Which statement about normal costing is true?

• A. It is based on actual activity and a predetermined rate, so it may differ from actual overhead
• B. It is always equal to actual overhead
• C. It is fixed and does not vary with activity
• D. It is based solely on budgeted costs

Answer: (A)

Normal costing charges overhead to products using a rate that is set in advance (predetermined) and based on budgeted costs and activity, but applies that rate to the actual level of activity. In practice this means you use actual activity data (like actual hours or machine usage) to apply overhead, while the rate itself is derived from budgeted overhead divided by budgeted activity. Because the overhead rate is based on estimates, the overhead absorbed can differ from the actual overhead incurred, leading to under- or over-absorption. This is what makes normal costing distinct: actual activity drives the allocation, but the rate is predetermined rather than computed from actual costs each period.