Expenditure is the act of spending funds on various corporate expenses. However, in general, spending money to purchase something is called expenditure. For instance, you pay an amount to buy machinery or certain essentials, etc.
You may make the entire purchase in instalments or by paying at once, all those will be considered under expenses. Nevertheless, for Commerce students, the expenditure meaning in accounting is to be considered.
Here is a brief explanation of all the types of expenses with their examples for a holistic understanding.
What is Expenditure in Accounting Terms?
In terms of accounting, expenditure is a disbursement or a payment made towards a different entity. You have to understand that expenditure may be paid towards your liabilities.
Therefore, expenditure in accounting does not necessarily mean payment for gaining something in exchange. However, there might be instances where you are purchasing an asset for your company or business. In such cases, you will be the owner of the purchase that you make.
Students have to develop a clear understanding with the help of expenditure examples of such terminologies and be able to differentiate between regular definition and specific definition with respect to Commerce.
What is Revenue Expenditure?
It is one of the types of expenditure, wherein the Central Government spends money with an aim to create fixed assets. In simple words, it is an expenditure to keep the assets in functioning condition regularly.
Let us Understand the Concept with the Help of a Simple Example.
Suppose, you own a tyre company and to expand your business, you recently bought a piece of machinery that cuts out pieces of tyres in equal measurements. The machine cost you Rs. 1,36,000. On regular operation, you found the machine costs Rs.5,700 monthly expenditure towards its maintenance.
Here, the amount incurred in keeping the machine in working condition is Rs.5,700 and this amount is called the expenditure towards making revenue.
In further simpler words, an expense that is likely to bring revenue is called revenue expenditure.
Consider this case, the machinery is supposed to increase productivity and thereby increase sales and generate revenue. To keep it functioning, an expense is incurred towards its regular repairing and save it from wear and tear.
What is a Capital Expenditure?
Capital expenditure is one of the two different types of expenditure. This kind of expense is incurred by a company to upgrade or expand its business operations. Often this expense is related to acquiring fixed assets that are likely to be productive in the long term.
The primary aim of capital expenditure is to enhance the overall efficiency or capability of a business. Let us further understand this concept with a small example.
Again, you have a tyre manufacturing company, and you already have the equipment to produce different sizes of tyres. However, lately, you have purchased other equipment that will enhance the longevity of the previously present pieces of equipment.
In such a case, the cost incurred in purchasing the new equipment to enhance the efficiency of old equipment is the capital expenditure.
Students should also understand the types of capital expenditure, which are classified into two types -
An expense meant for maintaining the operational level within the organisation.
An expense which will facilitate an increase in growth of the company in future.
Commerce students need to develop clarity on both these types of expenditure so as to classify them and determine a company’s expenses rightfully.
How Does Revenue Expenditure Differ from Capital Expenditure?
Both capital expenditure and revenue expenditure are two different types of expenses incurred while running a business. Although the primary objective is the overall growth of a business, it is their specific purposes that separate them from each other.
The former is incurred when purchasing a piece of equipment or machinery to upgrade the working condition of a company. Contrarily, the latter is incurred in an organisation when there is a need for funds to keep the equipment functioning effectively that are likely to be productive over the years.
To check your preparation level, you need to revise the lessons as well as take necessary challenges and short tests at times. Here is a short quiz that will help you test your knowledge learnt so far.
Taking this quiz will allow you to think deeply about each example and classify them into expenses under capital or revenue.
Quiz:
Classify the following under the categories of capital and revenue expenditure.
Rent, office equipment, carriage on saleable goods, Furniture and fixtures, salaries, wages manufacturing expenses, vehicles, commission, buildings, legal expenses, land, insurance, computer equipment, advertisement, machinery, free samples, postage, printing charges, software.
Answer:
Once you have understood the classification of expenditure, it will be easier for you to delve into advanced concepts as well. Listing these expenses on a balance sheet or drafting a report for a business will help you ease your job significantly in the long run if you take up accounts in your higher studies.
For more information on expenditure, its types and its role in a detailed manner, you can take help from our online learning programmes. Our study materials and notes of important topics drafted by subject experts to help you develop a clear understanding of the same. So, get your notes from us now and add an extra edge to the competition.
