ICAI Notes: Employee Cost and Direct Expenses | Cost and Management Accounting for CA Intermediate PDF Download

 Page 1


 
 
CHAPTER 
3 
 
 
  EMPLOYEE COST AND 
 DIRECT EXPENSES 
 
After studying this chapter, you would be able to- 
? State the meaning and importance of Employee (Labour) 
Cost in an organisation. 
? Discuss the attendance and payroll procedures. 
? State the meaning and treatment of idle time and overtime 
cost. 
? Compute employee (labour) turnover, discuss its meaning, 
reasons, methods of measurement and cost impacts.  
? Discuss and apply the various methods of remuneration and 
incentive system in calculation of wages, bonus etc. 
? Discuss the efficiency rating procedures. 
? Discuss the measurement and treatment of Direct expenses. 
 
 
 
LEARNING OUTCOMES 
3 
© The Institute of Chartered Accountants of India
Page 2


 
 
CHAPTER 
3 
 
 
  EMPLOYEE COST AND 
 DIRECT EXPENSES 
 
After studying this chapter, you would be able to- 
? State the meaning and importance of Employee (Labour) 
Cost in an organisation. 
? Discuss the attendance and payroll procedures. 
? State the meaning and treatment of idle time and overtime 
cost. 
? Compute employee (labour) turnover, discuss its meaning, 
reasons, methods of measurement and cost impacts.  
? Discuss and apply the various methods of remuneration and 
incentive system in calculation of wages, bonus etc. 
? Discuss the efficiency rating procedures. 
? Discuss the measurement and treatment of Direct expenses. 
 
 
 
LEARNING OUTCOMES 
3 
© The Institute of Chartered Accountants of India
 
 
 
3.2 
COST AND MANAGEMENT ACCOUNTING 
 
 
 1. INTRODUCTION 
To manufacture a product or to make provision for service, the role of human 
exertion is inevitable. The term used for human resources may include workers, 
employees, labourers, staffs etc. Whatsoever nomenclature may be used to denote 
them; they are required to be compensated for their exertions. The compensation 
so paid, either in monetary terms or in kind and facility is known as wages. Cost of 
paying wages to workers is popularly known as labour cost as it relates to labour 
(exertion) they put for manufacturing of product or provision of services; hence, 
employee cost is also interchangeably known as labour cost. In a nutshell, 
employee cost is wider term which includes wages, salary, bonus, incentives 
etc. paid to an employee and charged to a cost object as labour cost. 
Unlike other costs, employee costs are influenced by human behavior. Due to this 
peculiarity, divergence in employee compensation is observed across the different 
industries. Wages are determined on both quantitative and qualitative factors like 
volume of work, skills required etc. Hence, it is necessary that employees should 
 1. 
CHAPTER OVERVIEW 
© The Institute of Chartered Accountants of India
Page 3


 
 
CHAPTER 
3 
 
 
  EMPLOYEE COST AND 
 DIRECT EXPENSES 
 
After studying this chapter, you would be able to- 
? State the meaning and importance of Employee (Labour) 
Cost in an organisation. 
? Discuss the attendance and payroll procedures. 
? State the meaning and treatment of idle time and overtime 
cost. 
? Compute employee (labour) turnover, discuss its meaning, 
reasons, methods of measurement and cost impacts.  
? Discuss and apply the various methods of remuneration and 
incentive system in calculation of wages, bonus etc. 
? Discuss the efficiency rating procedures. 
? Discuss the measurement and treatment of Direct expenses. 
 
 
 
LEARNING OUTCOMES 
3 
© The Institute of Chartered Accountants of India
 
 
 
3.2 
COST AND MANAGEMENT ACCOUNTING 
 
 
 1. INTRODUCTION 
To manufacture a product or to make provision for service, the role of human 
exertion is inevitable. The term used for human resources may include workers, 
employees, labourers, staffs etc. Whatsoever nomenclature may be used to denote 
them; they are required to be compensated for their exertions. The compensation 
so paid, either in monetary terms or in kind and facility is known as wages. Cost of 
paying wages to workers is popularly known as labour cost as it relates to labour 
(exertion) they put for manufacturing of product or provision of services; hence, 
employee cost is also interchangeably known as labour cost. In a nutshell, 
employee cost is wider term which includes wages, salary, bonus, incentives 
etc. paid to an employee and charged to a cost object as labour cost. 
Unlike other costs, employee costs are influenced by human behavior. Due to this 
peculiarity, divergence in employee compensation is observed across the different 
industries. Wages are determined on both quantitative and qualitative factors like 
volume of work, skills required etc. Hence, it is necessary that employees should 
 1. 
CHAPTER OVERVIEW 
© The Institute of Chartered Accountants of India
 3.3 
 
