What are business fixed costs? Definition, examples, and how to calculate them

‍

As a small business owner, identifying and accurately calculating your business’s fixed costs is important for maintaining an accurate budget. This, in turn, allows for better financial planning and decision-making.

‍

In this article, we'll further explain what fixed costs are, describe some common fixed business expenses, and offer some advice on managing your fixed costs effectively.

What is a fixed cost?

A fixed cost is a business expense that doesn’t change with your level of business activity. Neither your production volume nor your total sales will influence your business’s fixed costs. Fixed costs are sometimes called indirect costs, overhead costs, or fixed business expenses.

‍

Common examples include rent or mortgage payments, most salaries, and insurance premiums. These operating expenses are vital to keep your business operational, so you need to pay them even when sales are slow.

‍

Your fixed costs can provide a clear basis for strategic budgeting and financial planning, helping you conduct a break-even analysis and predict profitability.

Fixed cost examples

Some examples of fixed business expenses include rent or mortgage payments, insurance, equipment leases, and depreciation. Here’s a list of common fixed costs in more detail:

‍

• Rent or mortgage payments: Monthly rent and mortgage payments are considered fixed costs for small businesses, though they can change with lease renewals, refinancing, or if your debt is sold to another entity
• Property taxes: Property taxes are fixed recurring costs that are usually paid on an annual or semi-annual basis
• Insurance: Insurance policies covering property, workers’ compensation, and liability are another common fixed business expense
• Salaries and wages: Most salaries, wages, and other payroll expenses are considered fixed costs, though wages for hourly workers could conceivably fluctuate based on your level of business activity
• Equipment leases or payments: You'll have a fixed payment for any business equipment leases, such as vehicles‍ or manufacturing equipment
• Loan repayments: If you have a small business loan, your monthly loan payments usually remain the same until the loan is paid in full
• Equipment depreciation: Depreciation is the gradual reduction of the value of physical assets like machinery, vehicles, or buildings over time. You’d categorize depreciation as a fixed cost on your income statement

What’s the difference between fixed costs vs. variable costs?

There are two types of costs: fixed and variable. Fixed costs remain constant regardless of your production level, while variable expenses fluctuate in direct proportion to your production volume or sales. So, as your level of production increases, your total variable costs increase.

‍

Many variable costs fall into the bucket of cost of goods sold (COGS) since they fluctuate in direct proportion to your level of production and sales volume. Common examples of variable costs include:

‍

• Raw materials
• Utilities like electricity and water
• Direct labor costs
• Marketing and advertising
• Commissions
• Shipping and freight
• Packaging costs
• Credit card processing fees
• Taxes and tariffs‍

‍

Variable costs are less predictable because they change based on how much your business produces, which makes budgeting and financial forecasting more difficult. Their month-to-month fluctuations can cut into your profit margins, especially during periods when they spike significantly.

How to calculate fixed costs

To calculate your fixed costs, you'll need to know your total costs of production and variable costs per unit. Once you have that information, you can use the following formula to calculate your fixed costs:

‍

Total costs of production - (Variable cost per unit * # of units produced) = Fixed costs

‍

For example, let's say you’re a manufacturing company that produces widgets. The total cost of producing 1,000 widgets is $10,000. The variable cost per widget is $0.50, based on the cost of raw materials, direct labor, and electricity. Here’s how you’d calculate your fixed costs:

‍

$10,000 - ($0.50 * 1,000) = $9,500

‍

It's important to note that fixed costs can change over time. For example, if you sign a new lease for your office space, your rent payments may go up or down. The key is to track your fixed costs regularly so you can budget accordingly.‍

How to calculate average fixed costs

To calculate your average fixed costs for a specific period of time, you’ll need to first identify the total fixed costs and the quantity of output over that period. Then, simply divide your total fixed costs by the quantity of output:

‍

Total fixed costs (TFC) / Quantity of output (Q) = Average fixed costs (AFC)

‍

This calculation gives you insight into how fixed costs are distributed per unit of output as production volume changes.

The impact of fixed costs on your finances

Tracking fixed costs is crucial for small business owners because it forms the basis for effective financial planning and decision-making. In particular, a clear understanding of your fixed costs allows you to set accurate budgets and calculate important financial metrics like your break-even point (BEP).

How to calculate your break-even point

Your break-even point is the point at which your company is no longer operating at a loss. In other words, your BEP is when your total expenses and your total revenue are equal. BEP is an especially important metric for startups and other new businesses because it helps you chart a path toward profitability.

‍

To run a break-even analysis, you’ll need to know your total fixed costs, your revenue per unit sold, and your variable cost per unit. Then, you can use this formula to calculate your break-even point:

‍

Total fixed costs / (Revenue per unit - Variable cost per unit) = Break-even point (BEP)

Manage your company's fixed costs with Ramp

Accurately tracking all your expenses is the first step toward managing your business’s fixed costs, and the right financial tools make that process a lot easier.

‍

Ramp’s comprehensive expense management platform streamlines how businesses track spending and monitor cash flow. We integrate with leading accounting software like NetSuite and QuickBooks, making budgeting, planning, and financial reporting easier and more accurate.

‍

Automated business expense categorization instantly classifies expenses so you can easily pull up a list of all your fixed expenses whenever you need to see them. Ramp’s modern finance platform saves you time and lets you get back to what’s most important: driving growth and profitability.