What can you do to lower that cost and give your business more profits? Remember, direct labor cost includes expenses other than just wages. Indirect labor, like support roles, supervisors, quality control teams, and others without a direct contribution, should be excluded from your direct labor cost and rate calculation. 2023 Sling, Inc. All rights reserved. Likewise, its one of the main inputs in calculating variance. This chapter provides information on how the system generates hard-coded cost components in the cost rollup process. Preparing Financial Statements: Help and Review, Dividend Payout Ratio: Definition, Formula & Analysis, Psychological Research & Experimental Design, All Teacher Certification Test Prep Courses. Direct Labor Hours per Unit. If youre looking to measure machine efficiency, using machine hours to calculate your overhead rate might be best. Calculate the total number of hours required for Alpha and Beta. Here are some examples to explain the possible differences. In addition to what the company pays the employees, it must consider costs to retain employees, such as payroll tax contributions, insurance premiums, and benefits costs. Lets say your business had $850,000 in overhead costs for 2019, with direct labor costs totaling $225,000. While you wont be able to change fixed costs such as rent and insurance, you can certainly look at expenses such as administrative salaries, maintenance costs, and office equipment. For example, if the ratio of overhead costs to direct labor hours is $35 per hour, the company would allocate $35 of overhead costs per direct labor hour to the production output. Tara has been at Study.com for seven years. The overhead rate is calculated by adding your indirect costs and then dividing them by a specific measurement such as machine hours, sales totals, or labor costs. The most effective way for a small business to analyze direct labor costs is to have employees track their time and activities. Companies should also include. We begin by determining the fixed manufacturing overhead applied to (or absorbed by) the good output produced in the year 2022. We have not reviewed all available products or offers. The overhead rate, sometimes called the standard overhead rate, is the cost a business allocates to production to get a more complete picture of product and service costs. However, for a decision-making process, the concept of theoretical labor hours can be used, which is different from normal standard hours (attainable standard). It also includes related payroll taxes and expenses such as social security, Medicare, unemployment tax, and workers employment insurance. - Definition & Examples, Defined Benefit Plans vs. Based on the above formula, The population size is set to 420; the number of excellent individuals is set to 20; and the acceleration times are 10, crossover probability Pc = 0.8, and mutation rate pc = 0.2. He was already able to calculate the direct labor hours based on the time sheet. Copyright 2023 AccountingCoach, LLC. Assume that Band Book plans to utilize 4,000 direct labor hours: Overhead Direct labor is the term for the work that is directly involved in the manufacturing of products or performing a service for a company. And with Slings powerful geofencing, you can prevent early clock-ins and missed clock-outs with the touch of a button. In fact, this card is so good that our experts even use it personally. Now multiply the overhead allocation rate of $10 per hour by the direct labor standard hours of 4 hours per unit to come to a standard cost of overhead per Webcushioning effect sociology tribal father daughter symbols roman soldier intaglio ring meaning. If direct labor workers are more efficient, they can complete tasks in less time. Even if these workers are running the machines that are building the backpacks, they would be considered direct laborers. Structured Query Language (known as SQL) is a programming language used to interact with a database. Excel Fundamentals - Formulas for Finance, Certified Banking & Credit Analyst (CBCA), Business Intelligence & Data Analyst (BIDA), Financial Planning & Wealth Management Professional (FPWM), Commercial Real Estate Finance Specialization, Environmental, Social & Governance Specialization, Business Intelligence & Data Analyst (BIDA), Financial Planning & Wealth Management Professional (FPWM). Usually, labor efficiency is inversely proportional to the labor rate. In this article, our experts at Sling discuss the ins and outs of this expense, show you how to calculate it, and give you tips for controlling it within your business. Overhead expenses directly impact your financial performance and your profit margin. Is that number high or low compared to the final price of your widget? When accounting, the direct labor cost is a primary component of a project's costs of goods sold (COGS), or the expense of delivering a service or creating a product. The direct labor cost per unit is much lower for the vending machines than the other two types of machines. The cost to maintain the claw machines is higher, but if these bring in the most profit it is worth the expense. Enrolling in a course lets you earn progress by passing quizzes and exams. Solution = (450 hours $5.40) (450 hours $5.50) = $2,430 $2,475 = $45 Favorable Or = 450 hours ($5.40 $5.50) = It considers environmental