Distinguishing Capital expenditure and Revenue expenditure

Meaning of Expenditure and Expenses:

Expenditure refers to the total amount spent to acquire goods or services, while expense refers to the cost of goods or services used to generate revenue. Expenditure is more of a general concept and includes all the outflow of money that comprises expenses and capital investment as well.1 day ago

In any type of business, expenditures are classified as Capital expenditures (CapEx) and revenue expenditures (RevEx) depending upon the purpose of spending money.

Classification of Capital expenditure and Revenue expenditure:

Capital expenditure is the money spent to acquire long-term assets or to improve the quality of existing ones such as property, plant, and equipment. Revenue expenditure is the money spent by business entities to maintain their everyday operations like salaries, utilities, and repairs. Capital expenses are incurred for the long term.  Revenue expenditures are the ongoing operating expenses to run the daily business operations used in the current period or typically within one year.

The classification between CapEx and RevEx is important as they affect how a company’s financial statements are prepared and how its financial health is evaluated.

A capital expenditure, or CapEx, is the purchase of long-term physical or fixed assets used in a business’s operations. Some of the items which are classified as capital expenditure are as follows:

1. Cost of land, building, plant, and machinery;
2. Cost of leasehold Land and Building;
3. Cost of erection of Plant and Machinery;
4. Cost of installation of lights, fans, etc.;
5. Cost of addition to and extension of existing fixed assets;
6. Cost of increasing capacity of fixed asset;
7. Cost of administration in industrial enterprises incurred during the period of construction;
8. Cost of development in case of Mines and Plantations;
9. Cost of manufacture or purchase of furniture and fixtures at the factory;
10. Cost of office Cars, Vans, Lorries or Vehicles;
11. Cost of Trade Mark, Patents, Copyrights, Patterns and Designs;
12. Cost of Goodwill;
13. Preliminary Expenses;
14. Cost of the invention;

Revenue expenditures, also known as operating expenses (OPEX), are the short-term expenses a business incurs to maintain its day-to-day operational costs. Some of the items which are classified as revenue expenditure:

1. Salaries and wages paid to employees;
2. Rent and rates for the factory or office premises;
3. Depreciation on plant and machinery;
4. Consumable stores
5. Inventories of raw materials, work-in-progress, and finished goods
6. Insurance premium;
7. Taxes and legal expenses;
8. Repairs, renewals, and replacements to maintain the existing fixed assets of the business;
9. Interest paid on loan used for the business
10. Cost of oil used for lubricating machines
11. Cost of merchandise bought for resale*

* Note: If a merchant buys items like furniture, lights, fans, etc. to sell them in his showroom is a revenue expenditure and if a company purchases them for the use of the factory then it is classified as Capital investments).

We provide the following examples to help you clearly understand how to classify certain expenditures, whether capital expenditures or revenue expenditures.

*Deferred revenue expenditure is an expenditure that is incurred in the present financial year (accounting period) but its benefits are expanded to following or future accounting periods. The whole expenditure is not debited to the profit and loss account of the current year but spread over the years for which the benefits are likely to last only a part of such expenditure is taken to the profit and loss account every year and the unwritten off portion is allowed to stand on the asset side of the balance Sheet. Thus, a large expenditure on advertising for the launch of a new product is a deferred revenue expenditure, not a capital expenditure:

Conclusion: When the benefit of expenditure is not fully consumed in one period but spread over several accounting periods, it is called capital expenditure. Revenue expenditures are short-term expenses used in the current period or typically within one year. Capital expenditure is reflected in the balance sheet whereas revenue expenditure is reflected in the income and expenditure statement.