How is overhead typically categorized in financial accounting?

Overhead in financial accounting is categorized as indirect costs. This categorization is essential because overhead refers to expenses that are not directly tied to the production of goods or services but are necessary to maintain the overall operation of a business. Indirect costs include items such as utilities, rent, and administrative salaries—expenses that support the production process without being directly attributable to any specific product.

In contrast, fixed costs and variable costs are classifications based on how costs behave with changes in production levels. Fixed costs remain constant regardless of production volume, while variable costs change in direct proportion to production levels. Direct costs are those expenses that can be traced specifically to a particular product or service, such as raw materials and labor directly involved in manufacturing.

Understanding the distinction and categorization of overhead as indirect costs is crucial for accurate budgeting, financial reporting, and cost analysis. It allows businesses to allocate their expenses appropriately, assess profitability, and make informed strategic decisions.