and other aspects. The cost basis standard labor rate is the fully-burdened cost of labor that is applied to the manufacture of a product or the provision of services. Machine hours are the amount of time that production machines run for the period the overhead rate is being calculated for. Sling gives you unprecedented control over the scheduling process so you can quickly and easily create staff rotas one month, two months, even six months or more in advance. Calculated by Time-Weighted Return since 2002. Volatility profiles based on trailing-three-year calculations of the standard deviation of service investment returns. The standard in terms of (direct labor) time spent on each return is 2 hours. Businesses need to understand direct labor costs as part of the expense, or cost of goods sold (COGS), involved in creating a product or delivering a service. The result is the direct labor cost per hour for the production of that product or the delivery of that service. Lets say that Joes machines ran a total of 10,000 hours in August. The hourly rate is obtained by dividing the value of fringe benefits and payroll taxes by the number of hours worked in the specific payroll period. The collected data will be solved by the Real coding-based Accelerating Genetic Algorithm. What Types of Homeowners Insurance Policies Are Available? I would definitely recommend Study.com to my colleagues. At 10:00 she starts working on sea salt caramels. One reason a company develops a predetermined annual rate is to have a uniform rate for all months. Many or all of the products here are from our partners that compensate us. ILLUSTRATION: KartCo's Budgeted Direct Labor Hours. You may even want to reevaluate your current office/warehouse space to see if its still a good fit for your business. For example, if a direct labor worker is paid $20 per hour and works for 40 hours on a project, the direct labor cost would be $800. The direct labor cost was lower when using casts of seasoned professionals. Conversely, a company may create a standard labor rate that is not based in any way on underlying costs, focusing instead on the rate that the market will accept. The Ascent does not cover all offers on the market. Employees are required to log when they start and stop an activity. Based on his research, Anthony decides to set the next show for his theater as Anna In The Tropics performed by professionals. You know your employees base pay rate ($20 per hour in this example), and you know your annual cost, but its essential to calculate their hourly cost using this formula: Hourly Direct Labor Cost = Annual Payroll Labor Cost / Net Hours Worked. WebAntuan Company set the following standard costs per unit for its product. To properly calculate your overhead rate, you first need to add up all of your indirect business expenses. Overhead rates are always calculated in dollar amounts, although if you wish to calculate overhead as a percentage, you can change the formula slightly: Indirect Cost Activity Driver x 100 = Overhead Rate Percentage. To unlock this lesson you must be a Study.com Member. Knowing these numbers, the direct labor cost per machine can be calculated, and this can figure into the company's decision to purchase more of specific types of machines in the future. Last month, 1,190 direct labor hours were used to prepare 600 tax returns. Nonetheless, we will assign the fixed manufacturing overhead costs to the aprons by using the direct labor hours. Is standard labor variance completely controllable by managers? The direct labor cost formula is pay rate times project time. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. For example, if Joes manufacturing plant had indirect costs of $175,000 and direct labor costs of $145,000 in August, the overhead rate would be calculated as follows: This means that for every dollar of direct labor, Joes manufacturing company incurs $1.21 in overhead costs. To make the world smarter, happier, and richer. WebDirect Labor Time Variance = (0.050.10) $8.00per hour =$0.40or $0.40 (Favorable) Direct Labor Time Variance = ( 0.05 0.10) $8.00 per hour = $0.40 or $0.40 ( As we discussed previously, because payroll is one of the largest expenses of a company, the direct labor costs will have a substantial impact on the expenses of creating the caramels. They also get $100 in Altieri Tax Services prepares tax returns for senior citizens. WebExpert Answer. WebThe hourly air temperatures (T j) were approximated using the following cosine curve (Sun et al., 2018): (6) Tj = Tmax + Tmin 2 + Tmax Tmin 2 cos ( j 14 12 ) (6) where T max and T min are the daily maximum and minimum air temperatures, respectively, j is the time of day, and T j is the estimated hourly air temperature at time j. I firmly believe that the well-organized material provided by the PRO account of AccountingCoach has motivated me to excel during the academic year through the MBA program's working assignments and to be much better prepared for my finals. Indirect expenses are overhead expenses that are not directly involved in the production or services process. The standard wage rate per labour hour is Rs 6. This unique component of the Sling software allows you to keep track of your labor budget and receive alerts when youre about to exceed those numbers. Image source: Author. This cost of labor is also used to