Fixed asset expenditure is usually categorized into two classes namely: capital expenditure, and revenue expenditure. This classification is crucial because only capital expenditure is encompassed within the cost of fixed asset. Besides, classifying expenses is necessary in order to observe the matching principle, to enhance the true and fair reflection of financial statements, and to display accurate financial results (Lerner & Cashin, 2009).
Capital expenditure is described as the amount of money that is used on either purchasing or improving long-term assets such as buildings, machineries, or equipment. It can also refer to an expenditure that is intended to upsurge the earning ability of a business. In most cases such cost is recorded in the Property, Plant and Equipment account. The acquisition cost included the purchasing cost plus any other additional costs that are met in getting the fixed asset to the business location and condition (Weygandt, Kimmel & Kieso, 2009).
Unlike revenue expenditure, capital expenditure is incurred once, meaning it is nonrecurring and irregular. Furthermore, except intangible assets, capital expenditure has a physical existence. It should also be noted that its effect is long-term, implying that benefits from a capital expenditure are derived over a number of accounting periods and not within the current accounting year (Holgate, 2006). Capital expenditure is included in the balance sheet up to the point when its benefits are fully drained. Besides, it does not lead to a reduction of revenue of the concern; meaning that the purchasing a fixed asset have no impact on revenue. Examples of capital expenditure include: Replacement costs, up gradation costs, installation costs, legal charges, delivery costs, purchase costs. The accounting treatment follows that a debit entry is made on the fixed asset account, whereas a credit entry is made in the Cash/Payable account (Kotas, 2007).
On the other hand, revenue expenditure refers to an amount which is expensed instantaneously. As such, this expenditure is matched with the current accounting period’s revenues. Such an expenditure has a temporal effect, which means that the benefits of are received in the accounting year (Punjab, 2007). Unlike in the case of capital expenditure, there is no asset acquisition or value addition to an asset. Besides, revenue expenditure lacks the attribute of physical existence, considering it is incurred on objects that are utilized by the business (Agtarap-San, 2007).
Revenue expenditure is recurring and regular in nature as it occurs constantly. A section of this type of expenditure, asset depreciation, is reflected in the trading and profit and loss account, while the rest is indicated in the balance sheet under the asset section. Unlike the capital expenditure which increases the earning ability of a business, revenue expenditure is used in maintaining the business. Furthermore, it leads to a reduction of revenues of the business, especially because it is shown in the trading, profit and loss account, and do not appear in the balance sheet (Duchac, Warren & Reeve, 2011).
Examples of revenue expenditure include: the cost of products acquired for resale, expenses incurred in transporting the products to the business location, cost of materials used in producing good that are meant for resale, day-to-day management expenses, cost incurred in maintaining fixed assets, as well as the interest on borrowed money.
References
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