Expenditures which is non-recurring and are quite infrequent in nature are called capital expenditure. Expenditure incurred to carry on in the Normal course of business for the current year and to keep assets in satisfactory operating condition is called revenue expenditure.
There are lots of expenditures are happening in a business so we should understand the differences between capital expenditures and revenue expenditures.
What is Capital Expenditure?
It gives benefits to the business over more than one accounting year and is not intended for resale in the ordinary course of business.
Thus, capital expenditure increases the earning capacity of the business or reduces its recurring expenses. capital expenditure includes the purchase of the land building, plant, and machinery, furniture, goodwill, cost of the lease – Hold and hold land and building.
Hence, expenditure incurred for the following purpose. It is treated as capital expenditure:
- Expenditure incurred up to the point of an asset is put to use.
- Capital expenditure incurred for acquiring the right to carry on a business.
- All fixed assets purchased for more than one accounting year and used in the business to earn a profit are not for resale.
- Expenditure increases the earning capacity of the business.
Thus, it is incurred for alterations or improvement of present assets or putting assessed into working condition.
Question 1: Expenses in connection with obtaining a license for running the cinema capital expenditure?
Answer: the cinema hall could not be started without license expenditure incurred to obtain the license is pre-operative expenses which are capitalized. Such expenses are amortized over a period of time.
What is Revenue Expenditure?
Expenditure is incurred for the following purposes:
- Day-to-day expenses for the conduct of business and its benefits are less than 1 year.
- Expenditure on repairs and maintenance of assets and defend the ownership of an asset.
- Revenue expenditure includes the cost of material purchased for conception in the process of manufacturing or goods bought for resale, administrative expenses, selling and distribution expenses, wages, bonuses, etc.
Revenue expenditures become capital expenditures in the following situations:
- All types of development expenditure in certain businesses (tea and rubber plantations horticulture etc.) are treated as capital expenditure.
- Carriage and freight are paid on the purchase of fixed assets.
- Legal low charges are paid for the purchase of fixed assets.
- Interest was paid during the construction period.
- Raw materials, stores, and wages paid for the installation of plant and machinery.
The state with reasons whether the following are capital or revenue expenditure.
Question 2: A factory shed was constructed at a cost of $100000 a sum of $5000 has been incurred in the construction of temporary Huts for storing building material.
Answer: The cost of construction of the building including the cost of the temporary hut is capital expenditure. therefore, the building is a fixed asset that will generate an Enduring benefit to the business over more than one accounting period.
Thus, the construction of temporary huts is incidental to the main construction such cost is also capitalized with the cost of the building.