The calculation is a simple but powerful ratio.

1. Sum All Indirect Costs: Add up every business expense for the month that is NOT direct materials or direct labor for a specific job. This includes rent, utilities, insurance, marketing, administrative salaries, tool depreciation, etc.
2. Sum Billable Labor Hours: Add up the total number of hours in the month that your production staff spent working directly on paying jobs. Do not include administrative or non-billable time.
3. Calculate the Rate: Divide the total overhead costs by the total billable hours.
   Overhead Rate = Total Monthly Costs / Total Monthly Billable Hours

• Overhead: Indirect business costs that are not directly attributable to a specific project but are necessary to operate the business.
• Direct Costs: Costs that can be directly assigned to a specific project, such as the lumber and hardware used and the labor hours spent building it.
• Billable Hours: The hours of labor that are directly charged to a client for work on their project.
• Shop Rate: The total hourly rate charged to a client, which should include direct labor wages, overhead, and a profit margin.

Example 1: A small two-person shop.
$5,000 of monthly indirect costs divided by 160 billable hours gives $31.25 per hour of overhead. Add that to each direct labor hour before you set a price.

Example 2: Same costs, fewer productive hours.
If a slow month leaves only 120 billable hours against the same $5,000, overhead climbs to $41.67 per hour. Idle capacity is expensive — the fixed bills still have to be carried by the hours you did work.

Example 3: Building a true shop rate.
A $25/hour welder-plus-labor wage plus the $31.25 overhead equals a $56.25 breakeven. Layer a 20% profit margin on top (56.25 x 1.20) and you land near $67.50/hour as your charge rate.

• Counting Only Wages in the Denominator: Overhead is spread across billable hours, not total paid hours. Including admin and cleanup time inflates the denominator and hides your true rate.
• Forgetting Owner Pay or Tool Depreciation: The shop's biggest hidden costs — your own labor, machine wear, and shop space — are exactly what beginners leave out, pricing themselves into a loss.
• Using Overhead Alone as the Price: The overhead rate is a cost recovery figure, not a profit. Materials, direct labor, and margin still have to be added on top.
• Never Updating the Numbers: A rate calculated years ago no longer matches today's rent or utilities. Recalculate monthly, or at least whenever a major cost shifts.

"Underpricing is the number-one reason small shops close, and it almost always traces back to a missing overhead line. If you don't know your hourly breakeven, you're guessing whether a job was profitable after the fact." - Shop-Business Consultant

"Track billable hours honestly for a full month before you trust any rate. Most makers discover they only turn out 900 to 1,100 productive hours a year, not the 2,000 they assumed — and that alone can double the real overhead per hour."