My word, this is terribly interesting

Now to most accountants that question would seem plain daft, if I’m honest. The answer is staff are an overhead becasue that’s what the rules say and accountants abide by the rules.

Which means that accountants are all to often the ones who are plain daft because inside the question is the very obvious understanding that in a service activity (especially) people are the key to all value generation. And they’re not an overhead as such – they are the profit centre.

But that’s not the way that accounting, based on the prescription of capitalism wishes to see the issue. Accounting was organised on the logic that the focus of attention was the generation of funds for the owners – the capitalists. Anything that depleted the funds left to the owners was, therefore, a cost unless potentially resaleable when it became an asset, even if the value attributed was very often somewhat arbitrary.

Are staff really treated as an overhead in UK accounting?

I know that some staff costs are overheads: holiday pay, perhaps the costs of back office functions. But basic staff costs an overhead?

Umm, they usually appear in the accounts as staff or labour costs, don\’t they?

There are three possibilities here:

1) I\’m wrong: if so, please do correct me.

2) Ritchie is wrong in which case please do let me know.

3) Ritchie has got very confused in his accounting terminology (not a good thing in one of the country\’s leading tax experts) and is confusing overheads with costs. An overhead, at least as I understand it, is a non variable cost. One that just has to be paid in order for the company to stay in business, whatever the level of orders or work going on. Some staff costs are just this: but the vast majority of staff costs are not an overhead. They are variable costs, ones which change dependent upon the amount of work coming through the company.

They\’re still costs of course: and have to be accounted for as such. But they\’re not overheads.

Are they?

25 thoughts on “My word, this is terribly interesting”

  1. If you are in a factory, making widgets, the actual staff making the widgets (lathe operators, etc) will be direct production cost. The staff who will be treated as overheads will be for example the spods in HR filling in forms. As such some staff costs can be overheads but not all. Depends really on whether the staff cost can be directly attributed to a unit of production/service. That’s how I understand it anyway.

  2. “one of the country’s leading tax experts”

    Never have the words “It’s funny because it’s true” held more value or been more tragic.

  3. I should add, I’m basically agreeing with what you say in 3). And to be slightly more technical, how it works in accounting is-

    Sales – Cost of Sales = Gross Profit
    Gross Profit – overheads = Net Profit

    So it all really depends on the nature of the industry although I doubt many small to medium companies give a toss how they do it. The idea it is a conspiracy by accountants to devalue the work of the mensch is absurd.

  4. A further distinction is necessary. There are the statutory accounts that companies have to file by law and which use a set of standard cost lines determined by various laws and accounting standards. Any self-respecting company will try to minimise the levels of disclosure such that competitors are unable to determine your real gross profit. Then there are accounts for internal purposes where you are totally free to classify costs under any headings you like as long as it helps you to understand the performance of your business – eg you might split out the costs of doers, movers and shakers from the costs that are pure overhead or admin – such as management, HR etc. Or you might attempt to determine which costs are fixed and which are variable…..but this is at the company’s discretion. From what you quote from Ritchie – frankly I cannot be bothered to go to his site and wade through his haikus – it could be that he is arguing that in some industries it might be appropriate to classify employees as something equivalent to fixed assets; stick some arbitrary amount on the balance sheet and then write it down over some arbitrary period. Don’t laugh. This is the kind of idiocy that is meat and drink to folks such as David Tweedie.

  5. The answer to your questions are as follows:

    1) No.
    2) Yes.
    3) Absolutely.

    The cost of accounting staff engaged in the activity of generating revenue by providing professional services to firm clients are a direct production cost.

    Period.

    For both accounting and taxation purposes, classification of wages is determined by the activity the employee is engaged in, not by the title the employee happens to have. That’s accounting 101 (and Taxation 101, as well).

    There are no “rules” within UK, EU, or USA tax law, or under IFAS or GAAP accounting standards that requires classification of an accountant’s wages as “staff” (“administrative” in the USA) irrespective of the actual activities the accountant is engaged in, and I challenge Ritchie to produce them.

    This is simply another example of the man’s complete and utter professional incompetence. Chartered Accountants everywhere should be mortified that this man has been allowed in the fold.

  6. Unless it’s changed recently, Noel C [I assume the C stands for Christmas] has it.

    Whether salaries (and other staff costs) are a ‘cost of sales’ (basically production costs) or overhead depends on what those members of staff do, and how close they are to the actual output (whether physical or knowledge-based) of the business.

    What’s more, unless I’ve seriously forgotten something, to the extent that the staff work on producing stuff that, at the year-end, is included in stock, the proper proportion of the staff costs will also be shown on the balance sheet as stock.

    And, if staff work on creating a specific capital asset, their salaries etc. can be capitalised as part of that asset.

    In other words staff costs are no different to anything else. They could be a production cost, or an overhead, or capitalised as part of the cost of a capital asset – all depending on what those staff actually do.

