Starting your own contracting business is an exhilarating experience. It brings a rush of excitement, optimism, and a healthy dose of uncertainty about the future. While much can be learned on the job through trial and error, certain concepts must be dialed in from the get-go. Perhaps the most important of these concepts is labor burden.
In essence, labor burden is the true cost of an employee’s labor. This goes way beyond hourly wage. If you’re only considering wages or salary at face value your cost estimates could be off by as much as 50% or more. This is serious stuff. Missing labor burden and not charging based on your fully burdened labor costs can wreak havoc on a young business.
Fortunately, you can protect your bottom line by simply knowing where to look.
In this article, we’ll give contractors everything they need to know about labor burden: how and where to find the information you need to calculate it, how you actually go about calculating labor burden for your employees, and how you can actually apply it to ensure your job costing is accurate.
What is labor burden?
Labor burden refers to the total cost of employing a worker, encompassing both direct and indirect labor costs. For businesses, especially in the construction industry, understanding labor burden is crucial for accurately estimating project costs, setting competitive prices, and making informed workforce decisions.
Labor burden includes not only the basic wages or salary paid to the employee but also additional costs such as payroll taxes, health insurance, training costs, and unemployment insurance. By accounting for these expenses, businesses can ensure they are not underestimating their true labor costs, which can lead to financial shortfalls and project overruns.
Failure to account for labor burden will create the illusion of profitability while silently draining your bank account. It is a “hidden cost” that must be brought to light early and often. It affects how you price jobs, estimate, bid, schedule, etc. Calculating the labor burden for each employee is a crucial exercise that all successful construction companies must do.
What is included in labor burden?
Labor burden goes by many names. You’ll often hear labor burden referred to as the true cost of an employee, burden rate, true cost of labor, fully costed rate, etc. These phrases all refer to the same calculation, which is the employee’s wage plus all of the fully burdened labor costs, which includes all of the direct and indirect costs that the employee incurs on the business.
To help simplify all of these costs, we have broken them down into two main categories. Those are:
- Burdened labor costs (direct costs)
- Additional costs (indirect costs)
Burdened labor costs include the “all-in” costs of employing a worker beyond their wage. This category will mainly consist of mandatory costs such included in the Federal Insurance Contributions Act (FICA), Medicare, and social security. They also include common benefits employees offer, such as paid time off, retirement contributions, and health insurance. These benefits are included in burdened labor costs because they will remain relatively consistent throughout the year compared to additional costs.
Labor costs include but are not limited to:
- Payroll taxes
- FICA
- Medicare
- Social security
- Health insurance
- Dental
- Vision
- Workers’ comp/liability insurance
- Retirement contribution
- Bonuses
- PTO/Vacation
Additional costs will include extra costs that are not mandatory or directly linked to labor. These include but are not limited to:
- Company cell phones (or other communication expenses)
- Insurance for any equipment used by an employee
- Training and employee development
- Company apparel
As a business owner, you must keep tabs on these costs and factor them into your labor cost estimates. At the end of the day, accounting for labor burden is about capturing the full story of your business. You should never take any piece of data for granted.
Direct labor costs vs. Indirect labor costs
Direct labor costs are the basic wages or salary paid to an employee, including any overtime. These costs are directly tied to the production or delivery of a product or service. For example, the hourly wage paid to a construction worker on-site is a direct labor cost.
On the other hand, indirect labor costs include additional benefits and taxes paid by the employer, such as payroll taxes, health insurance, and retirement plan matching. These costs are not directly related to the production or delivery of a product or service but are essential for supporting the workforce. Understanding the distinction between direct and indirect labor costs is vital for accurately calculating the total labor burden and ensuring all expenses are accounted for in project estimates.
Examples of indirect labor costs
Indirect labor costs encompass a variety of expenses that support the workforce but are not directly tied to production or service delivery. These costs include:
- Payroll taxes: Social Security and Medicare taxes that employers must pay on behalf of their employees.
- Health insurance: Employer contributions to employee health insurance plans.
- Retirement plan matching: Contributions to employee retirement plans, such as 401(k) matching.
- Training costs: Expenses related to employee training and professional development.
- Unemployment insurance: Payments made to state unemployment insurance programs.
- Workers’ compensation insurance: Insurance that covers employees in case of work-related injuries.
- Overhead costs: Administrative and facilities costs that support the workforce, such as office supplies and utilities.
By including these components in labor burden calculations, businesses can gain a comprehensive understanding of their total labor costs and make more informed financial decisions.
How to calculate labor burden
Now that we know what information to include let’s look at how to find it. You should be able to reference your payroll reports to find most of the mandatory and labor-related costs. There you can find hourly wages, taxes, unemployment insurance, and other fees you’ve been incurring via your chosen payroll provider. If you can’t find this info or aren’t sure how to get to it on your own, your accountant or office manager should be able to point you in the right direction.
