Labor Burden Rate: Ensure Bids Account for This Critical Metric
Along with just about everything else, labor costs are on the rise in the construction industry. This makes it more important than ever to accurately estimate such costs when bidding on new projects. If you’re not properly calculating and incorporating labor burden rate — essentially, the indirect costs of having workers — you may very well be selling yourself short.
What’s It All About?
Labor burden rate recognizes that wages aren’t the only costs you incur to employ workers. It expresses your total indirect labor costs as a percentage of your total direct labor costs. So, for every dollar of direct labor you allocate to a project, you should also apply the labor burden as a percentage of that dollar to ensure you’re capturing all labor costs.
To calculate labor burden rate, you divide indirect labor costs by direct payroll costs. You can then use the rate as follows to determine the total labor cost of the crew you’d use on a project:
Total direct payroll cost + (total direct payroll cost × labor burden rate) = total labor cost
When totaling indirect labor costs, take care to include all indirect costs related to employing your workers that you can’t allocate to specific projects. At a minimum, these will typically include payroll taxes: 6.2% for Social Security, 1.45% for Medicare and 6% for federal unemployment, plus state unemployment taxes where applicable.
Employee benefits should also be factored in. These may include:
- Health, dental and vision plans
- Life insurance and disability insurance for employees
- Bonuses or profit-sharing
- Retirement plans
- Tuition reimbursement or student loan debt assistance
- Paid time off
Insurance for your construction company is also usually included in indirect costs. In terms of labor burden rate, the costs of your workers’ compensation policy would be relevant to include in the calculation.
In addition, be sure to allocate safety and compliance costs (for example, personal protective equipment) and communication costs (for instance, the purchase of and maintenance and repairs to smartphones and tablets). The costs of small tools and supplies, as well as training costs and certain administrative overhead, can also be allocable as indirect labor costs.
Why Does It Matter?
Construction businesses devote copious time and resources to pricing out jobs with the goal of maximizing profitability. Yet if you don’t include labor burden rate as part of the process, you may be undermining that objective. After all, labor burden costs generally run from 30% to as high as 75% (for union workers) of direct payroll costs.
And these costs can sneak up on you. For example, given the ongoing skilled labor shortage, many construction companies have had to expand employee benefits and paid time off to recruit and retain workers. Also, to get new hires up to speed and to adjust to industry tech changes, you may be providing more training than in the past. These are just a couple of easily overlooked factors that could gradually drive up your labor burden rate, threatening the bottom line.
Tracking labor burden rate over time can help you improve the accuracy of your estimates and provide a more detailed picture of each project’s actual costs. Plus, doing so can lead to more informed decision-making about, for instance, whether to use subcontractors or employees and when layoffs might be necessary.
Moreover, when you have a fuller grasp of the cost of employing a worker, you can forecast and budget better — not only for specific projects, but also for the company overall. As a result, you’ll have a better understanding of your financial standing, both currently and in the future.
Who Can Help?
With so many cost components involved, calculating labor burden rate clearly isn’t a one-time thing. Generally, you should recalculate it at least every six months or whenever you experience a substantial cost hike in any of the areas mentioned. Be particularly wary of cost increases that will likely kick in when work is scheduled to begin on a job for which you have or will submit a bid. Our construction CPAs can help you identify all the cost components relevant to your construction business and assist you in performing accurate calculations.