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There are two methods of applying overhead to a job: the percentage to prime cost method or the rate per labor-hour method.

Percentage to Prime Cost
Most contractors apply overhead as a percentage of prime cost. This method has worked well for many contractors over many years, but it is most accurate when applied where the contractor does jobs that are similar in size and content. For example, the percentage to prime cost method of applying overhead works well for a contractor that does strictly residential housing or one that does only office build-outs. This method should not be used by a contractor that does many different types of jobs such as residential, commercial, service, and so on, because the management demands are different for each type of job.

Cost Per Labor Hour
The percentage method is really only suitable when it is being used on similar jobs where the ratio of material cost to labor cost is approximately the same from job to job. Also, one has to be careful to apply the correct multiplier to the prime cost.

Since overhead is related primarily to the management of labor and not the cost of material, it should be applied to the labor man-hours of a job. We can calculate this value by dividing the overhead dollars for a given period of time by the actual field man-hours for the same period of time. Review the following example:

Author's Comment: If you are not sure how to apply overhead to a job using the cost per labor hour, then apply overhead as the same value as your labor cost. Better yet, seek the advice of a good accountant.

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