EMPLOYEE COST AND DIRECT EXPENSES      
 3.3 
 
be monitored, measured, and compensated appropriately to achieve economy in 
cost, efficiency in performance and effectiveness in desired output.  
 2. EMPLOYEE (LABOUR) COST 
Employee (Labour) Cost: Benefits paid or payable to the employees of an entity, 
whether permanent, or temporary for the services rendered by them.  Employee cost 
includes payments made in cash or kind. Employee cost includes the following: 
(i)  Wages and salary; 
(ii)  Allowances and incentives; 
(iii)  Payment for overtimes; 
(iv)  Employer’s contribution to Provident fund and other welfare funds; 
(v)  Other benefits (leave with pay, free or subsidised food, leave travel 
concession etc.) etc. 
Classification of Employee (Labour) Cost: Employee cost are broadly 
classified as direct and indirect employee cost. 
(i) Direct Employee (Labour) Cost 
Benefits paid or payable to the employees which can be attributed to a 
cost object in an economically feasible manner. This can be easily identified 
and allocated to an activity, contract, cost centre, customer, process, 
product etc.  
(ii) Indirect Employee (Labour) Cost 
Benefits paid or payable to the employees, which cannot be directly 
attributable to a particular cost object in an economically feasible 
manner.  
Distinction between Direct and Indirect Employee Cost 
Direct employee cost Indirect employee cost 
1. It is the cost incurred in payment 
of employees who are directly 
engaged in the production 
process. 
1. Cost incurred for payment of 
employees who are not directly 
engaged in the production 
process. 
 2. 
© The Institute of Chartered Accountants of India
Page 4


 
 
CHAPTER 
3 
 
 
  EMPLOYEE COST AND 
 DIRECT EXPENSES 
 
After studying this chapter, you would be able to- 
? State the meaning and importance of Employee (Labour) 
Cost in an organisation. 
? Discuss the attendance and payroll procedures. 
? State the meaning and treatment of idle time and overtime 
cost. 
? Compute employee (labour) turnover, discuss its meaning, 
reasons, methods of measurement and cost impacts.  
? Discuss and apply the various methods of remuneration and 
incentive system in calculation of wages, bonus etc. 
? Discuss the efficiency rating procedures. 
? Discuss the measurement and treatment of Direct expenses. 
 
 
 
LEARNING OUTCOMES 
3 
© The Institute of Chartered Accountants of India
 
 
 
3.2 
COST AND MANAGEMENT ACCOUNTING 
 
 
 1. INTRODUCTION 
To manufacture a product or to make provision for service, the role of human 
exertion is inevitable. The term used for human resources may include workers, 
employees, labourers, staffs etc. Whatsoever nomenclature may be used to denote 
them; they are required to be compensated for their exertions. The compensation 
so paid, either in monetary terms or in kind and facility is known as wages. Cost of 
paying wages to workers is popularly known as labour cost as it relates to labour 
(exertion) they put for manufacturing of product or provision of services; hence, 
employee cost is also interchangeably known as labour cost. In a nutshell, 
employee cost is wider term which includes wages, salary, bonus, incentives 
etc. paid to an employee and charged to a cost object as labour cost. 
Unlike other costs, employee costs are influenced by human behavior. Due to this 
peculiarity, divergence in employee compensation is observed across the different 
industries. Wages are determined on both quantitative and qualitative factors like 
volume of work, skills required etc. Hence, it is necessary that employees should 
 1. 
CHAPTER OVERVIEW 
© The Institute of Chartered Accountants of India
 3.3 
 
