuating expenses such as electricity and gas. It’s crucial to understand the difference between direct and indirect costs when pricing your products or services. Unlike direct costs, indirect costs cannot be tied back to a specific product or productions. You should know the difference between direct and indirect costs as it helps you understand your project, product, and services. As a result, you can control the cost better, and your accounting will be robust. Although direct costs are typically variable costs, they can also include fixed costs.

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Communication costs such as long distance telephone calls or telegrams identifiable with a specific award or activity. Materials, supplies and equipment purchased directly for use on a specific grant or contract.

Admissions and Financial Aid

The Office of Financial Aid is available to offer support and advice so you can make informed decisions regarding college funding options. The Enrollment Services Center offers virtual and walk-in appointments to help students apply; get help with financial aid, scholarships, and more. Assume that, you will produce 1000 m3 concrete in the batch plant. You need 300 tons of cement to produce 1000 m3 concrete and 1 ton cement costs 100 $. Raw materials are commodities companies use in the primary production or manufacturing of goods. A fixed cost is a cost that does not vary with the level of production or sales. Business expenses like rent and employee wages are just some of the deductions you can claim.

There must be a correlation between the direct benefit received and the portion of the cost that is charged to each project/account. With the ABC system, you can allocate your overhead costs to certain activities, and thus products, to get a more specific picture of your cost by product. The Fixed CostFixed Cost refers to the cost or expense that is not affected by any decrease or increase in the number of units produced or sold over a short-term horizon. It is the type of cost which is not dependent on the business activity. Conversely, Indirect Cost benefits multiple product or projects.


Another example of a variable cost is your heating and cooling expenses that can change on a monthly basis. Activity cost drivers give a more accurate determination of the true cost of business activity by considering the indirect expenses. Cost accounting is a form of managerial accounting that aims to capture a company’s total cost of production by assessing its variable and fixed costs. If we look at the cost sheet of the company, we will see that total cost is a combination of direct cost vs indirect cost. These costs are very important for running any kind of business.

The cost principles as defined in Uniform Guidance provide the basis for determining the procedures used to identifydirect costs. These conditions include being reasonable, allocable and allowable. If you don’t use the correct costs to price your products, you may end up losing money. However, if you don’t factor in the indirect costs of running your business, you may not break even. Knowing the difference between production costs and business expenses may make a difference in your taxes. As such, knowing what is a direct cost and what is an indirect cost will make an impact.

Accounting for Managers

Grant rules are often strict about what constitutes a direct or an indirect cost and may allocate a specific amount of funding to each classification. Smartphone hardware, for example, is a direct, variable cost because its production depends on the number of units ordered.

What is the Difference Between Direct vs. Indirect Costs?

Participant support costs were traditionally allowed only by certain federal agencies or funding announcements. Under the Uniform Guidance, these costs are allowed with prior written approval of the funding agency, provided they are programmatically justified. The budget justification should describe the purpose for the costs and the way in which they will directly benefit the proposed project’s scope What is the Difference Between Direct vs. Indirect Costs? of work. These costs must be excluded when calculating the Modified Total Direct Costs to determine the overall project’s F&A costs. If you increase the production and produce 1500 m3 concrete this does not change your head office costs or marketing costs. To find out how much it truly costs you to produce a product or perform a service, you might also consider an activity-based costing system.

Financial Statements

For example, a manufacturing company clearly cannot generate revenue without first purchasing the inventory parts (“raw ingredients”) and materials integral to the overall production process and end-product. While all of the above costs are necessary for business operations, none of them can be directly tied to one specific product. Direct costs directly affect product costs, taxes, and profits. Sections 1 through 54 provide principles to be applied in establishing the allowability of certain items involved in determining cost. These principles should apply irrespective of whether a particular item of cost is properly treated as direct cost or F&A cost. In case of a discrepancy between the provisions of a specific sponsored agreement and the provisions below, the agreement should govern. Salaries are wages (including vacations, holidays, sick leave, and other excused absences of employees working specifically on objectives of a grant or contract – i.e, direct labor costs).

This means that you spend 25 cents on indirect costs for every dollar you earn. If your direct costs are also high, you won’t be turning much of a profit. Prime CostPrime cost is the direct cost incurred in manufacturing a product and typically includes the direct production cost of goods, raw material and direct labour costs. Costing and effective pricing of the goods are primarily determined on their basis. As you have seen, the aggregate of direct costs is called the prime costs in the cost sheet.

Pricing products with direct cost vs. indirect cost

Indirect costs such as rents and leases are rarely variable and do not mostly affect make-or-buy decisions. In addition, each product unit’s labor, raw materials, and depreciation expenses are $3, $2, and $0.5, respectively. An income statement record indicates the direct costs in the cost of goods sold section. Cost of goods sold is defined as the direct costs attributable to the production of the goods sold in a company. Knowing which costs are direct vs. indirect helps you with recording expenses in your books and on your business income statement.

  • Keeping track of your direct and indirect costs is essential when applying for government grants, investor funding, or loans from financial institutions.
  • Compensation may impact the order of which offers appear on page, but our editorial opinions and ratings are not influenced by compensation.
  • Since there is no plastic in widget 2 and no steel in widget 1, those two products are clearly attributable or traceable to one product right?
  • Knowing the difference between production costs and business expenses may make a difference in your taxes.