Capital Expenditure is money spent to buy fixed assets. It is an expense where the benefit continues over a long period, rather than being exhausted in a short period. Such expenditure is of a non-recurring nature and results in acquisition of permanent assets. It is thus distinct from a recurring expense.
Capital expenditures are made for the purpose of capital investment. The purchase of large, long-term assets that depreciate over time is a capital expenditure. You make these purchases to provide the assets or infrastructure your company needs to grow its business and generate more profits. As such, you must use a sizable portion of your company’s capital to acquire or install these assets. Many companies use debt financing or retained earnings to finance capital expenditures, but some use equity financing. Hence the use of the term “capital” to describe the expenditure.
Revenue expenditures is money spent on the daily running expenses of the business. A revenue expenditure is an amount that is expensed immediately; thereby being matched with revenues of the current accounting period. Routine repairs are revenue expenditures because they are charged directly to an account such as Repairs and Maintenance Expense.
KEY POINT : Revenue expenses can be fully tax-deducted in the same year the expenses occur.
Revenue expenditures are usually just called “expenses.” Expenses are the costs your company incurs doing its normal business, and they are recognized immediately. In accrual accounting, you recognize revenues when they’re earned and expenses when they’re incurred. When you immediately record your expenses, you are matching them with the revenue those expenses helped produce. For example, labor and materials are expenses incurred to provide the services reflected in the revenue they are matched against.
There are two types of revenue expenditure:
- Maintaining a revenue generating asset. This includes repair and maintenance expenses, because they are incurred to support current operations, and do not extend the life of an asset or improve it.
- Generating revenue. This is all day-to-day expenses needed to operate a business, such as sales salaries, rent, office supplies, and utilities.
When Revenue Expenditures are not regarded as Revenue Expenditures?
There are some items of expenditure which are revenue by nature, yet they are not regarded as revenue expenditure. Such expenditures may be divided into two groups:
- Deferred revenue expenditure
- Capitalized revenue expenditure
1. Deferred Revenue Expenditure:
This is a revenue expenditure, the benefit of which is not confined to one accounting year – it extends to future accounting year or years also. However, this expenditure does not result in the acquisition of any fixed asset. For example, heavy advertisement expenditure is incurred on introduction of a new product in the market. This is a revenue expenditure in nature and the benefit is enjoyed by the business over a number of years, but no asset of permanent nature is acquired. A portion of this expenditure is treated as revenue expenditure chargeable in the current accounting year and the remaining portion is temporarily treated as capital expenditure and shown on the Asset side of the Balance Sheet. Below are a few examples of such expenditure:
(a) Expenditure incurred to the formation of a joint stock company i.e. Preliminary Expenses.
(b) Expenditure on research and experiment connected with the introduction of a new product.
(c) Heavy expenditure on advertisement for marketing a new product.
(d) Heavy expenditure on repairs to property.
(e) Expenditure on removal of business from one place to another place.
2. Capitalized Expenditure:
Some expenditures although of revenue nature basically, are directly connected with fixed assets and spent directly on the acquisition of fixed assets. Such expenditures are added to the cost of assets and are called “Capitalized Expenditures”. For example, we buy a second-hand plant for $50,000. This is undoubtedly a capital expenditure. A further sum of $5,000 is spent on its repair and overhauling in order to bring the plant into proper working order. Expenditure on account of repair and overhauling, although revenue by nature, will be treated as Capital Expenditure in this case and will be debited to plant account not to Repairs A/c. Thus, a revenue expenditure which increases the utility or productive capacity of an asset, is treated as capitalized expenditure. Below are a few examples of such expenditure:
(a) Expenditure on installing an asset. i.e. installation charges.
(b) Expenditure on repair to property, if the production capacity or utility of the property is increased. It may, however, be noted that sometimes a new asset may require some repair after its purchase but before it is installed and put into operation. Cost of such repair, although it may not increase the production capacity of the asset, will be treated as a capitalized expenditure.
(c) Expenditure incidental to purchase of fixed assets, e.g. freight, clearing charges, customs duty, carriage, octroi duty, import duty on assets purchased.
(d) Expenditure on removal of old property.
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