How accountants define business-related costs

accountants they are very concerned about the “cost” of running business. This is the one term every business should focus on, because if expenses can be reduced, it follows that profits can be increased. If you don’t understand the costs involved in “running your business,” then there’s not much hope that your business will survive.

Interestingly, CPAs tend to subdivide the expression “Cost” into six different types. They are: Direct Costs, Indirect Costs, Fixed Costs, Variable Costs, Relevant Costs and Irrelevant Costs. Now I will try to illustrate them one by one, in the hope that you will have a clearer picture in your mind of these “costs” when you talk to an accountant.

direct costs
Direct costs are costs that are directly related to a product, service, or group of associated items known as a product line. They are the expenses related to a source of sales income, a business unit or even a certain operation of the organization. For example, the price of hamburger meat, the price of hamburger buns, mustard, ketchup, and many other components of the hamburger are direct expenses of creating that famous sandwich.

Indirect costs
An indirect cost is a peculiar variety of cost. It cannot be placed on any particular product. For example, the labor expense to make that hamburger is a direct expense, but the expense associated with repairing the air conditioning at a burger joint is an indirect expense. It’s not directly related to the construction of the burger itself.

Every business should have a method of allocating overhead costs to its various unique items, gross sales revenue sources, business units, etc. Virtually all assignment techniques are arbitrary at one level or another. Business professionals and their accountants should regularly monitor the allocation procedures used for indirect costs, as this is an item that can be abused.

Fixed costs
This is a cost that remains constant, regardless of any change in a company’s activity. A great example of this is the mortgage (or lease or rent) on your building. It will be the same, year after year. The price is fixed and you can count on seeing it every month.

Variable costs
Conversely, variable charges may increase or decrease in proportion to the activity of your company. Changes such as fluctuations in gross sales or the level of production. A great example of this is the gasoline that is used in the transport of goods. As fuel price ranges vary, so does its associated company price.

relevant costs
This is a type of managerial accounting phrase. Help in business decision making. Relevant costs are basically the long-term expenses that may be incurred, depending on the tactic the company employs. If a hamburger joint decides to open a new store, the variable cost of hamburger meat must be considered as a relevant cost.

Irrelevant costs
This is another managerial accounting sentence. Once a supervisor contemplates taking a long-term action, these costs are the ones that can be discounted for one reason or another. They are costs that possibly lead you to make a wrong decision. Irrelevant costs are probably of the type that have been incurred in the past and do not have much influence on the future path of the business.

Understanding these various types of costs can make it much easier for you to talk to your CPA or other accounting professional, as well as give you a greater understanding of accounting principles.