If you are a businessman or from account related background, you must have heard the term expenditure. In business, it is important to know how you earn and spend money. Every business has to sustain the cost to grow, operate, and maintain activities. In accounting terms, these costs are known as expenditure. Maintaining a proper record of expenditure helps businesses to prepare an accurate financial statement, which is beneficial in making important decisions. This article will help you understand what is expenditure in accounting, its types, and examples. We will also cover the basic difference between expense & expenditure, as well as the importance of expenditure.
What is Expenditure?
Expenditure in accounting refers to the amount of money, either cash or credit, spent by a business to purchase goods or services. In easier words expenditure represents the outflow of money/funds for long term benefit or business operations. An accountant must show evidence of a transaction to record the occurrence of expenditure.
Types of Expenditure
There are three types of expenditure in accounting.
Capital Expenditure
A business sustains Capital expenditure when it purchases an asset with a life of more than 1 year(non current asset). Generally these expenditure arises during business expansion or the acquisition of new assets with the hope of future benefit. Thus, these types of assets require large initial capital and continuous maintenance to keep them in working order.
Key Features of Capital Expenditure
- Provides long-term benefit
- Recorded as an asset
- Appears on the balance sheet report
Example: let’s assume a company named X manufactures iron sheets. The demand for their high Quality iron sheets increased, and higher officials of the company decided to buy a new minting machine. According to their calculation, this machine can increase their production rate by upto 30%. The cost of that machine is approx $110 million and can provide its services for up to 10 years.
In this instance, a capital expenditure is made since it is clear that the machine will be beneficial for more than a year. The machine will eventually be depreciated by the business as an expense (depreciation).
Revenue Expenditure
It is the opposite of capital expenditure. In revenue expenditure, the business spends money on short term benefits (less than a year). Revenue expenditure is mainly used to fund the daily operation or operating expenses of the business.
Key Features of Revenue Expenditure
- Short-term benefit
- Recorded as an expense
- Appears in the profit and loss account
Example: After the purchase of the minting machine company decides to hire an engineer along with 7 technicians to oversee the production. Company hire this new team to keep the machine running throughout the whole production cycle. They may install new parts and provide maintenance. The salary cost of the whole team comes under Revenue Expenditure.
Deferred Revenue Expenditure
The money or funds spent on an advance payment of goods and services comes under this Revenue Expenditure. It is an advanced form of prepaid expenses. Mainly, revenue expenditure is used to fund the operating expenses of the businesses. It is a type of agreement between the sender company and the receiver company. This agreement indicates that the company will receive goods and services in the future, and the payment has been made.
The companies treat this agreement like an asset until the delivery of goods and services. This agreement does not have any effect on the profitability of the business because the company has yet to receive the delivery of the asset.
Example: Assume a guy named Justin specializes in the manufacturing of modified four wheeler parts. He must find a reliable source for the raw materials since some of his production inputs are shipped from abroad. Justin reaches out to a distributor d, who can supply the required parts; however justin needs to pay the distributor in advance.
According to the terms of agreement justin requires to wait for 2 years for the supplies to reach. Justin will declare this arrangement as deferred revenue in accounting and expenditure in his account books until he gets his supplies.
Difference Between Expenditure and Expense
People usually get confused between expense and expenditure, as they both sound a little bit similar. In accounting both of these terms are used frequently. One of the basic difference between them is expense is used to refer the cost of something for a specific period of time while expenditure refers the payment made during that specific period.
Mainly expenses are of two types: direct expense and indirect expense. Direct services are directly related to the production of goods and services while indirect services are opposite and not directly linked to the production of goods & services.
Tabular Difference Expenditure and Expense
Let’s compare both of these terms in tabular format to get a better idea.
| Expenditure | Expense |
| Expenditure is used to refer the outflow of cash and assets. | Expense are used to refer the cost of goods & services incurred while generating revenue. |
| Recorded on the balance sheet | Recorded on the income statement. |
| Expenditure can either be classified as capital or revenue | Expense can be classified as operating and non operating. |
| It may or may not be tax deductible. | It is tax deductable. |
| The wages of employees come in as expenditure. | The amount spent on the purchase of raw material & other inputs comes in Expense. |
| It is less frequent compared to the expense | It is more frequent and repetitive |
Importance of Expenditure in Accounting
Till now, we have discussed what expenditure is and how it differs from expense. Now let’s discuss why accounting plays a major role in accounting.
- Helps to Indicate if Your Business is Profitable or Not: Expenditure is the money a business spends in order to generate revenue. If expenditures are tracked, it is possible to determine whether a business has made profit and loss statement accurately. Without tracking of expenditures, it will be impossible for a business to know if it has been making profits or losing money. Tracking of expenditure assures that the income generated corresponds to the expenses attributed to that income, thus showing the true financial state of the business.
- Ensures Credible Financial Statements: Accurate tracking of expenditures is fundamental to the production of accurate Profit and Loss Accounts, and Balance Sheets. Accurate tracking of expenditures also helps to categorise all expenditure into either Capital or Revenue. This affects the categorisation of assets, liabilities, income and expenses within the financial statements. Properly maintained expenditure records produce accurate financial statements, which provide confidence to the owners, investors and auditors.
- Budgeting / Management of Costs: By reviewing historical and current expenditure, management can produce accurate budgets for future time periods. Furthermore, by analysing past expenditure with respect to where the money is spent, management can identify the areas where money is wasted or spent excessively, and implement cost control measures on those items. This will lead to increased efficiencies, reduced waste, and optimal utilisation of resources.
- Encourages Better Decision-Making: Expenditure information is helpful to the management as it enables them to make pertinent decisions. For instance, they may consider pricing, extending markets, or cutting expenditure. Through expenditure information, the management is aware of the amount spent on different activities and hence decides on which areas to improve and which to profit from.
Conclusion
Expenditure in accounting shows how the money is spent by a business to operate and grow. For financial analysis and accurate accounting, it is important to correctly identify and classify expenditures into capital expenditure, revenue expenditure, or deferred revenue expenditure. We hope that our article “What is Expenditure in Accounting” will help you to understand expenditure and its types in a better way. You can see our other articles for such useful information.