Final answer:
To eliminate an immaterial Manufacturing Overhead balance, a company adjusts the Cost of Goods Sold on the income statement. This is done to reconcile any differences between the applied overhead costs throughout the year and the actual overhead costs incurred at year end, correcting either overapplied or underapplied overhead if the variance is immaterial.
Step-by-step explanation:
To eliminate the immaterial balance in the Manufacturing Overhead account at the end of the year, a company must undergo a process of accounting reconciliation. Generally, the Manufacturing Overhead account accumulates various indirect manufacturing costs throughout the year. These costs include items such as indirect material, indirect labor, maintenance and repairs on equipment, and utilities for the manufacturing facilities. Companies use an estimated overhead rate to apply these overhead costs to products during the year, rather than tracing individual costs to each product, which would be impractical.
At year-end, the actual overhead costs often differ from the estimated amounts that were applied to products. If the company applied too much overhead, it has a credit balance in the Manufacturing Overhead account, which indicates overapplied overhead. Conversely, if it applied too little, it has a debit balance, indicating underapplied overhead. To correct these immaterial balances, companies often adjust the Cost of Goods Sold (COGS) on the income statement. This adjustment resolves the imbalance and aligns the actual overhead costs with the amounts that were applied during the fiscal year.
The procedure is often simplified if the balance is immaterial: the company can directly adjust the COGS without needing to trace the variance back to specific products or cost centers, which is a reasonable approach since the amount is not significant enough to warrant a detailed adjustment. This simplification is in line with generally accepted accounting principles (GAAP), which acknowledge that the cost-benefit of accounting for such small variances may not justify the effort required for a more detailed process.