What is direct labor cost?

Direct labor cost is wages that are incurred in order to produce specific goods or provide specific services to customers.

The total amount of direct labor cost is much more than wages paid. It also includes the payroll taxes associated with those wages, plus the cost of company-paid medical insurance, life insurance, workers' compensation insurance, and any company-matched pension contributions.

Direct labor costs are most commonly associated with products in a job costing environment, where the production staff is expected to record the time they spend working on various jobs. This can be a substantial chore if employees work on a multitude of different products.

In the services industries, such as auditing, tax preparation, and consulting, employees are expected to track their hours by job, so their employer can bill customers based on direct labor hours worked.

In a process costing environment, where the same product is created in very large quantities, direct labor cost is included in a general pool of conversion costs, which are then allocated equally to all of the products manufactured.

A strong case can be made in some production environments that direct labor does not really exist, and should be categorized as indirect labor, because production employees will not be sent home (and therefore not be paid) if one less unit of product is manufactured - instead, direct labor hours tend to be incurred at the same steady rate, irrespective of production volume levels, and so should be considered part of the general overhead costs associated with running a production operation.

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