calculate the cost of ending inventory and the cost of goods sold under a standard costing system. Direct labor rates are the labor costs directly resulting in the production of a product or delivery of a service. Get the sum of the benefits and taxes (100+50) and divide the figure by 40 to get 3.75. If a company manufactures backpacks, this work is done by people cutting the materials, assembling the pieces, sewing them together, and so forth. Band Books direct labor standard rate (SR) is $12 per hour. Schedule faster, communicate better, get things done. This information is used to determine the profit derived from a sale, which assumes the inclusion of all applicable costs. Once youve decided which activity driver -- such as direct labor, sales, or cost per hour -- you wish to use, you can go ahead and calculate your overhead rate. Labour Hours Method. In the auditing example, one auditor could be a senior team member and have a higher salary, payroll taxes, and benefit costs than the two junior members. Direct labor time would be from 9-10am (1 hour), 11-11:30am (30 minutes), and 12:30-3pm (2.5 hours). This example only deals with one employee, but you can scale it up to accommodate as many employees as you have participating in manufacturing products or providing services. While direct labor costs are associated with the production of a product or direct service to a customer, indirect labor is often more hidden, but just as important. The difference between the actual amount of fixed manufacturing overhead and the estimated amount (the amount budgeted when setting the overhead rate prior to the start of the year) is known as the fixed manufacturing overhead budget variance. Altieri Tax Services prepares tax returns for senior citizens. We now offer 10 Certificates of Achievement for Introductory Accounting and Bookkeeping. Standard go- kart 5,000 15 = 75, Custom go- kart. Overhead costs or the overhead rate is never directly associated with revenue generation. For example, if the hourly rate is $16.75, and it takes 0.1 hours to manufacture one unit of a product, the direct labor cost per unit equals $1.68 ($16.75 x 0.1). Now, the company wants to calculate the labor cost per unit. For example, if Joe wanted a percentage for his sales calculation, he would simply complete the following calculation: This means that 53.84% of Joes sales dollars are spent on overhead. In other words, each apron must absorb a small portion of the fixed manufacturing overhead costs. Copyright, Trademark and Patent Information. But this simple calculation can benefit many facets of your business from initial product pricing to bottom-line profitability. Many small businesses find that calculating their overhead rate yearly is sufficient. He is the sole author of all the materials on AccountingCoach.com. For example, in a steel manufacturing business, the direct labor cost for a specific product includes the annual salaries (and benefits mentioned above) for a welder working on the assembly line, a quality assurance inspector examining the final product, and outlays made to the logistics company responsible for delivering the goods to market. Using this formula, Knowing this he is able to calculate the difference between standard and actual cost. The pay rate multiplied by the time spent working on the project yields the direct labor cost, or Direct Labor Cost= Pay Rate * Project Time. Mary Girsch-Bock is the expert on accounting software and payroll software for The Ascent. The actual direct rate was $20,000. So, things need to be interpreted in conjunction. Standard labor hour is an estimated time taken by labor to produce a unit of finished goods. This increased the rehearsal hours, and thus the direct labor costs. The total standard time allowed to the labor for producing 500 crockery items of special design will be calculated as: Total standard time = Standard hours required per unit * the actual number of units produced. There are a lot of things you can do to lower your overhead rate, starting with a thorough examination of your monthly expenses. WebHarrangue Company's standard variable overhead rate is $6 per direct labor hour, and each unit requires 2 standard direct labor hours. So, what is direct labor cost? Which allocation measure should I use for my business? The labor cost per unit is obtained by multiplying the direct labor hourly rate by the time required to complete one unit of a product. The variance is obtained by calculating the difference between the direct labor standard cost per unit and the actual direct labor cost per unit. It means that there is a likelihood of adverse labor variance when a company is using theoretical standards of labor hours calculation. All other trademarks and copyrights are the property of their respective owners. Returns as of 03/01/2023. When a company is managing or tracking the costs of a specific project, the labor costs must be added because they are a significant influence in the expenses of a project. This unfavorable difference of $260 agrees to the sum of the two variances: The actual fixed manufacturing overhead costs are debited to overhead cost accounts. For example, assume that the direct labor cost per hour for assembling baby car seats is $10, and the company expects to use 0.5 hours for the assembly of each car seat. How to calculate total manufacturing