Factory overhead not absorbed by month end
Why a balance is left in a factory's overhead pool after costs are allocated to production, three ways to clear it, and how to post the clearing journal.
By Achekam · · 5 min read · For Manufacturing businesses in South Africa, Nigeria, Kenya
Every month the bookkeeper of a small factory does the same thing. The supervisor's salary, the factory electricity, machine repairs and depreciation are collected in an overhead account. A share of that pool is then moved into the cost of what was produced, usually at a rate set at the start of the year. And every month, something is left behind.
Sometimes the leftover is a debit, because the factory spent more on overhead than the rate absorbed: under-absorbed overhead. Sometimes it is a credit, because more was absorbed than spent. Either way, the balance cannot stay in the pool forever, and the question is where it should go. This article explains why the balance arises, the options for clearing it, and how to post the journal.
Why a balance is left in the pool
The cause is the gap between a plan and what happened. An overhead rate is a prediction: it assumes a certain level of overhead spending and a certain volume of production. Reality differs on both counts. A machine breaks down and the repair bill doubles the month's maintenance. A big order is delayed and production volume drops, so each unit made absorbs its planned share but the total absorbed falls short of the fixed costs that still have to be paid.
AccountingTools explains that standard costs are easier to use for work in process accounting but less precise than actual costs, especially where the standards are inaccurate or production is significantly inefficient. A leftover balance in the overhead pool is that imprecision showing itself.
What goes into the pool in the first place
AccountingTools explains that labour directly traceable to a job is charged to that job as direct labour, while other manufacturing labour, such as supervisors, cleaners and maintenance staff, is recorded in an overhead cost pool as indirect labour and allocated to open jobs. The same logic applies to other costs: if it can be traced to a product, it is direct; if it supports production generally, it goes in the pool.
Three ways to clear it
AccountingTools lists three ways to dispose of a residual balance in an overhead cost pool when standard costs are allocated:
| Method | What it does | When it fits |
|---|---|---|
| Charge it all to cost of goods sold | The whole balance goes to cost of sales in the month | Most small factories, most months |
| Spread it across finished goods, work in process and cost of goods sold | Each takes a share in proportion to the overhead already in it | Where the balance is large and much of the month's output is still in stock |
| Charge it to the jobs open in the period | Open jobs absorb the extra | Job shops that cost each job individually |
Why the simplest is usually right
AccountingTools recommends the simplest method because overhead allocation is inherently inaccurate. Spreading a leftover balance across stock and work in process with great precision gives a false sense of accuracy to a number that started as an estimate. For most small manufacturers, charging the balance to cost of goods sold each month is sensible, provided the balance is not large enough to distort the stock value.
If the balance is large month after month, the answer is not a more elaborate clearing method. It is a better overhead rate, or a closer look at why overhead is running away from plan.
Consistency from month to month
AccountingTools stresses that the same types of costs should be charged to overhead in every period and applied consistently, so that overhead allocations can be explained month to month. A factory that puts the forklift lease in overhead in March and in general expenses in April produces leftover balances that mean nothing.
A short written rule helps: a list of the expense accounts that feed the pool, the basis of the absorption rate, and the method used to clear the balance. Set it at the start of the year and change it only deliberately. Factory expense accounts covers how to arrange the accounts so the pool is easy to see.
Posting the clearing journal in Achekam
In Achekam, the pool, the absorption and the clearing are ordinary accounts and manual journals that you set up and post yourself:
- Set up the accounts. Each business has its own double-entry ledger with a standard chart of accounts created when the books first open, and accounts can be added, renamed or switched off. Add an overhead control account for the pool, an account for overhead absorbed, and, if you hold them, work in process and finished goods accounts.
- Absorb overhead. Each month, post a manual journal moving the planned share of overhead out of the pool into work in process or finished goods. How work in process is built up from materials is covered in work in process from bills of materials.
- Clear the leftover. At month end, post a second manual journal: for under-absorbed overhead, debit cost of sales and credit the pool; for over-absorbed overhead, the reverse.
Achekam refuses a journal that does not balance or is dated in a closed month, so the clearing entry must be posted before the month is closed. If it was wrong, a posted journal is corrected only by a reversal, which keeps the original and the correction visible.
The cost price on the product
One more link matters. Achekam's cost of sales uses the single cost price typed on each product, with no FIFO or weighted-average costing. If that cost price includes an overhead element, it is effectively a standard cost, and the overhead in it is your planned rate. When the rate is revised, update the cost prices too, or the cost of sales on every sale will keep using the old figure. See working out finished goods cost.
This month's step
AccountingTools' article on job costing explains how overhead pools work and the three clearing methods. Write down which accounts feed your pool, check last month's leftover balance, and post the clearing journal before you close the month.
General guidance only, not advice on your own circumstances. Tax and payroll rules change: check the current position with the authority or your adviser.
