When a business entity spends money (or purchase on credit) to acquire goods or services, a decision need to be made as to the purpose and nature of the expenditure. The questions asked include something along these lines:-
- What did I pay for?
- Is the thing that I paid for have some value or benefits to my business over the long run? (e.g. more than one year)
- Is it something that I paid because of something that the business had already enjoyed or used in the past? (e.g. electricity, phone, water & etc.)
- Is it for something that the business intends to resell later?
- Is it for packing of the goods meant to be sold later?
In accounting, the classification of the expenditure into either capital expenditure or revenue expenditure is required. Wrong classification of the expenditure may have a great impact on the financial position (meaning is the balance sheet of the business entity concerned) and the financial performance/results (meaning is the profit or loss performance of the business entity concerned referring to the income statement) of the business entity.
Do not get yourself confused between the capital expenditure and the capital contribution by business owners. They are two different things.
Capital expenditure refers to the expenditure made by business entities to acquire assets (usually non-current or fixed assets) that are expected to give the business entities future economic benefits (by way of using the assets in the business to generate revenue or income). Capital expenditure is recorded as asset and therefore would appear on the balance sheet of the business entities. Examples of capital expenditure are property acquired and used as office premises, computers, furniture, fixtures and fittings & etc. On the other hand, revenue expenditure refers to those expenses incurred to acquire goods or services that are also essential in terms of the daily operations of the businesses. However, the benefits that revenue expenditure gives to the business entities are of a shorter term in nature and usually in the day to day operations and DO NOT provide future economic benefits, i.e. the benefits are consumed over a short period of time (usually one year is the period that is used as the measurement).
Revenue expenditure is recorded as expenses in the Income Statement. Examples of revenue expenditure are office rentals, utilities such as water & electricity, printing & stationery, repairs and maintenance & etc. revenue expenditure also includes those incurred to maintain the earning capacity of non-current assets such as repairs and maintenance.