Fundamentals of Cost Accounting

Classification of Cost Part 2

The Institute of Cost and Works Accountants (ICWA) has issued Cost Accounting Standard – 1 which deals with the classification of costs. It mainly deals with the principles for such classification of costs. Let us see some important classifications and types of costs like controllable costs, historical costs etc.

Classification of Costs

  • Controllability
  • Time
  • Product Association
  • Planning and Control

Classification of Costs - Controllable Costs

 

1] Classification by Controllability

As per this classification, we identify whether the cost is controllable by nature or not. Naturally, there are two types of costs under this classification – controllable costs and untrollable costs.

  • Controllable Costs

Controllable costs are those which can be influenced by the actions of the firm even to some limited extent. So even if the cost is only partly controllable, we will call it controllable costs.

In an organization, there are various costs centers. These controllable costs of a particular cost center will be influenced and controlled by the actions of the manager responsible for that responsibility center.

Generally, almost all direct costs such as material cost, labor costs, and certain overhead expenses are controllable by the actions of the lower levels of management.

  • Uncontrollable Costs

On the other hand, uncontrollable costs are not in control of the management. They cannot be influenced by any action taken by managers or the firm. Say for example the rent of the factory.

This is an uncontrollable cost, as the management has no say or influence over it. In fact, most fixed costs and overheads are uncontrollable costs.

2] Classification by Time

When with classify the costs on the basis of time, there are two broad classifications – historical costs and predetermined costs. Let us take a brief look.

  • Historical Costs

Such costs as the name suggests are past costs which have already been incurred by the firm.

So these costs can only be determined after the production or trade of a certain thing which is done already.

They only provide a reference or historical value, they are not useful for cost control purposes.

  • Predetermined Costs

When we predetermine costs on scientific principles and basis, such costs become the standard costs.

Then we can compare them to the actual costs to identify variances and their causes. And so they play a roll in cost control.

Learn more about the Cost Accounting here in detail

3] Classification by Product Association

It checks the association of cost with the product and tells whether it is feasible or not

  • Product Costs

Such costs are traceable to the products easily and form a part of the inventory valuation.

So costs like direct material, labor, manufacturing costs, overheads etc are all product costs. They are the basis of the pricing of the product and cost plus profit scenarios.

  • Period Costs

Costs which incur on the basis of time are Period Costs. Examples include rent, salaries etc. These are costs are necessary for the manufacturing of the product but cannot be assigned to the products.

4] Classification by Planning and Control

Cost accounting provides the management with important information that helps them perform managerial functions of planning and control. On the basis of these costs can be classified as budgeted costs and standard costs.

  • Budgeted Costs

As the name suggests this is a future expense that the firm expects to incur. So it is an estimated expense.

For various phases and cost centers firm prepares various budgets. Like there is a production budget, sales budget, marketing budget etc.

It allows for constant comparisons between actual and budgeted costs to identify the variances and help control costs.

  • Standard Costs

Predetermined cost based on a technical estimate for material costs, labor costs and some overhead costs for a selected period of time and for a prescribed set of working conditions are called standard cost

Solved Question for You

Q: What are the basic characteristics of historical costs?

Ans: the basic characteristics of historical costs are,

  1. historical costs are based on recorded facts
  2. there is evidence to verify their occurrence
  3. they are objective in nature
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