Product Costs vs Period Costs

Inventoriable product costs, sometimes just product costs, are only incurred during the value chain’s production stage. Inventoriable product costs are required for the cost of the assets, that is, inventory, rather than total product costs. All expenses incurred in the factory or manufacturing unit for producing the assets are product or manufacturing costs. Classification of cost into periods and products is generally for financial accounting purposes. A proper determination of revenues and expenses must be based on a well-defined distinction between Period cost and Product cost. Both of these costs are considered period costs because selling and administrative expenses are used up over the same period in which they originate.

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What is Manufacturing Overhead?

Whether the calculation is for forecasting or reporting affects the appropriate methodology as well. Period costs and product costs are two categories of costs for a company that are incurred in producing and selling their product or service. Direct materials are the raw materials that are integrated into the product. Product costs only become an expense when the products to which they are attached are sold.

Cost AccountingCost accounting is a defined stream of managerial accounting used for ascertaining the overall cost of production. Product costs (direct materials, direct labor and overhead) are not expensed until the item is sold when the product costs are recorded as cost of goods sold. Period costs are selling and administrative expenses, not related to creating a product, that are shown in the income statement in the period in which they are incurred. Examples of product costs are direct materials, direct labor, and allocated factory overhead. Examples of period costs are general and administrative expenses, such as rent, office depreciation, office supplies, and utilities. Period costs are the costs that cannot be directly linked to the production of end-products.

Difference Between Product Cost and Period Cost

These costs are not included as part of the cost of either purchased or manufactured goods, but are recorded as expenses on the income statement in the period they are incurred. If advertising happens in June, you will receive an invoice, and record the expense in June, even if you have terms that allow you to actually pay the expense in July. The cash may actually be spent on an item that will be incurred later, like insurance. It is important to understand through the accrual method of accounting, that expenses and income should be recognized when incurred, not necessarily when they are paid or cash received. The costs, in this case, comprise of raw material costs, labor costs as well a manufacturing overhead costs. Product cost appears in the financial statements since it includes the manufacturing overhead that is required by both GAAP and IFRS.

The direct materials, direct labor and manufacturing overhead costs incurred to manufacture these 500 units would be initially recorded as inventory (i.e., an asset). The cost of 300 units would be transferred to cost of goods sold during total cost in economics the year 2022 which would appear on the income statement of 2022. The remaining inventory of 200 units would not be transferred to cost of good sold in 2022 but would be listed as current asset in the company’s year-end balance sheet.

The Accounting Gap Between Large and Small Companies

These unsold units would continue to be treated as asset until they are sold in a following year and their cost transferred from inventory account to cost of goods sold account. Inventoriable costs are all costs of a product that are considered assets when the costs are incurred and are expensed as cost of goods sold once the product is sold. These costs are different from period costs because these costs are initially capitalized to inventory. They are capitalized to inventory because when a product is in the process of being manufactured, work in process costs are being incurred and value is added throughout the process, not all at once. If you manufacture a product, these costs would include direct materials and labor along with manufacturing overhead.

Production costs are the total expenses incurred by a business in producing a product or service. Production cost factors typically include labor, raw materials, equipment, rent, and other supplies or overhead. The tires that are bought or manufactured in the plant are necessary to produce a finished car. The company has one very large manufacturing facility but has a few dealerships and offices around the country.

AccountingTools

Administrative activities are the most pure form of period costs, since they must be incurred on an ongoing basis, irrespective of the sales level of a business. Selling costs can vary somewhat with product sales levels, especially if sales commissions are a large part of this expenditure. The type of labor involved will determine whether it is accounted for as a period cost or a product cost.

A bit harder to calculate, time is a crucial factor to consider nevertheless. The software development lifecycle is time-consuming, and you may face obstacles that could lengthen your timeline. For example, an in-house employee will expect benefits like paid time off, workspaces, and equipment. Based in Atlanta, Georgia, W D Adkins has been writing professionally since 2008. Adkins holds master’s degrees in history and sociology from Georgia State University. An invoice for $7,500, terms f.o.b. shipping point, was received and entered December 30, 2016.

Difference Between Product Costs and Period Costs FAQs

Product costs include the costs to manufacture products or to purchase products. If a product is unsold, the product costs will be reported as inventory on the balance sheet. When the product is sold, its cost is removed from inventory and will be included on the income statement as the cost of goods sold. Examples of product costs include the cost of raw materials used, depreciation on plant, expired insurance on plant, production supervisor salaries, manufacturing supplies used, and plant maintenance. Indirect material costs are derived from the goods not directly traced to the finished product, like the sign adhesive in the Dinosaur Vinyl example.

• What is important to note about these product costs is that they attach to inventory and are thus said to be inventoriable costs.
• Indirect material costs are derived from the goods not directly traced to the finished product, like the sign adhesive in the Dinosaur Vinyl example.
• Some cost-saving measures, like hiring junior developers, may result in several issues later on in the development process.
• Such materials, called indirect materials or supplies, are included in manufacturing overhead.
• All expenses incurred in the factory or manufacturing unit for producing the assets are product or manufacturing costs.
• Time is money in this scenario, so you’ll want to consider how long you expect the development process to take and keep track of the actual timeline of events.