EMPLOYEE COST AND DIRECT EXPENSES      
 3.3 
 
be monitored, measured, and compensated appropriately to achieve economy in 
cost, efficiency in performance and effectiveness in desired output.  
 2. EMPLOYEE (LABOUR) COST 
Employee (Labour) Cost: Benefits paid or payable to the employees of an entity, 
whether permanent, or temporary for the services rendered by them.  Employee cost 
includes payments made in cash or kind. Employee cost includes the following: 
(i)  Wages and salary; 
(ii)  Allowances and incentives; 
(iii)  Payment for overtimes; 
(iv)  Employer’s contribution to Provident fund and other welfare funds; 
(v)  Other benefits (leave with pay, free or subsidised food, leave travel 
concession etc.) etc. 
Classification of Employee (Labour) Cost: Employee cost are broadly 
classified as direct and indirect employee cost. 
(i) Direct Employee (Labour) Cost 
Benefits paid or payable to the employees which can be attributed to a 
cost object in an economically feasible manner. This can be easily identified 
and allocated to an activity, contract, cost centre, customer, process, 
product etc.  
(ii) Indirect Employee (Labour) Cost 
Benefits paid or payable to the employees, which cannot be directly 
attributable to a particular cost object in an economically feasible 
manner.  
Distinction between Direct and Indirect Employee Cost 
Direct employee cost Indirect employee cost 
1. It is the cost incurred in payment 
of employees who are directly 
engaged in the production 
process. 
1. Cost incurred for payment of 
employees who are not directly 
engaged in the production 
process. 
 2. 
© The Institute of Chartered Accountants of India
 
 
 
3.4 
COST AND MANAGEMENT ACCOUNTING 
2.  Direct employee cost can be easily 
identified and allocated to cost 
unit. 
2.  Indirect employee cost is 
apportioned on some 
appropriate basis. 
3.  Direct employee cost varies with 
the volume of production and 
has positive relationship with the 
volume. 
3.  Indirect employee cost may not 
vary with the volume of 
production. 
 3. EMPLOYEE (LABOUR) COST CONTROL  
Employee costs are associated with human beings. To control employee costs one 
has to understand human behavior. Employee cost control means control over the 
cost incurred on employees. Control over employee costs does not imply control 
over the size of the wage bill; it also does not imply that wages of each employee 
should be kept as low as possible.  
The aim should be to keep the wages per unit of output as low as possible. 
This can only be achieved by giving employees appropriate compensation to 
encourage efficiency so that optimum output can be achieved in effective 
manner. 
A well-motivated team of employees can bring about wonders. Each concern 
should, therefore, constantly strive to raise the productivity of employee. The 
efforts for the control of employee costs should begin from the very beginning. 
There has to be a concerted effort by all the concerned departments.  
Department Functions 
1. Personnel Department (i) On receipt of employee requisition from the 
various departments it searches for the 
required skills and qualification. 
(ii) It ensures that the persons recruited possess 
the requisite qualification and skills required 
for the job. 
(iii) Arranges proper training for the newly 
recruited employees and workshops for 
existing employees.  
 3. 
© The Institute of Chartered Accountants of India
Page 5


 
 
CHAPTER 
3 
 
 
  EMPLOYEE COST AND 
 DIRECT EXPENSES 
 
After studying this chapter, you would be able to- 
? State the meaning and importance of Employee (Labour) 
Cost in an organisation. 
? Discuss the attendance and payroll procedures. 
? State the meaning and treatment of idle time and overtime 
cost. 
? Compute employee (labour) turnover, discuss its meaning, 
reasons, methods of measurement and cost impacts.  
? Discuss and apply the various methods of remuneration and 
incentive system in calculation of wages, bonus etc. 
? Discuss the efficiency rating procedures. 
? Discuss the measurement and treatment of Direct expenses. 
 
 
 
LEARNING OUTCOMES 
3 
© The Institute of Chartered Accountants of India
 
 
 
3.2 
COST AND MANAGEMENT ACCOUNTING 
 
 
 1. INTRODUCTION 
To manufacture a product or to make provision for service, the role of human 
exertion is inevitable. The term used for human resources may include workers, 
employees, labourers, staffs etc. Whatsoever nomenclature may be used to denote 
them; they are required to be compensated for their exertions. The compensation 
so paid, either in monetary terms or in kind and facility is known as wages. Cost of 
paying wages to workers is popularly known as labour cost as it relates to labour 
(exertion) they put for manufacturing of product or provision of services; hence, 
employee cost is also interchangeably known as labour cost. In a nutshell, 
employee cost is wider term which includes wages, salary, bonus, incentives 
etc. paid to an employee and charged to a cost object as labour cost. 
Unlike other costs, employee costs are influenced by human behavior. Due to this 
peculiarity, divergence in employee compensation is observed across the different 
industries. Wages are determined on both quantitative and qualitative factors like 
volume of work, skills required etc. Hence, it is necessary that employees should 
 1. 
CHAPTER OVERVIEW 
© The Institute of Chartered Accountants of India
 3.3 
 
