What is Expense
Expenses
In simple terms, expenses mean cost. In accounting terms, expense is the operational cost that is paid to earn business revenues. It means the outflow of cash in return for goods or services. Expenses can also be written as the sum of all the operations that usually bring profit. In terms of the accounting equation, expenses productively decrease the business owner's equity.
Some common expenses incurred in all businesses are:
Rent, Wages, Asset’s depreciation Selling expenses, etc.
Expenses are generally categorized in two ways
Operating and Non-Operating Expenses
Those expenses which are the main part of operations and are related to the company's core operations are termed operating expenses. For example; salaries and wages, depreciation, rent and leases, selling expenses, etc. Whereas expenses which do not become the direct part of the operation and are not the part of the business's core functions are termed as non-operating expenses. For example; interest, taxes, fuel cost, etc.
Expenses which are fixed and are not dependent on any other variant like production or sales are fixed expenses. For example; rent, electricity expense, depreciation, salary, etc. Variable expenses are those expenses which keep changing and depend on other variants. For example; packaging expenses, wages, transportation expenses, advertising and selling expenses, etc.
Accounting for expenses
Business entities record their expenses and revenues in the income statements. Generally, there are two types of accounting methods that are followed to record the expenses.
Expenses are brought down in the profit-and-loss account by either of the two accounting methods chosen by the business.
Cash-based accounting :In cash-based accounting, the expenses are not mentioned or recorded when they are incurred but are recorded when they are actually paid. In this method of accounting, the focus is on the cash flow.
Therefore, with this method, the actual revenue is not obtained. For example, if a sales commission due in the month of May is paid in July, then it will be recorded in July instead of May. So the revenue obtained in May is not actual.
Accrual-based accounting :Under an accrual-based accounting method, the expenses are recorded in the same month when they are incurred irrespective of when they are actually paid. This is the most common method used by accountants and this is the method used in the double-entry system.
In this method, the actual revenues are obtained at the end of accounting. For example, if the advertisement expense incurred today will be paid after two months. But will be recorded today itself in the accounting books, no matter when they are paid.
Recording of expenses
An expense account is made to register the expense entries. It helps to evaluate, analyses, and organize the expenses that are incurred in the business over a certain duration.
Expenses can be broken down into sub-accounts so that the expenses can be easily categorized and evaluated for future business operations.
It also helps to see which expenses can be controlled and organized according to business capital and finances.
Expense accounts allow employees to have easily accessible expense reports which help them to evaluate and increase or decrease the money spent on expenses. It helps them to find out which expense is business-related or which is not. For example, Money spent on business dinner is to be reimbursed but family dinner is not.
Expense accounts are closed at the end of the term and reset for the beginning of a new period as they are temporary and are not maintained in the financial books.
Expenses Vs. Expenditure
Expenditures, commonly known as capital expenditure, are the capital that a business uses only to purchase, upgrade or maintain the assets such as buildings, property, industrial machinery or equipment.
Capital expenditure is also called Cap Ex and is treated differently than all expenses.
Capital expenditures are not recorded in profit-and-loss accounts, they are directly registered in the balance sheet and wear off slowly over time. Whereas, All the expenses are charged off against the company’s income in the same year they are incurred.
The capital expenses are capitalized and charged off slowly over time. In simple terms, when capital expenditure is recorded in the balance sheet under assets, it is written off later as an expense in the form of depreciation and amortisation in the profit-and-loss statement.
To claim the entire expenditure in any business, The IRS has a schedule that dictates the amount of a capital asset that may be written off each year to cover the entire capital expense. Each asset has a varied number of years over which it can be written off. The IRS has provided the minimum number of years based on the type of assets.
Deductible Expenses
Not all expenses can be reimbursed or deducted from profit-and-loss accounts. According to the Internal Revenue Services (IRS), the expenses to be deducted must be necessary and ordinary from the business point of view. Necessary expenses mean the expenses needed for the business income like an advertisement, and salary. Common expenses means expenses which are ordinary and are needed in the day to day life of business like printing and stationery, packaging, etc.
Expense management
Expense management is a financial tool used to review the expenses, to decide which expense is to be reduced safely or removed completely without any negative effect on revenues. This concept includes financial management tools like historical trend analysis and budgets.
What are direct and indirect expenses?
The direct expenses are accountable. They are only linked to a single department and are made for that particular department only. For example; purchase of raw materials, managerial remuneration, etc. Indirect expenses are not accountable as they are not limited to any individual department of a business. For example; office rent, electricity expenses, etc.
What are deductible and non-deductible expenses?
Deductible expenses are those which are reimbursed and can be deducted from the total income. For example; office rent, salary, wages, etc. Non-deductible expenses are those which can not be deducted from the total income at the time of tax valuation. For example; penalties, fines, personal expenses, etc.
Disclaimer: This content is authored by an external agency. The views expressed here are that of the respective authors/ entities and do not represent the views of Economic Times (ET). ET does not guarantee, vouch for or endorse any of its contents nor is responsible for them in any manner whatsoever. Please take all steps necessary to ascertain that any information and content provided is correct, updated and verified. ET hereby disclaims any and all warranties, express or implied, relating to the report and any content therein.
Know More: Appraisal Definition, Retirement Definition, Unemployment Definition, Attrition Definition, Bungalow Definition, Payroll Definition, Unified Payment Interface Upi Meaning, Correlation Meaning, Median Meaning, Property Definition
In simple terms, expenses mean cost. In accounting terms, expense is the operational cost that is paid to earn business revenues. It means the outflow of cash in return for goods or services. Expenses can also be written as the sum of all the operations that usually bring profit. In terms of the accounting equation, expenses productively decrease the business owner's equity.
