The Ultimate Guide to Calculating Labour Costs (With Formulas & Calculator)

Understanding your labour costs isn’t just about crunching numbers; it’s about running a profitable and sustainable business. Knowing how to calculate labour costs ensures that every job is priced fairly, reduces the risk of undercharging or overcharging, and keeps your business in good financial health.

Many service business owners simply look at competitor rates and charge something similar. The problem with that is you’re completely in the dark when it comes to how well you’re covering your costs.

In this guide, we’ll go through the entire process of calculating labour costs, including formulas and a useful calculator.

What Are Labour Costs?

Labour costs are the total expenses you have to cover for an employee’s time (including yourself, if you’re a sole trader). These costs go beyond wages and salaries, as they include indirect expenses associated with employing staff. Broadly, labour costs can be classified into:

1. Direct Labour Costs

These are wages paid directly to employees for the work they perform, including:

• Hourly Wages: The base pay your employees earn for each hour worked.
• Overtime: Additional pay for hours worked beyond the standard schedule.
• Benefits: Contributions to pensions, health coverage, and other employment benefits.

For example, if you’re a plumbing contractor employing a team of three tradespeople at £40 per hour, the total direct labour costs would be based on their combined hourly rates and hours worked.

2. Indirect Labour Costs

These are costs indirectly related to your employees, such as:

• Training and certifications.
• Insurance and licences.
• Uniforms, safety gear, and tools.
• Fuel and van costs

Combining these two categories gives a full picture of how much someone’s time is worth. Effective labour cost calculation ensures your pricing reflects these expenses, keeping your business both profitable and competitive.

How to Calculate Labour Costs

Now, let’s break down the formulas you need for basic labour cost calculations:

Labour Cost Formula

Direct labour costs + indirect labour costs + total labour cost 

This number will be the total amount your business spends on labour annually.

Example:

For a business with two employees working on the tools:

Annnual salaries & benefits: £34,000 + £38,000

Training, uniforms, fuel, etc: £13,000

Total annual labour cost: £85,000

How to Calculate Hourly Labour Costs

To figure out the true cost per hour, you’ll need to divide your annual labour cost by the number of hours worked. 

Hourly Labour Cost = Total Labour Costs ÷ Total Hours Worked

For most trades businesses in the UK, it’s simpler to only consider billable hours here. This way, you get an hourly labour rate you can charge customers without having to worry about the time it takes to invoice, complete paperwork, etc. 

Example 

If both employees worked 8 hours per day, but only had 6 billable hours, that would be around 1400 hours per year. 

• Hourly Labour Cost = £85,000 ÷ 1,400 = £60.7 per hour 

How to Calculate Daily Labour Costs

If you have your hourly labour cost, your day rate is simple. 

Daily Labour Cost = Hourly Rate × Hours Worked Per Day

Example 

• Hourly Rate = £60.7 
• Hours Worked Per Day = 6 hours 
• Daily Labour Cost = £60.7 × 6 = £364.2

Labour Cost Calculator

Calculating these costs manually can be tedious. That’s where our Labour Cost Calculator comes in!

What is Labour Cost Percentage?

Your Labour Cost Percentage helps measure how much of your revenue is spent on labour:

Labour Cost Percentage = (Labour Costs ÷ Gross Revenue) × 100

Example 

• Labour Costs = £85,200
• Gross Revenue (total earnings) = £264,000
• Labour Cost Percentage = (£85,200 ÷ £264,000) × 100 ≈ 32.3% 

For trades businesses, the average labour cost percentage typically falls between 20–40%.

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Do You Charge VAT on Labour?

Yes, in most cases, labour is subject to VAT in the UK at the standard rate of 20%. However, there are exceptions. 

Examples of Reduced or Zero VAT Rates:

• New Builds: Labour charges for constructing new homes may qualify for zero VAT. 
• Energy Efficiency Projects: Solar panel installations may qualify for 5% VAT. 

For more details, check the official UK Government VAT guide. Always consult with a tax professional to ensure compliance.

How to Add Labour Costs to a Quote

When preparing quotes for your clients, you can incorporate labour costs in two main ways:

• Fixed Sum Approach 

Include labour as a single, fixed charge within the total project cost.

• Markup on Materials 

Calculate a percentage-based markup on material costs to cover labour.

For smaller jobs, you may decide to simply incorporate all these costs into a single fixed-price.

Tips for Professional Quotes

• Use software to create clear, itemised templates. 
• Add a breakdown of labour and material costs where appropriate. 
• Always communicate your pricing clearly in advance.

How to Calculate Labour Cost Per Job

For one-off projects, calculating labour costs involves:

• Estimating Total Work Hours 

Estimate how long your team will need to complete the job.

• Multiplying by Hourly Rate 

Multiply the estimated hours by your calculated hourly labour cost.

• Adding Overheads 

Factor in any indirect labour costs specific to the job.

Example 

• Total Work Hours = 40 
• Hourly Labour Cost = £16.44 
• Job Overheads = £100 
• Total Labour Cost Per Job = (40 × £16.44) + £100 = £757.60 

Apply this method to other trades (e.g. electricians, carpenters) for accurate job pricing.

Simplify Labour Cost Calculations Today

Calculating labour costs is essential for any UK tradesperson striving to improve profitability. By understanding these formulas and using tools like our labour cost calculator, you can:

• Price accurately.
• Avoid undercharging or overcharging clients. 
• Assess financial health using metrics like labour cost percentage. 

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