How to Calculate a Cost Per Hour Rate

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It might appear that an employee's hourly rate is simply the wage he receives for each hour he works. That amount, however, is only part of the real cost, also called the burden rate. This rate includes employer taxes, employee benefits and direct labor costs. Knowing your employees' true hourly rate facilitates proper budgeting and helps you reach your profit objectives.

Step 1: Payroll Taxes

Determine your share of employment taxes. This includes:

  • Social Security
  • Medicare
  • Federal unemployment
  • State unemployment
  • Other applicable state or local payroll taxes

Say the employee's standard hourly rate is $13, and you pay 9 percent in payroll taxes. Multiply $13 by .09 to get $1.17, then add that to her standard hourly rate to bring her cost per hour up to $14.17.

Step 2: Fringe Benefits

Calculate your share of employer-provided benefits, including:

  • Paid time off such as vacation and sick leave
  • Health insurance
  • Retirement plan
  • Workers' compensation
  • Yearly bonus
  • Training costs
  • Uniforms
  • Tools and equipment usage

To arrive at the hourly benefit rate, add your annual cost of benefits for the employee and divide the sum by the number of working hours in the year. For example, suppose an employee works 2,080 hours in a year and receives annual benefits of $11,000. When you divide $11,000 by 2,080, it equals $5.29 per hour in benefits.

Next, add the hourly benefit rate to the standard hourly rate plus the payroll tax rate. For example, $5.29 plus $13 plus $1.17 brings the cost per hour up to $19.46.

Tip

  • Hourly rates, payroll tax liabilities and fringe benefit rates vary by employee. To arrive at exact figures, use the rates associated with the respective worker.

Direct Labor Rate

Figure the hourly cost associated with direct labor. Say your company manufactures aprons and the following applies:

  • Time it takes to produce one apron = one hour and 10 minutes
  • Machine setup time = 15 minutes
  • Machine downtime = 15 minutes
  • Two mandatory paid breaks per day = 30 minutes 

In this case, it takes two hours and 10 minutes to produce one apron.

To arrive at the total direct labor cost, multiply the amount of time it takes to make one unit by the employee's hourly rate, which includes payroll tax and benefit costs. For example, the hourly rate of $19.46 multiplied by 2.10 hours equals total cost per hour of $40.87.

Tip

  • If applicable, factor in overtime pay at 1 1/2 times the employee's regular pay rate in your direct labor cost calculation.

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