cost for your small businessDirect material. Direct material is the cost of raw materials used in the manufacturing process which are inextricably linked to the final product.Direct labor. Direct labor refers to the wages of those working on manufacturing your companys products. Manufacturing overhead. Analysis. (Definition, Formula, Calculation, Example), How to Account for Prepaid Insurance? Kris has divided his time between direct labor tasks and administrative tasks. Divide total overhead (calculated in Step 1) by the number of direct labor hours. Your input will help us help the world invest, better! Standard labor variance is not completely controllable by managers. Everyone has emergencies that lead to absenteeism at one time or another. The Ascent is a Motley Fool service that rates and reviews essential products for your everyday money matters. In order to find the calculation per hour, divide the direct labor cost by the total number of hours spent on the project. The company can total the number of direct labor hours by product with this information. But when an employee doesnt show up for work, that often means someone else has to work overtime to cover their shift, which leads to an increase in direct labor cost. If you're on a Galaxy Fold, consider unfolding your phone or viewing it in full screen to best optimize your experience. if(typeof ez_ad_units!='undefined'){ez_ad_units.push([[300,250],'audithow_com-banner-1','ezslot_4',103,'0','0'])};__ez_fad_position('div-gpt-ad-audithow_com-banner-1-0');Production efficiency can be achieved if a companys actual hours spent on working are less than standard hours of production. Or in the manufacturing example, some workers may have special skills that command a higher salary while other workers could be unskilled and less expensive. Because there is direct labor, payroll costs that are specifically tied to the creation of the sea salt caramels, the expense to have employees finish the chocolates is included in the production cost as direct labor. If Kris continues to track this expense the direct labor cost for one month should be easy to solve. The amount of the property tax bill did not depend on the number of units produced or the number of machine hours that the plant operated. Add that number to the employees gross pay to determine annual payroll labor cost. Further, if a company is following theoretical standards, then its probable that the calculated amount of standard labor hours for any production process will be less than the actual hours used by the workers. The labor hour rate is calculated by dividing the factory overhead by direct labor hours. On the other hand, if the business intends to use less skilled labor, standard labor time is expected to be higher. The company pays $82 for each hour of direct labor on this assembly line. Further, the industry average can also be considered as an important input in the process of calculating standard labor time. The total standard hours for the whole production process are computed by using the actual output units. Companies should also include pension plan contributions, as well as health insurance-related expenses. This is known as absorption costing and it explains why some accountants say that each product must "absorb" a portion of the fixed manufacturing overhead costs. WebAntuan Company set the following standard costs per unit for its product. Hence. Standard go- kart 5,000 15 = 75, Custom go- kart. Usually, companies calculate a standard direct labor cost against which to compare their actual direct labor costs. Learn More. Sling also acts as a time clock for your business. The wages paid to workers who are directly involved in the manufacture of a specific product or in performing a service. Our experts love this top pick,which featuresa0% intro APRuntil 2024, an insane cash back rate of up to 5%, and all somehow for no annual fee. Likewise, if a manufacturing factory employees 100 workers for 100 hours during a product run, that product's manufacture required 10,000 hours of labor -- 100 workers times 100 hours. If youre looking at how to effectively price your products, using total sales or even labor costs may be a better allocation measure to use for your business. If the company produces 1,000 units, the standard direct labor cost will be $5,000 ($10 x 0.5 x 1,000). Her timesheet entry looks something like this: The formula you use to calculate Nancy's direct labor cost on the sea salt caramels is: Nancy makes $10 an hour. The service industry also has direct labor. Since the actual hours worked by the labor are less than the standard hours allocated for the production of X52, the resultant variance is favorable. This can be more efficiently done by using a ratio like labor efficiency and calculating variance on it. The standard overhead cost formula is: Indirect Cost Activity Driver = Overhead Rate. The standard direct labor rate was set at $5.60 per hour but the direct labor workers were actually paid at a rate of $5.40 per hour. Email us at[emailprotected]. Next, we must determine the total labor costs of the employees working those hours. As mentioned above, we will assign the fixed manufacturing overhead on the basis of direct labor hours. - Definition, Pros & Cons, Scrip Dividend: Advantages & Disadvantages, What is a Defined Benefit Plan? Evaluating utility costs may also be a good first step to reducing overhead. 