FAQs on Types of Expenditure in Economics
1. What is expenditure in economics and how is it broadly classified?
In economics, an expenditure is the act of spending funds by an entity, such as a business or government, to acquire assets or consume services. It represents a payment or disbursement. Expenditures are broadly classified into three main types based on their nature and the duration of their benefit: Capital Expenditure, Revenue Expenditure, and Deferred Revenue Expenditure.
2. What is the main difference between Capital Expenditure and Revenue Expenditure?
The primary difference lies in the duration of the benefit received from the expense. Capital Expenditure is incurred to acquire or upgrade long-term assets that will provide benefits for more than one accounting period. In contrast, Revenue Expenditure is incurred for the day-to-day running of the business, and its benefits are consumed within the same accounting period.
- Purpose: Capital expenditure enhances earning capacity, while revenue expenditure maintains it.
- Nature: Capital expenditure is non-recurring, whereas revenue expenditure is recurring.
- Financial Statement Impact: Capital expenditure is shown in the Balance Sheet as an asset, while revenue expenditure is shown in the Trading and Profit & Loss Account as an expense.
3. Can you provide some real-world examples of Capital and Revenue Expenditure for a business?
Certainly. Here are some common examples for each category:
- Examples of Capital Expenditure: Purchase of machinery or equipment, construction of a new factory building, acquisition of furniture and fixtures, and buying a company vehicle. These are all long-term investments.
- Examples of Revenue Expenditure: Payment of employee salaries, office rent, electricity bills, purchase of raw materials for production, and costs for routine repairs and maintenance of machinery. These are all operational costs.
4. How is Deferred Revenue Expenditure different from both Capital and Revenue Expenditure?
Deferred Revenue Expenditure is a unique type of expense that is essentially a revenue expense in nature, but its benefits are expected to last for more than one accounting period. Unlike a capital expenditure, it does not create a tangible asset. A classic example is a massive advertising campaign to launch a new product. The cost is incurred upfront, but the benefit (brand recognition, sales) will be realised over several years. Therefore, the total cost is not charged to the profit and loss account in one year; instead, it is written off over the period of its expected benefit.
5. What is the strategic importance of classifying expenditure correctly for a business?
Correctly classifying expenditure is crucial for accurate financial reporting and strategic decision-making. Misclassifying a capital expense as a revenue expense would understate profits and assets for the current year. Conversely, treating a revenue expense as capital would overstate profits and assets. The key implications are:
- Accurate Profit Calculation: It ensures that the Profit & Loss account reflects the true operational profitability for the period.
- Correct Asset Valuation: It ensures the Balance Sheet presents a true and fair view of the company's financial position and its long-term assets.
- Tax Implications: Revenue expenditures are fully deductible from profits in the year they are incurred, reducing tax liability, whereas capital expenditures are depreciated over time.
- Financial Analysis: Ratios related to profitability and asset turnover depend on this correct classification for meaningful analysis.
6. In economics, how do the types of expenditure in national income accounting differ from those in business accounting?
This is a common point of confusion. The context determines the classification.
In business accounting, the focus is on a single firm's financial health, and expenditures are classified as Capital, Revenue, or Deferred Revenue Expenditure.
In macroeconomics (national income accounting), the focus is on the entire economy. The expenditure method of calculating Gross Domestic Product (GDP) uses four broad categories of spending:
- Consumption (C): Spending by households on goods and services.
- Investment (I): Spending by businesses on capital goods (like machinery) and changes in inventory.
- Government Spending (G): Spending by the government on goods and services (like defence and infrastructure).
- Net Exports (X-M): The value of exports minus the value of imports.
7. What are the main types of government expenditure as seen in the Union Budget?
Similar to a business, government expenditure is also classified into two primary types in the Union Budget of India:
- Revenue Expenditure: This is spending that does not create any assets or reduce liabilities for the government. It is recurring in nature and is meant for the normal functioning of government departments and services. Examples include salaries of government employees, interest payments on loans, subsidies, and pensions.
- Capital Expenditure: This is spending that either creates physical or financial assets or reduces the government's liabilities. It is generally a long-term investment. Examples include constructing roads, schools, hospitals, and bridges; purchasing machinery; and providing loans to states and union territories.
