a few men working on a construction site

Understanding Fully Burdened Labor Rates

When estimating project costs or preparing financial reports, it's important to understand what goes into determining employee labor rates. Simply paying an employee's wages is not the full cost to a business. There are additional taxes, insurance, benefits and other overhead expenses that must be included to arrive at a fully burdened labor rate.

What is a Fully Burdened Labor Rate?

A fully burdened labor rate accounts for both direct and indirect employee expenses. It is the hourly rate that covers total labor costs, not just wages and salaries.

For example, if an employee is paid $25 per hour, that does not reflect what it truly costs to have them on staff. There are other expenses tied to that employee, such as:

Payroll taxes - This includes Social Security, Medicare, federal and state unemployment taxes paid by the employer. This could add 7.65% or more on top of wages.
Health insurance - Providing quality health insurance is an significant cost, often $5,000 or more per year per employee.
Retirement benefits - 401K matching and pension plans involve further company contributions.
Overhead - Costs for office space, equipment, training, HR payroll administration must be allocated per employee.

When these additional costs are factored in, the actual fully burdened rate could be 40-50% higher than the wage rate alone. So that $25 per hour employee may really cost $35-$38 per hour when considering total labor expenses.

Why Calculate a Fully Burdened Rate?

Tracking fully burdened labor rates serves several important purposes:

Accurate Project Cost Accounting - Bidding for new client projects requires knowing precise internal costs to determine pricing and profit margins. Using only basic wage rates will underestimate true expenses.

Job Costing - If relying solely on wage rates, individual projects and tasks will appear more profitable than they actually are. Applying the fully burdened rate allocates overhead appropriately.

Financial Reporting - Full labor costs impact payroll, taxes, benefits and other financial obligations. These must be budgeted for and reported accurately.

Performance Measurement - Employee productivity should analyze total labor cost versus value provided rather than just hourly pay. The fully burdened rate reflects output versus overall staffing investment.

Applying fully burdened labor rates leads to better financial decisions and performance management.

Calculating a Fully Burdened Rate

Determining an organization's fully burdened labor rate involves several steps:

1. Identify Direct Labor Costs

This includes the basic wages or salary paid to the employee plus any overtime. Use actual hourly rates or estimate based on annual pay.

2. Determine Indirect Labor Costs

These are the additional benefits and taxes paid by the employer:

Social Security, Medicare - 7.65% of wages
Health insurance - yearly premium costs
Retirement plan contributions
Legally mandated benefits - disability, life insurance, etc.
Paid leave - vacation, sick pay, holidays

3. Establish Overhead Factor

A percentage must be calculated to allocate administrative and facilities costs per employee.

Administrative - HR, recruiting, payroll, IT and management
Office space, equipment and supplies
Training and development costs

Total these overhead costs, then divide by direct labor to arrive at overhead factor.

4. Combine Cost Elements

Add up the direct wage, plus indirect labor costs such as taxes and benefits. Then apply the overhead factor.

For example:

$25/hour wage

$2/hour (8% for social security, unemployment insurance, workers comp)
$4/hour (health insurance)
$1.50/hour (retirement plan match)
10% overhead factor

= $36.80 fully burdened labor rate

This provides a more accurate representation of total employee costs. The rates can be further refined by job role or department as needed.

Putting into Practice

Once calculated, fully burdened labor rates can be used to improve overall financial management:

Bid New Projects - Apply the rates as key inputs when creating project budgets, to represent true labor costs. This allows setting prices and margins to achieve profit objectives.

Enhance Job Costing - Charge individual jobs and tasks at the fully burdened rate. This ensures all overhead costs are covered, not just direct wages.

Refine Pricing Models - Analyze profitability using full rates to determine where price adjustments may be needed. Identify if certain projects incur higher overhead costs.

Performance Analysis - Compare fully burdened labor to revenue generation to calculate real productivity. This helps assess employee output versus overall staffing investment.

Financial Forecasting - Use the rates to predict how labor costs may change over time based on pay increases, inflation or growth plans. This supports more accurate budgeting.

While determining fully burdened rates takes effort, the payoff is better financial insight and decision making across the organization. The rates quantify what employees truly cost the business from a holistic standpoint.

Key Takeaways on Fully Burdened Labor

Implementing fully burdened labor rates provides vital intelligence for companies that rely on human resources to deliver products and services. Some key takeaways include:

The fully burdened rate accounts for both direct wages and indirect costs such as benefits, taxes and overhead.
Accurately calculating rates per employee or department is essential for making informed business decisions.
Cost accounting, job costing, pricing models and financial reporting are all enhanced through applying full labor rates.
Rates should be periodically updated as costs change and business activities evolve over time.
Technology can help automate rate determination and allocation to projects or tasks performed.

With sound fully burdened labor rates in place, management gains better clarity into profitability, productivity and cost drivers across the organization. Resources can be steered toward higher value work while minimizing expenses.