  7. Brian, follower of Deornoth

    I worked in a software house once where the sales staff were considered a profit centre and the programmers were overheads.

    Oddly enough, they are out of business now. Doubtless due to the defects of the capitalist economy.

  8. So for example, when I worked for a telecom operator, the staff costs of the engineers were allocated to overheads, but the staff in our call centre outsourcing division were part of Cost of Sales, because their time was essentially the goods that were sold.

  9. Aha, here we are; Financial Reporting Standard 15, issued by the evil capitalist Financial Reporting Council.

    You want page 14, paragraphs 8 & 9.

    http://www.frc.org.uk/images/uploaded/documents/FRS%2015.pdf

    Directly attributable costs (which can be capitalised) include the labour costs of employees.

    Maybe the International FRS (for listed companies) is different, but I don’t expect it’s much different.

  10. To take the example of the telecom company quoted by Gary, it is vague in the extreme whether all telcos use the same distinctions in the classification of their staff costs in their stat accounts – eg up to what level of the hierarchy were call centre staff costs shown as cost of sales?

  11. @diogenes1960
    I used ot work at a telco and now I consult to them.
    In my experience it is pretty negotiable. We are never allowed to put normal call centre staff into cost of sale if they simply serve normal end users. We can only put them into cost of sale if they are actually a ‘revenue generating unit’ as part of an outsourced operation (say for example BT provided a managed call centre solution for Post Office Telecom or somenthing). The level of staff that we in cost of sale was negotiable though. In our example, all agents and 1st line supervisors made it into cost of sale. Those in the centre who didn’t pick up phones went to SG&A.

  12. What point does he think he’s trying to make? All inputs to production, be they deemed overheads, labour, capital, whatever, are combined to “create value”. What difference does this “prescription of capitalism” make? It’s not as if when you categorise a worker as part of the overhead, you are denying any contribution to value add.

  13. I suspect that (as with the economics component of his degree) Richie knew all he needed to about accountancy before commencing formal studies, which latter served merely to get him through the examinations and get a qualification before reverting to the correct (i.e. Richie) method.

  14. In a telecoms operators engineering staff costs are capitalised if they are working on a new project or new build. As soon as that new build goes in to service staff costs become operational costs.

    eg a new mobile site. All staff time involved in building the site is capitalised up to the point it takes its first call.

  15. Now, now, calm yourselves, it’s clear he is beclowning himself intentionally. It passes belief that he does not know it.

    The real question then is: Why?

    Perhaps he is a right-wing mole, deftly inserted into his union funded opinion machine, to generate opinions so loopy and discreditable that they also beclown anyone relying on them.

  16. so the practical experience says that “capitalism” as reflected through accounting is very flexible in the way it describes and accounts for labour costs (even in the rulebook used by Dennis, which might not allow any labour costs to be capitalised), using all the variability provided by law….so, as Luis says, what point is Ritchie making…?

  17. I would imagine the ‘comment deleted by moderator’ button has been overheating at the House of Murph today.

  18. When I worked at BT (25 years ago, thank God), engineering staff pay showed up in the capital budget, and everyone else’s in the current expenditure budget. I understood that this was because engineers’ pay was such a large amount.

  19. You know when he says ‘capitalists’ he has a vision of fat men in top hats and he is digging his nails into tbe palm of his hands.

  20. The following exchange in the comments is priceless:

    Andrew K: An accountant writes – How many comments by accountants have you removed folowing this spectacularly ridiculous piece?

    Richard Murphy: None that I recall
    Disagreement is allowed – and it’s apparent that many will disagree with what I have written
    I only blog (sic) offensive comment or comment that mindlessly promotes neoliberalism

  21. Not quite, Rob. The men in top hats are also smoking cigars that give out smoke in the shape of £ signs.

  22. The answer’s obvious. We expense salaries because we no longer tolerate slavery in this country. Therefore once we’ve paid an employee his/her wages we have no further rights over their future employment (beyond perhaps a short notice period and/or gardening leave).

    Would it really be preferable to allow companies to capitalise what they want and establish arbitrary periods for amortising them? Isn’t that what Bernie Ebbers went to jail for?

  23. Are staff really treated as an overhead in UK accounting?

    I can’t speak for bean-counting in Britain, but here in Grombooliland when we do cost modelling, staff get treated as overheads. It’s not entirely satisfactory because we know that over time one can increase or decrease a workforce in line with changes in output. The problem is it’s not an instant or automatic change.

    To give an example, during the economic downturn we cut production for nine months. However we didn’t want to lose skilled operators we’d spent a small fortune training so we didn’t lay people off. Thus our full output workforce became an overhead.

    I guess it depends upon what timescale one is using.

    That’s also cost modelling which is a completely different thing to accounting.

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