Competitive Exams Accountancy Cost Classificaation

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Cost Classification

classification of costs is the process of grouping costs according to their common characteristics. In order to identify costs with cost center or cost units a suitable classification of costs is of much significance, cost may be classified from different view points which are follows According to nature of items cost may be of 2 types

1 Direct cost

2 Indirect costs

Direct Cost: A cost that can be directly traced to producing specific goods or services. Direct cost refers to those costs which can be easily identified with product, process or department, material used and labour employed in manufacturing in article or in a particular process of production are common example of direct cost. Costs which are traceable to the specific activity. Labor and material inputs are the most common direct costs but there can also be other traceable costs such as marketing, selling or administrative type costs. Direct costs together with indirect costs determine the total cost of providing a good or services. Direct cost is a cost that can easily and economically be identified either with an individual unit of production or with a responsibility centre. Direct cost is a cost which can be allocated in full to a product, service, customer, and cost centre or business activity. A group of staff dedicated to developing a Customer application is an example.

Indirect Cost: Costs which are not traceable to specific activities. Examples of indirect costs may be: Salaries of chairs and administrative staff, regular telephone services, supplies not specifically charged out. Indirect costs together with direct costs, determine the total cost of providing a particular good or service. Indirect cost is also known as Facilities and Administrative Costs. The costs of operations which cannot be assigned to specific projects, such as electricity and central administrative services, sometimes referred to as overhead. Indirect cost is a cost that cannot be easily and conveniently traced to the particular cost object under consideration.


1 Fixed costs

2 variable costs

3 semi variable costs

  • Fixed Cost: A production cost which does not vary much with the volume of output eg. Administrative costs. Fixed cost is a cost that remains constant in the short term when the quantity produced increases or decreases within certain scales of production. Fixed costs are operating expenses that are incurred when providing necessities for doing business and have no relation to the volume of production and sales as opposed to “variable costs” Examples are rent, property taxes, and interest expense.
  • Variable Costs: I any costs that change significantly with the level of output eg. Cost of materials Is variable cost. Variable cost is also known as, operating costs, prime costs, on costs and direct costs, are costs which vary directly with the rate of output, for example, labour, fuel, power and cost of raw material.
  • Semi Variable Costs: Some cots have tendency to vary with changes in the volume of output or sales, but not in direct proportion to the change. These costs are partly fixed and partly variable and as such these cots are known as semi-variable costs. Cost that is partly fixed and partly variable at the same time. Total costs are an example of a semi variable cost

From the View Point of Their Controllability

Cost May Be Classified as

  • Controllable Costs: Controllable costs refer to those costs which can be influenced by the action of a specified member of an undertaking.
  • Uncontrollable Costs: Uncontrollable costs, on the other hand, refer to those costs which cannot be influenced by the action of a specified member of an undertaking.

From the View Point of Their Normality

  • Normal costs: Normal costs refer to those costs which are normally incurred ata given level of output in the conditions in which that level of output is normally attained. Such costs cannot be avoided at all.
  • Abnormal costs: Abnormal or avoidable costs refer to those costs which are not normally incurred ata given level of output in the condition in which the level of output is attained.

From the Point of Relevence Decision Making and Control Cost

  • Sunk costs: Sunk costs are costs which cannot be recovered. Costs incurred in the past which are irretrievable and therefore not relevant to current decisions. For example, a small bakery might buy an over at a fixed cost, but which it could sell at some future date should it want to. It also might pay out a large amount in advertising its services. However, this latter cost could not be recovered later on-once paid for, the advertising has gone, whether or not the promotion is successful. Sunk costs represent a barrier to entry in an industry because they scare potential entrants from entering-should they fail, they would have. In economics and in business decision-making, sunk costs are costs that have already been incurred and which cannot be recovered to any significant degree. Sunk costs are sometimes contrasted with incremental costs, which are the costs that will change due to the proposed course of action. In microeconomic theory, only incremental costs are relevant to a decision. If we let sunk costs influence our decisions, we will not be assessing a proposal exclusively on its own merits.
  • Out of pocket costs: Out of pocket cost refers to those costs which signify the present of future cash expenditure regarding a certain decision that will vary depending upon the nature of decision made.
  • Opportunity costs: Opportunity cost is a term used in economics, to mean the cost of something in terms of an opportunity foregone and the benefits that could be received from that opportunity, or the most valuable foregone alternative. For example, if a city decides to build a hospital on vacant land that it owns, the opportunity cost is some other thing that might have been done with the land and construction funds instead. In building the hospital, the city has forgone the opportunity to build a sporting cent.
  • Imputed costs: Imputed costs refer to those costs which are not included in costs but are considered for making management decision.
  • Differential costs: This is refer to difference in total costs between two alternatives

According to Point of View of Function

  • Production costs: Production costs refer to those costs which arise in the course of production from the acquisition of raw material till the finished products have been turned out:
  • Administration costs: Administration costs refer to those costs which are required for formulating the policy, directing the organization, and controlling the operation of an undertaking.
  • Selling costs: Selling costs refer to those costs which are incurred to create and stimulate demand and to secure orders.
  • Distribution costs: Distribution costs refer to the costs of the sequence of operation which starts with making the packed product available for dispatch and ends with making the reconditioned returned empty package available for re-use.