After that, track down your workers’ comp and health insurance plans. These two pieces of information, in particular, can be extremely costly to your business without you even knowing it. For this reason, always include these values in your labor burden calculations, and always include your full labor burden in your job costing. This is an area where cost management and job costing software shines. It’s important to convert annual numbers into an hourly rate by dividing by 2080 (working hours in a year). For a monthly rate, divide by 171.
Now that you have this information in hand let’s look at how to apply it:
Paul makes $20/hr and works 40 hours a week. This accounts for his wages, but what of his labor burden costs? His workers’ comp rate is 15% ($15 per $100 he makes), and his health insurance costs $500/month. Already we can see his cost to the company is far beyond his wage of $20/hr. Next, plug in the additional information found on the payroll reports–FICA, insurance, etc.
From here, we have the following labor burden cost for Paul:
| Wage | $20.00 |
| FICA | $1.53 |
| State unemployment insurance | $0.27 |
| Workers’ comp | $3.00 |
| Health insurance | $2.92 |
| Total | $28.00 |
Considering these costs, Paul costs the company 40% more than his hourly wage. With this in mind, we can adjust our labor estimates on future jobs and create tighter bids with a higher chance of profitability.
See how Knowify can help you account for your labor burden and other project costs
How to calculate your labor burden rate
After collecting all relevant cost information, use this simple equation to calculate labor burden:
- (Burdened labor costs + Additional costs) / Wage * 100% = Labor burden percentage for that employee
- Example
$8 / $20 * 100% = 40%
With this rate in hand, you can apply a fixed rate of 40% on top of employee wages when estimating your next job. This is a good place to start, but we recommend getting as specific as possible. When dealing with large swings in cost percentages, the more granular, the better. We suggest using construction accounting software that can apply the correct labor burden rate for every employee on every job.
If you’re starting from scratch, let’s take a look at another example:
Start by knowing the employee’s wage: $50,000/year or $24/hour (remember you must pay your portion of payroll taxes on this wage).
Next, let’s apply mandatory labor burden costs:
| Social security: (6.2%): $50k * 6.2% | $3,100.00 |
| Medicare: (1.45%) | $725.00 |
| Unemployment (yearly) | $2,000.00 |
| Workers’ comp: ($0.35/hr) 2080 hours * $0.35 | $728.00 |
| Total | $6,553.00 |
| Total cost without benefits | $56,553.00 |
Now let’s apply paid health insurance, which for this employee costs $10,000/year. This will bring our yearly total cost to employ this employee to $66,553.
Now we can use the following formula that divides total yearly cost by the number of working hours in a year (2080):
$66,553 / 2080 = $31.99
Now we know that this employee’s total burdened labor cost is $31.99/hour. Notice again that this is far more than their initial wage of $24/hour. With this basic number, you can now apply additional costs such as communication, bonuses, etc. What costs you decide to apply will depend on your specific accounting process and the role of the employee. For example, a foreman may get a company truck or phone while a general laborer will not.
You can now break out labor burden rates into an “employee group.” This might look something like this:
Labor burden rate by employee group:
- Laborer: $31.99
- Foreman: $41.60
- Apprentice: $15.75
This approach provides a nice clean labor burden rate applied to an employee based on the “group” they belong to.
Always account for the mandatory and major burdened labor costs so you have a strong ballpark number to implement into your estimates. Once you have a process to accurately and consistently account for your big labor burden costs, you can start incorporating the smaller additional costs to dial in your labor costs even more. It can quickly become a complicated and overwhelming process if you get too into the details, especially when the approach is new. Nail the basics before attempting to master the details.
How often you need to recalculate your labor burden rate?
Regularly updating fully burdened labor costs helps maintain accurate financial records. You should take the time to double-check the accuracy of labor burden rates as often as you can. However, it’s a general best practice to recalculate labor burden every six months or so. As the year progresses, so will your costs, needs, goals, and personnel. Slow periods are a great time to look into these numbers.
Take a look at how your estimates performed against actual cost totals. Reevaluate how you’re capturing and tracking labor costs. Take the time to answer these questions:
- Have you been appropriately applying labor burden for each employee?
- Have you missed any costs?
- Are you making sure to apply labor burden to all of your estimates? Take the time to answer these questions.
How does labor burden factor into job costing?
For many trades, labor costs will be a significant, if not the most significant, cost on most jobs. Some trades see 50% or more of total costs going toward labor. For this reason, labor costs are central to what job costing is all about.
If job costing data shows you’re systematically underestimating labor costs, that problem can’t be ignored. Even a small overage in labor costs can drastically affect your bottom line. It’s also a warning sign of a flawed bidding process. These realizations can only be determined with an accurate labor estimate that includes labor burden. If you fail to account for labor burden, your labor costs will be drastically inaccurate. You’ll have no idea how efficient or profitable your crew is. Combined, this will prevent you from gaining the full benefit of job costing.