EMPLOYEE COST AND DIRECT EXPENSES      
 3.3 
 
be monitored, measured, and compensated appropriately to achieve economy in 
cost, efficiency in performance and effectiveness in desired output.  
 2. EMPLOYEE (LABOUR) COST 
Employee (Labour) Cost: Benefits paid or payable to the employees of an entity, 
whether permanent, or temporary for the services rendered by them.  Employee cost 
includes payments made in cash or kind. Employee cost includes the following: 
(i)  Wages and salary; 
(ii)  Allowances and incentives; 
(iii)  Payment for overtimes; 
(iv)  Employer’s contribution to Provident fund and other welfare funds; 
(v)  Other benefits (leave with pay, free or subsidised food, leave travel 
concession etc.) etc. 
Classification of Employee (Labour) Cost: Employee cost are broadly 
classified as direct and indirect employee cost. 
(i) Direct Employee (Labour) Cost 
Benefits paid or payable to the employees which can be attributed to a 
cost object in an economically feasible manner. This can be easily identified 
and allocated to an activity, contract, cost centre, customer, process, 
product etc.  
(ii) Indirect Employee (Labour) Cost 
Benefits paid or payable to the employees, which cannot be directly 
attributable to a particular cost object in an economically feasible 
manner.  
Distinction between Direct and Indirect Employee Cost 
Direct employee cost Indirect employee cost 
1. It is the cost incurred in payment 
of employees who are directly 
engaged in the production 
process. 
1. Cost incurred for payment of 
employees who are not directly 
engaged in the production 
process. 
 2. 
© The Institute of Chartered Accountants of India
 
 
 
3.4 
COST AND MANAGEMENT ACCOUNTING 
2.  Direct employee cost can be easily 
identified and allocated to cost 
unit. 
2.  Indirect employee cost is 
apportioned on some 
appropriate basis. 
3.  Direct employee cost varies with 
the volume of production and 
has positive relationship with the 
volume. 
3.  Indirect employee cost may not 
vary with the volume of 
production. 
 3. EMPLOYEE (LABOUR) COST CONTROL  
Employee costs are associated with human beings. To control employee costs one 
has to understand human behavior. Employee cost control means control over the 
cost incurred on employees. Control over employee costs does not imply control 
over the size of the wage bill; it also does not imply that wages of each employee 
should be kept as low as possible.  
The aim should be to keep the wages per unit of output as low as possible. 
This can only be achieved by giving employees appropriate compensation to 
encourage efficiency so that optimum output can be achieved in effective 
manner. 
A well-motivated team of employees can bring about wonders. Each concern 
should, therefore, constantly strive to raise the productivity of employee. The 
efforts for the control of employee costs should begin from the very beginning. 
There has to be a concerted effort by all the concerned departments.  
Department Functions 
1. Personnel Department (i) On receipt of employee requisition from the 
various departments it searches for the 
required skills and qualification. 
(ii) It ensures that the persons recruited possess 
the requisite qualification and skills required 
for the job. 
(iii) Arranges proper training for the newly 
recruited employees and workshops for 
existing employees.  
 3. 
© The Institute of Chartered Accountants of India
 3.5 
 
EMPLOYEE COST AND DIRECT EXPENSES      
 3.5 
 
(iv) Maintains all personal and job related 
records of the employees. 
(v) Evaluation of performance from time to time 
2.  Engineering and Work 
Study Department 
(i) Prepares plans and specifications for each 
job. 
(ii) Providing training and guidance to the 
employees. 
(iii) Supervises production activities. 
(iv) Conducts time and motion studies. 
(v) Undertakes job analysis. 
(vi) Conducts job evaluation. 
3. Time-keeping 
Department
(i) Concerned with the maintenance of 
attendance records i.e. time keeping and
(ii) Time spent by an employee on various jobs 
i.e. time booking etc. 
4.  Payroll Department (i) The preparation of payroll of the employees. 
(ii) It disburses salary and wage payments. 
5. Cost Accounting 
Department 
(i) Accumulation and classification of employee 
costs.  
(ii) Analysis and allocation of costs to various 
cost centres or cost objects 
3.1 Important Factors for the Control of Employee Cost 
To exercise an effective control over the employee costs, the essential requisite is 
efficient utilisation of employee and allied factors. The main points which need 
consideration for controlling employee costs are the following: 
(i) Assessment of manpower requirements. 
(ii) Control over time-keeping and time-booking. 
(iii) Time & Motion Study. 
(iv) Control over idle time and overtime. 
© The Institute of Chartered Accountants of India