If companies ramp up production to meet demand, their variable costs will increase as well. If these costs increase at a rate that exceeds the profits generated from new units produced, it may not make sense to expand. A company in such a case will need to evaluate why it cannot achieve economies of scale. In economies of scale, variable costs as a percentage of overall cost per unit decrease as the scale of production ramps up. Since fixed costs are more challenging to bring down (for example, reducing rent may entail the company moving to a cheaper location), most businesses seek to reduce their variable costs. It may be easier to budget for fixed expenses first because you know how much these cost.

The credit card processor charges the business a fee of 3% of each amount charged. Therefore, if the business has sales of $10,000 in the month of June, the business will have a credit card expense of $300. The total credit card expense varies with sales because the fee has a constant rate of 3% of sales. An expense is variable when its total amount changes in proportion to the change in sales, production, or some other activity. In other words, a variable expense increases when an activity increases, and it decreases when the activity decreases.

Examples of fixed expenses

We’ll delve into the different types of variable expenses, how to track them, and some tips on how to manage them effectively. With proper planning, a little foresight and basic math, you can work these variable expenses into your budget and even account for the occasional unexpected fluctuation. As you’re looking at your spending history, take time to evaluate where you’re overspending – particularly in the nonessential entertainment and dining categories. A lot of budgeting apps will create a breakdown of categorical spending.

• If you know you have a $600 expense for car insurance every six months, setting aside $100 each month will ensure you’ve saved up for that bill.
• For example, sales commissions expense and cost of goods sold will be greater when sales are greater; electricity expense will decrease when machine hours are reduced.
• A business that has a high proportion of variable expenses can usually generate a profit on a low sales level.
• Daphne Foreman is a former Banking and Personal Finance Analyst for Forbes Advisor.
• The cost to package or ship a product will only occur if certain activity is performed.

When she’s not writing, you can find her training for her next race, reading or planning her next big trip. It’s important to track your spending so you know where your money goes and can plan accordingly. 6 The portion of your credit line that can be paid to your cards will be reduced by the amount of the annual fee.

Variable expenses differ from fixed expenses, such as your mortgage or rent, that remain the same throughout the term of your loan or lease. Unlike fixed expenses, variable expenses can change significantly over the course of a week, a month, or a year. If Amy were to shut down the business, Amy must still pay monthly fixed costs of $1,700. If Amy were to continue operating despite losing money, she would only lose $1,000 per month ($3,000 in revenue – $4,000 in total costs).

Pay-yourself-first budget

Typical small business variable expenses would be costs for raw materials to produce goods as well as operating expenses such as office supplies or hourly payroll. When setting prices, one should ensure that at least the variable expenses are included in the price. That way, a business will not lose money when each unit of a product is sold. similarities & differences between accounting & bookkeeping We compared the total daily interest that would have accrued with and without Tally based on the difference between their credit card APR and the APR for their Tally line of credit. We excluded payments made to cover minimum payments to cards with a lower APR than Tally or to cards that were in a grace period at the time of payment.

Which budgeting method works best for variable expenses?

Deciding not to buy a more expensive pair of shoes is an example of reducing your discretionary spending. Variable costs are expenses that vary in proportion to the volume of goods or services that a business produces. In other words, they are costs that vary depending on the volume of activity. The costs increase as the volume of activities increases and decrease as the volume of activities decreases. Other ways of budgeting for unreliable variable expenses could include zero-based budgeting where you assign every dollar from your income toward expenses and savings.

Example of a Variable Cost

For example, Amy is quite concerned about her bakery as the revenue generated from sales are below the total costs of running the bakery. Amy asks for your opinion on whether she should close down the business or not. Additionally, she’s already committed to paying for one year of rent, electricity, and employee salaries. The variable expenses definition includes any expense category that may change frequently. Because it is a bill you pay every month and remains roughly the same, a cell phone is a fixed expense.

Explore ways to save money on groceries, car costs and other specific variable expenses, or try a budget app. As with all expenses, find out how variable expenses affect your overall financial health. First, track your monthly spending and deduct the total from your income. Ideally, you’ll have money left over rather than a zero or negative balance.

If you’re going to compare the variable costs between two businesses, make sure you choose companies that operate in the same industry. You are the owner of a family-owned restaurant, “Cafe Delight.” You want to understand your business’s cost structure and assess your menu items’ profitability. You decide to calculate and analyze the variable expense ratio for your restaurant. Daphne Foreman is a former Banking and Personal Finance Analyst for Forbes Advisor.

Variable costs are usually viewed as short-term costs as they can be adjusted quickly. For example, if a company is having cashflow issues, they may immediately decide to alter production to not incur these costs. Variable expenses can be intimidating because you don’t know what the bill will be every month. However, they aren’t an absolute mystery, as there is historical data to help you determine what you can reasonably expect to pay every period.

One of the key elements to gaining financial stability is learning how to budget your variable expenses. Since they are unpredictable, variable expenses may come up when we least expect them and derail our spending plans for the month. The length of a budget will also affect what are considered variable expenses. For example, a mortgage might have an adjustable rate of interest, and therefore might go up or down depending on the market interest rate. Usually the first few years of an adjustable rate mortgage, however, are at a fixed interest rate. So if you look at a budget for a year, the mortgage payment may not increase.

An employee’s hourly wages are a variable cost; however, that employee was promoted last year. The current variable cost will be higher than before; the average variable cost will remain something in between. Variable expenses can be difficult to budget for as they are unpredictable. It’s crucial to understand the impact variable expenses can have on your budget and find ways to manage them effectively. In this article, we’ll focus on one such expense – variable expenses – and explore what they are and how they can affect your budget.