Job costing is all about giving you the data you need to make adjustments. If you are consistently over or under budget, you’ll need to dig deep into your job data to see why. But if you’re starting with an inaccurate labor estimate, it will deceive you into thinking that other factors are the problem. Causing you to adjust areas of your business that may not need fixing. For example, you might raise prices when you don’t need to or restructure schedules in ways that don’t make sense. This can further complicate your numbers, causing a domino effect of inefficiencies.
By getting labor burden right, you’ll be setting the stage to gather data that you can use to improve your business. It’s an invaluable step in making sure you are starting any new project with the right assumptions in place. Labor costs have an important story to tell about your business. If you don’t account for labor burden, you’ll prevent yourself from hearing that story.
Common mistakes to avoid
When calculating labor burden, it is essential to avoid common mistakes that can lead to inaccurate estimates and poor decision-making. Some common mistakes to avoid include:
- Underestimating indirect labor costs: Failing to account for expenses such as payroll taxes and health insurance can result in significant underestimations of labor costs.
- Ignoring overhead costs: Overhead costs, such as administrative and facilities expenses, are often overlooked but are crucial for supporting the workforce.
- Neglecting additional costs: Training costs, unemployment insurance, and other additional expenses should be included in labor burden calculations to ensure accuracy.
- Using outdated data: Relying on outdated or inaccurate data can skew labor burden calculations. Regularly updating data to reflect current costs and workforce changes is essential.
- Not reviewing calculations regularly: Labor burden calculations should be reviewed and updated regularly to account for changes in the workforce or business operations.
By understanding labor burden and avoiding these common mistakes, businesses can make more accurate estimates, set competitive prices, and make informed decisions about their workforce. This proactive approach helps ensure financial stability and project success.
Never miss labor burden again with Knowify
As we’ve learned, labor burden is paramount for creating more accurate budgets and competitive bids. This is why Knowify has gone to great lengths to ensure that contractors can capture fully burdened labor costs with as much ease as possible.
With Knowify, you can set up and apply fully burdened labor rates for each employee right from the get-go. If you need more time or want to recalculate, you can adjust your labor burden rates from the admin section at any time. We’ll help you every step of the way to ensure your labor is fully burdened and ready to go for better estimates and bids.
To see for yourself, book a 30-minute demo with one of our experts and rest easy that your labor is fully burdened.
FAQs on labor burden
What is the difference between direct labor and labor burden?
Direct labor is time worked + wage. It’s the number of hours an employee works + the hourly wage incurred from that time worked. Labor burden, or fully burdened labor costs, on the other hand, includes all of the direct and indirect costs that an employee incurs on the business outside of their wage, including taxes, benefits, training costs, and insurance.
What is the difference between labor burden and labor overhead?
Labor burden is the cost of your employee’s wages and benefits, such as taxes, health insurance, and worker’s compensation. Burdened labor rates must factor in payroll taxes, health insurance, travel allowances, and additional costs like fringe benefits.
In comparison, labor overhead includes the costs of running any business, such as advertising, purchasing equipment, and utilities. To calculate labor overhead, you need to look at things like property taxes and utilities to get an average cost of benefits per employee. Then divide your total annual overhead costs by the number of employees at your business.
Does labor burden include overhead?
No. Here’s why: if you include overhead, you’re preventing yourself from planning for the future. Job costs calculated this way won’t reflect the true profitability of each project, and you’ll be left scratching your head as to why margins are continuing to thin.
This is especially true if fewer jobs are estimated–overhead will be spread over a smaller number of jobs and make them appear less profitable overall. To stay ahead of the game, it’s better to focus on per-job project profitability instead of spreading costs across multiple jobs.
What is an example of a labor burden?
Labor burden is any tax or benefit that an employee receives. These include mandatory costs such as payroll taxes, medicare, and social security but also additional benefits. These additional costs include bonuses, paid time off, etc.
When crafting an estimate, these additional costs must be added on top of an employee’s wage. Doing so will give a fully burdened labor rate, meaning we are factoring in the entire cost that an employee will incur. This enables a full picture of costs and allows for an accurate estimate that can be used to better plan for profitability.
Example of labor burden costs
- Payroll taxes
- FICA
- Medicare
- Social security
- PTO/Vacation
- Health insurance
- Dental
- Vision
- Workers’ comp/liability insurance
- Retirement contribution
- Bonuses
What is the difference between overhead and labor burden?
Overhead can be simplified as the costs needed to keep the lights on. From electricity to rent, to office supplies. They are typically fixed expenses needed to stay in business each day.
In contrast, labor burden is the full cost of employing your crew; it’s all the costs that must be allocated to each employee for each job. Without it, your bottom line won’t make sense.
What is a typical labor burden rate?
Since the needs of each business and employee will fluctuate, there is no reliable industry benchmark for labor burden. That said, it’s not unusual for some trades to see a consistent labor burden rate of 40%-50%.
Take control of project costs
Meet with a Knowify expert today to see how you can capture your team’s expenses in real-time and tie them automatically to project budgets with our best-in-class job costing tools.