Indirect labor costs incurred in the production process are treated as part of manufacturing overhead. Since the cost was incurred on the last day of the year, it is likely that the related products are still in inventory rather than being sold.
Under Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS), indirect labor costs associated with manufacturing should be included in the cost of inventory until the related goods are sold.
Once the goods are sold, the cost will be transferred to the cost of goods sold (COGS) in the income statement.
A. It should be reported as an administrative expense on the income statement. (Incorrect)
Indirect labor related to manufacturing is classified as part of manufacturing overhead, not an administrative expense.
B. It should be reported as a period cost other than a product cost on the management accounts. (Incorrect)
Indirect labor in production is a product cost (i.e., a cost that is included in inventory and matched with revenues when the product is sold).
Period costs refer to expenses like selling and administrative costs, which are expensed immediately.
C. It should be reported as cost of goods sold on the income statement. (Incorrect)
Since the cost was incurred on the last day of the year, the related products have likely not yet been sold, meaning the cost remains in inventory.
D. It should be reported on the balance sheet as part of inventory. (Correct)
Manufacturing overhead, including indirect labor, is included in inventory (work-in-process or finished goods) on the balance sheet until the goods are sold.
IIA Practice Guide: Auditing Inventory Management emphasizes that manufacturing costs, including indirect labor, should be allocated properly to inventory.
IIA Standard 2330 – Documenting Information requires auditors to ensure proper financial reporting of costs in accordance with GAAP/IFRS inventory valuation principles.
IFRS (IAS 2 – Inventories) and GAAP (ASC 330 – Inventory) state that indirect production costs must be capitalized as inventory until sold.
Explanation of Answer Choices:IIA References:Thus, the correct answer is D. It should be reported on the balance sheet as part of inventory.