Some common expenses incurred in all businesses are:
Rent, Wages, Asset’s depreciation Selling expenses, etc.
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Types of expensesExpenses are generally categorized in two ways
Operating and Non-Operating Expenses
Those expenses which are the main part of operations and are related to the company's core operations are termed operating expenses. For example; salaries and wages, depreciation, rent and leases, selling expenses, etc. Whereas expenses which do not become the direct part of the operation and are not the part of the business's core functions are termed as non-operating expenses. For example; interest, taxes, fuel cost, etc.
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Fixed and Variable ExpensesExpenses which are fixed and are not dependent on any other variant like production or sales are fixed expenses. For example; rent, electricity expense, depreciation, salary, etc. Variable expenses are those expenses which keep changing and depend on other variants. For example; packaging expenses, wages, transportation expenses, advertising and selling expenses, etc.
Accounting for expenses
Business entities record their expenses and revenues in the income statements. Generally, there are two types of accounting methods that are followed to record the expenses.
Expenses are brought down in the profit-and-loss account by either of the two accounting methods chosen by the business.
Cash-based accounting :In cash-based accounting, the expenses are not mentioned or recorded when they are incurred but are recorded when they are actually paid. In this method of accounting, the focus is on the cash flow.
Therefore, with this method, the actual revenue is not obtained. For example, if a sales commission due in the month of May is paid in July, then it will be recorded in July instead of May. So the revenue obtained in May is not actual.
Accrual-based accounting :Under an accrual-based accounting method, the expenses are recorded in the same month when they are incurred irrespective of when they are actually paid. This is the most common method used by accountants and this is the method used in the double-entry system.
In this method, the actual revenues are obtained at the end of accounting. For example, if the advertisement expense incurred today will be paid after two months. But will be recorded today itself in the accounting books, no matter when they are paid.
Recording of expenses
- Entry To show cash payment: credit in the cash account, Debit in the expense account.
- Entry To show credit purchase: credit in account payable account, Debit in the expense account.
- Entry to charge asset expenses like depreciation: credit in an asset account, debit in the expense account.
- Entry to show non-trading payments like loan interest: credit in other liabilities account, and debit in the expense account.
An expense account is made to register the expense entries. It helps to evaluate, analyses, and organize the expenses that are incurred in the business over a certain duration.
Expenses can be broken down into sub-accounts so that the expenses can be easily categorized and evaluated for future business operations.
It also helps to see which expenses can be controlled and organized according to business capital and finances.
Expense accounts allow employees to have easily accessible expense reports which help them to evaluate and increase or decrease the money spent on expenses. It helps them to find out which expense is business-related or which is not. For example, Money spent on business dinner is to be reimbursed but family dinner is not.
Expense accounts are closed at the end of the term and reset for the beginning of a new period as they are temporary and are not maintained in the financial books.
Expenses Vs. Expenditure
Expenditures, commonly known as capital expenditure, are the capital that a business uses only to purchase, upgrade or maintain the assets such as buildings, property, industrial machinery or equipment.
Capital expenditure is also called Cap Ex and is treated differently than all expenses.
Capital expenditures are not recorded in profit-and-loss accounts, they are directly registered in the balance sheet and wear off slowly over time. Whereas, All the expenses are charged off against the company’s income in the same year they are incurred.
The capital expenses are capitalized and charged off slowly over time. In simple terms, when capital expenditure is recorded in the balance sheet under assets, it is written off later as an expense in the form of depreciation and amortisation in the profit-and-loss statement.
To claim the entire expenditure in any business, The IRS has a schedule that dictates the amount of a capital asset that may be written off each year to cover the entire capital expense. Each asset has a varied number of years over which it can be written off. The IRS has provided the minimum number of years based on the type of assets.
Deductible Expenses
Not all expenses can be reimbursed or deducted from profit-and-loss accounts. According to the Internal Revenue Services (IRS), the expenses to be deducted must be necessary and ordinary from the business point of view. Necessary expenses mean the expenses needed for the business income like an advertisement, and salary. Common expenses means expenses which are ordinary and are needed in the day to day life of business like printing and stationery, packaging, etc.
Expense management
Expense management is a financial tool used to review the expenses, to decide which expense is to be reduced safely or removed completely without any negative effect on revenues. This concept includes financial management tools like historical trend analysis and budgets.
What are direct and indirect expenses?
The direct expenses are accountable. They are only linked to a single department and are made for that particular department only. For example; purchase of raw materials, managerial remuneration, etc. Indirect expenses are not accountable as they are not limited to any individual department of a business. For example; office rent, electricity expenses, etc.
What are deductible and non-deductible expenses?
Deductible expenses are those which are reimbursed and can be deducted from the total income. For example; office rent, salary, wages, etc. Non-deductible expenses are those which can not be deducted from the total income at the time of tax valuation. For example; penalties, fines, personal expenses, etc.
Disclaimer: This content is authored by an external agency. The views expressed here are that of the respective authors/ entities and do not represent the views of Economic Times (ET). ET does not guarantee, vouch for or endorse any of its contents nor is responsible for them in any manner whatsoever. Please take all steps necessary to ascertain that any information and content provided is correct, updated and verified. ET hereby disclaims any and all warranties, express or implied, relating to the report and any content therein.
Know More: Appraisal Definition, Retirement Definition, Unemployment Definition, Attrition Definition, Bungalow Definition, Payroll Definition, Unified Payment Interface Upi Meaning, Correlation Meaning, Median Meaning, Property Definition