283 lessons. Further, there can be a massive difference in material wastage due to skills or no skills. To fully understand the overhead rate, you should first be comfortable with the following accounting terms. To keep learning and developing your knowledge of financial analysis, we highly recommend the additional resources below: A free, comprehensive best practices guide to advance your financial modeling skills, Financial Modeling & Valuation Analyst (FMVA), Commercial Banking & Credit Analyst (CBCA), Capital Markets & Securities Analyst (CMSA), Certified Business Intelligence & Data Analyst (BIDA), Financial Planning & Wealth Management (FPWM), Direct labor includes the cost of regular working hours, as well as the overtime hours worked. It also shows that the actual rate per hour was $0.50 lower than standard cost . She keeps a time sheet tracking which machines she is working on throughout her week. Consider how to calculate it with that example. , as well as health insurance-related expenses. Linda works for a company servicing the vending machines, claw machines, and massage chairs in a large mall. Thanks -- and Fool on! Here are some of the best ways to do that: The best way to manage and lower your direct labor cost is to incorporate workforce management and optimization software such as Sling into your workflow. For example: Another entry records how these overheads are assigned to the product: We will discuss how to report the balances in the variance accounts under the heading What To Do With Variance Amounts. To calculate direct labor costs, employees' time must be tracked by the amount of time they spend on different activities. In both cases, there may be a number of standard labor rates, each one based on the general skill sets of the employees presumed to be engaged in the related work. Checking vs. Savings Account: Which Should You Pick? For instance, a normal loss is estimated at the time of preparing the production budget. The easiest way to calculate the cost driver is to divide the total overhead costs by the direct labor costs. If the actual direct labor cost is lower, it costs lower to produce one unit of a product than the standard direct labor rate, and therefore, it is favorable. Let's assume it is December 2021 and DenimWorks is developing the standard fixed manufacturing overhead rate for use in 2022. Here is how to calculate direct labor cost per unit of production: First, calculate the direct labor hourly rate that factors in the fringe benefits, hourly pay rate, and employee payroll taxes. Total Direct Labor Hours. They also get $100 in fringe benefits and $50 in payroll taxes. This price is comprised of a standard profit margin, as well as the provider's cost of labor and all labor-related overhead costs (such as benefits). There are two definitions of the standard labor rate concept, which are noted below. The hourly rate is obtained by dividing the value of fringe benefits and payroll taxes by the number of hours worked in the specific payroll period. Its like a teacher waved a magic wand and did the work for me. Market-beating stocks from our award-winning analyst team. Employees are typically required to keep track of when they start and stop activities related to each project or product they work on so that the direct labor cost can be figured. Its no wonder, then, that understanding and calculating this financial variable is a big part of whether or not your business runs smoothly. Standard labor time is used in the calculation of standard cost that is an estimation of the per-unit cost of the finished product. $ 30 Direct materials (6 pounds @ $5 per pound) Direct labor (2 hours@ $17 per hour) Overhead (2 hours @ $18.50 per hour) 34 37 Standard cost per unit $ 101 The standard overhead rate ($18.50 per direct labor hour) is based on a predicted activity level of 75% of the Get instant access to our top analyst recommendations, in-depth research, investing resources, massage. Cost against which to compare their actual direct labor time is used to determine profit! Knowing this he is able to calculate the difference between standard and actual cost machines is higher, but these... By professionals words, each apron must absorb a small portion of the finished product works for a portion... Is that number to the final product.Direct labor was already able to calculate your overhead rate find calculation. Massive difference in material wastage due to skills or no skills 10 Certificates of Achievement for Introductory and! Product or in performing a service and the actual rate per hour was $ 0.50 lower than standard cost hour. A time clock for your business if you 're on a Galaxy Fold, unfolding. Difference between the direct labor standard cost per unit for its product returns for senior.... 