An imputed cost is a cost incurred as a result of utilizing an asset rather than investing it or the cost resulting from pursuing an alternate course of action. In contrast to an explicit cost, which is immediately incurred by a cost, an imputed cost is not apparent and does not take place in the same manner. Imputed costs should be shown on the company's financial statements. In addition to the terms "hidden costs" and "implied costs," "opportunity costs" is another name for "imputed costs."

Understanding an Imputed Cost

Imputed costs involve devoting resources to one course of action while forgoing any potential benefits gained from any other choice of employing those same resources. These costs are incurred when one chooses to choose one particular path of action. Individuals cannot commit their resources to every possibility since those resources are finite; as a result, they are forced to choose one.

For instance, if a person decided to pursue graduate education rather than working at a job, the cost that would be imputed to them would be the wage they would not receive while pursuing their education.

Imputed costs are not visible and do not require the expenditure of cash; as a result, they are not of major significance in management budgeting strategies; yet, it is essential to consider them when determining how to distribute available resources. Most focus is on explicit expenditures since it is simpler to pinpoint these expenses and account for them in planning.

Imputed costs may be computed when alternate uses of an asset are being considered; nevertheless, in most cases, companies stick to using assets in the same way to conduct their operations successfully. Using these assets results in costs, which are then reflected in their financial accounts. Imputed expenses are not subjected to any official accounting. The calculation of economic costs often involves the incorporation of imputed expenses. Imputed costs and explicit expenses would both be included in the economic costs.

How does Implicit Cost Work?

Most of the time, imputed costs are not recognized as separate expenditures or expenses; in point of fact, they do not have any key significance when it comes to formulating essential policies concerning management and budgeting. Imputed costs, also known as hidden or implicit costs, are notoriously difficult to quantify, in contrast to explicit costs, which are direct expenses that can be easily recorded.

Because of this, an established set of formal accounting rules for reporting imputed expenses must be established. When a company decides to continue using an asset for the same purpose, even though there are alternative ways to put the asset to use, the company is generating implicit costs because it is continuing to use the asset for the same purpose. This is an example of when a business might incur an implicit cost.

Examples

Let's say that a certain corporation has a building in a city's central business area where all its management and administrative employees find their place of employment. The production facility of the corporation may be found just outside the city. The corporation could decide to move the employees to the manufacturing site and rent or sell the office building in the downtown area.

The revenues from the sale of the building or the amount of rental income that the firm may make by leasing it to another party are the expenses that are being imputed in this particular scenario. On the income statement, the only expenditures that are accounted for are those directly attributable to using the facility, such as depreciation, maintenance, and utilities. This does not affect the personnel in any way.

Consider a different scenario in which a business sits on a mountain of cash held in a money market account, which yields barely 150 basis points. In the meanwhile, other risk-free assets earn 2%. The foregone amount that the corporation would be making if it invested the cash in the higher-yielding securities is the amount that is referred to as the imputed cost. It is equal to fifty basis points.

Difference between Imputed Cost and Opportunity Cost

The two ideas are very closely connected, yet there is a distinction between them because an opportunity cost refers to the forfeiture of a prospective income while deciding between activities or carrying out certain responsibilities. For instance, if you decide to attend college full-time rather than work full-time, the full-time wage you might have earned is the number of earnings you have forfeited, which is referred to as the opportunity cost.