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DOES OVER ABSORPTION OCCUR WHEN THE BUDGETED OVERHEADS EXCEED THE ACTUAL OVERHEADS INCURRED OR IS IT VICE VERSA? AND WHAT IS THE EFFECT ON PROFIT?
Absorption is the attempt to absorb overheads into production ie include them in production. The absorption rate is estimated in advance (you can’t wait until the end of the year to cost up production).
At the end of the year overheads will be UNDER-absorbed is not enough have been included in units produced. This can occur if:
(1) Actual overheads are higher than budgeted
(2) Fewer units have been produced than budgeted.Under-absorbed overheads have to be deducted from the trading account to arrive at the final profit. The under-absorbed overheads have not been accounted for in the cost of units produced, so have to be accounted forsomewhere.
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