Implicit Costs - Explained
What is Implicit Cost?
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Table of ContentsWhat is Implicit Cost?How is Implicit Costs Used?Examples of Implicit CostsDifference Between Implicit and Explicit CostsKEY TAKEAWAYS Academic Research on Implicit Costs
What is Implicit Cost?
In an organization, a cost that is incurred but not reported as a distinct expense or separated from the cost reported is an implicit cost. Implicit cost is often incurred when a company uses an asset or a resource it owns without reporting the cost in exchange for cash or monetary compensation. An implicit cost is also described as an opportunity cost, it symbolizes the resources used for a project, owned by the company and requires no compensation. The company pays no rent or buys the asset or resource used for the project, hence no compensation is required for its use.
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How is Implicit Costs Used?
There are many names an implicit cost is called, they are; notional cost, implied cost and imputed cost. A resource or asset used that the company pays no rent for or buy realizes an implicit cost. The fact that companies keep no record of implicit cost or report them as a distinct expense makes the calculation of these costs difficult. Implicit costs are not inputted in financial report or recorded for accounting purposes. However, a company can decide to add this cost to the expense of doing business since there is a potential of generating income from this cost.
Examples of Implicit Costs
Quantifying implicit costs can be quite a daunting task but there are general examples of costs of this nature. Implicit costs are intangible, hence, accounting for them is challenging, examples of implicit cost includes expenses of training new recruits or employees of a company, depreciation of an equipment or machinery used for a capital project. Also, when a company loses interest income on funds, it is an instance of implicit cost. Implicit costs can also be incurred in the process of deciding how to utilize companys assets and resources. An entrepreneur or business owner giving his skills as a replacement for salary is an implicit cost.
Difference Between Implicit and Explicit Costs
When a tangible resource or asset owned by a company is used for a project and money is paid in exchange for its use, this is an explicit cost. However, in the case of implicit cost, such resource is used with no cash paid for its use. Measuring the implicit cost that a company incur over a period of time is difficult but this is not so for explicit cost. No cash exchange is involved in implicit cost but explicit cost involve payment of cash in the form of rent, salary and others. Explicit costs are out-of-pocket expenses while implicit costs are implied costs.
Here are some important things you should know about implicit cost;
- Costs incurred by a company and not reported for accounting purpose is an implicit cost.
- Resources and assets used for a project that requires no compensation because they are owned by a company are regarded as implicit costs.
- An implicit cost is not a loss of profit but loss of income.
- When estimating economic profit, both explicit and implicit costs are included by economists.
Academic Research on Implicit Costs