Overhead costs are all costs associated with any construction or renovation project, and they make up generally a substantial portion of the total cost. This is why can make the difference between a profitable project and a failure.
As a contractor, deeply understanding construction overhead is the first step to figuring out how to keep project overhead low and gain better control of your spending.
Overhead costs are split into two categories direct and indirect costs (or general overhead and job overhead). While direct overhead costs are allocable to a specific job, indirect costs are not. Both of these are covered in more detail in this article.
General Overhead Costs (Indirect Expense)
Office expenses would include any office rent. This also consists of office supplies, utilities, insurance, phones, office equipment, furniture, and taxes.
Salaries of employees working in the offices and not directly employed on a specific project are calculated as a part of the indirect costs. The staff could be executives, purchasing staff, bookkeepers, estimators, administrative staff, etc.
Miscellaneous Indirect Overhead Costs
Some examples of miscellaneous cost miscellaneous costs would be postage, printing, travel expenses, legal fees, marketing, and advertising, and contracted professional services.
Depreciation expense is that portion of office equipment or construction equipment that has been written off each year as part of a general expense and cost of doing business.
In construction, smaller contractors will have fewer indirect costs and larger contractors will have more. Many companies manage to lower this type of cost to provide a more competitive advantage when bidding work.
Job Overhead Costs (Direct Expense)
Direct costs, also known as job overhead costs, include all costs that be directly charged to a specific project and changed from one to one. They are also unique and are required to successfully construct the project. Items that may be included in construction direct costs are as follows:
Project Specific Salaries
Project-specific salaries differ from office salaries. They include wages, payroll taxes, and benefits paid to employed project superintendents, foremen, field engineers, project schedulers, and other employed on-site staff. Reimbursable expenses such as travel or per diem expenses also are added. These costs are estimated based on a burdened hourly, weekly, or monthly rate multiplied by the amount of time an individual is expected to be on the project.
Temporary Office Facilities
In some projects, contractors may be required to temporary office space for outsourced workers, architects, or owner’s representatives. Mobile office trailers, for example, are required for the field staff to conduct business and meetings.
Other costs such as sanitation facilities and drinking water for on-site staff and workers may be charged as direct costs.
Any machinery or equipment rented specifically for a project falls under direct costs. These include excavators, cranes, concrete mixers, etc.
When you rent equipment specifically for one job, the rental costs would be classified as direct overhead. Note that this differs from material costs because these are large equipment pieces not integrated into the final structure, like cranes, earthmovers, or scaffolding.
While your business will have general liability insurance (an indirect overhead), additional insurance specifically required for a particular job is considered a direct overhead cost.
Common Mistakes When Labeling Indirect Costs
Mislabeling costs can lead to inaccurate estimations and may impact a project's profitability. Common mistakes include:
Misclassification of Direct Costs:
Often, costs directly attributable to a project are incorrectly classified as indirect. For example, equipment rental costs for a specific job should be categorized as direct costs, not indirect.
Underestimating Indirect Costs:
Costs like staff training, maintenance, and repair of equipment, although not tied to a specific project, can add up over time. Failing to account for these costs can lead to an underestimation of overall overhead.
How to Get Paid for Indirect Costs
To ensure you're compensated for your indirect costs:
Clearly Define Overhead in Contracts:
Be clear about what constitutes overhead in your project contracts. This clarity helps clients understand that the contract price includes compensation for these costs.
Use an Overhead Rate:
Apply an overhead rate to your direct costs when pricing services. This ensures you cover both direct and indirect costs.
Regularly Review and Update Overhead Rate:
Your overhead costs can change over time. Regularly reviewing and updating your overhead rate will ensure it accurately reflects your current expenses.
We hope that this article clears up your confusion about construction overhead costs. If you want to simplify the bookkeeping process for your small construction business, Construction Cost Accounting is here to help. Powered by dedicated bookkeepers and modern accounting software, we will help keep track of your expenses accurately, keep a closer eye on your cash flow, and provide you with an overview of your business's financial health. Start a Free Consultation here.