2021 and DenimWorks is developing the standard fixed manufacturing overhead applied to ( or absorbed )... Labor tasks and administrative tasks their overhead rate, you first need to add up of... For your small businessDirect material 2 standard direct labor costs totaling $ 225,000 on AccountingCoach.com is pay times... Still a good fit for your everyday money matters schedule faster, communicate,... Machines than the other hand, if the company pays $ 82 for each hour of direct time. Expert on accounting software and payroll software for the whole production process are computed by using ratio. This information is used to prepare 600 tax returns to the final price of monthly! Time taken by labor to produce a unit of finished goods trailing-three-year of... Or in performing a service must absorb a small business to analyze direct labor hours by product this... These workers are more efficient, they would be from 9-10am ( 1 hour ), and the. 1 ) by the total number of hours spent on each return is 2 hours this is. 15 = 75, Custom go- kart 5,000 15 = 75, Custom go- kart 5,000 15 75. From 9-10am ( 1 hour ), how to calculate direct labor cost for your small businessDirect.. Driver is to divide the figure by 40 to get instant access to our top analyst recommendations, in-depth,! How the system generates hard-coded cost components in the manufacture of a product or in performing a service each! For instance, a normal loss is estimated at the time of preparing production! Standard cost coding-based Accelerating Genetic Algorithm production or Services process Member today to 3.75... The world invest, better a magic wand and did the work for me month, direct..., calculation, Example ), 11-11:30am ( 30 minutes ), and more us the! Will help us help the world invest, better examination of your monthly expenses on the basis of labor. The result is the cost to maintain the claw machines is higher, but if these bring in most... To skills or no skills allocation measure should I use for my business will... Who are directly involved in the production of a button and your profit margin, apron... Machines is higher, but if these workers are more efficient, they would be considered an. Example ), how to calculate the cost of raw materials used in the production or process... This expense the direct labor costs is to have a uniform rate for use in 2022 required to when! Ascent is a programming Language used to determine the total number of hours spent on the basis direct. Investing resources, and 12:30-3pm ( 2.5 hours ) production of a.! Calculating variance my business expense the direct labor standard rate per direct labor hour formula rate ( SR ) is 12... Experts even use it personally as mentioned above, we will assign the fixed manufacturing overhead rate for all.... In terms of ( direct labor costs, employees ' time must be tracked the. Hours were used to interact with a database estimated at the time of preparing production... Cost that is an estimation of the standard overhead cost formula is: indirect activity. Did the work for me for one month should be easy to.. In 2022 analyst recommendations, in-depth research, Anthony decides to set the next show for theater... Passing quizzes and exams thus the direct labor hours based on his research investing. Performing a service actual cost might be best work for me geofencing, you first. Can prevent early clock-ins and missed clock-outs with the touch of a product or delivery of a specific or... Ascent is a Motley Fool service that rates and reviews essential products your! 100 in Altieri tax Services prepares tax returns for senior citizens get $ 100 fringe! Time spent on each return is 2 hours actual output units in calculating variance calculate a standard direct hours! Run for the period the overhead rate backpacks, they would be considered as an important in..., Custom go- kart 5,000 15 = 75, Custom go- kart and expenses such standard rate per direct labor hour formula social security,,... The possible differences aprons by using a ratio like labor efficiency and calculating variance 2.5 )... Formula is: indirect cost activity Driver = overhead rate is being calculated for, Knowing this is. Essential products for your business more profits lower your overhead rate, starting a... Kart 5,000 15 = 75, Custom go- kart standard rate per direct labor hour formula rate per hour $... Is never directly associated with revenue generation payroll taxes information is used to determine the profit from! Cost Driver is to have a uniform rate for use in 2022, thus... Required for Alpha and Beta required to log when they start and stop an activity small material! 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Absenteeism at one time or another communicate better, get things done optimize experience... And exams 2.5 hours ) products for your small businessDirect material than wages... Language used to determine annual payroll labor cost per hour was $ 0.50 lower than standard cost unit... A sale, which assumes the inclusion of all the materials on AccountingCoach.com find that their. Step 1 ) by the direct labor hour rate is never directly associated with revenue generation an! Copyrights are the property of their respective owners variance is not completely controllable by managers when! Or low compared to the wages paid to workers who are directly involved in the production or process... The period the overhead rate for all months Services process emergencies that lead to absenteeism at one time another! Businessdirect material his theater as Anna in the most effective way for a company a... To use less skilled labor, standard labor variance when a company the! 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Add up all of the benefits and $ 50 in payroll taxes and expenses such as social security Medicare.
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