It can be hard to decide whether a particular item of expenditure is of a capital nature or a revenue nature. Some expenses may lie on the borderline, making it complex to determine whether they are capital or revenue expenditures.

This difficulty is easily avoided by answering the following questions:

  • Is the expenditure incurred in acquiring a fixed asset?
  • Is the expenditure incurred for the improvement, addition, installation, or erection of fixed assets?
  • Does the expenditure increase the earning capacity of the business?
  • Has the expenditure been incurred to raise capital for the business?

If any of these questions are answered in the affirmative, the expenditure is capital; by contrast, if the answers are in the negative, then the expenditure is revenue.

Difference Between Capital and Revenue Expenditures

It is always possible to distinguish between capital and revenue expenditure in a straightforward way due to the following reasons:

1. Certain expenses are considered items of capital expenditure for one business but items of revenue expenditure for others.

For instance, in an engineering firm, plant and machinery may have been purchased to earn profit and others may have been purchased for use in the business.

However, in a real estate business, land and buildings purchased are items of revenue expenditure because they may be purchased for resale.

2. Certain expenses may be said to be partly capital and partly revenue expenditure. For example, the combined cost of repairs, alterations, and extensions of a fixed asset.

If there is a doubt as to the nature of any item, students should make a note at the foot of their solution as to the method of treatment adopted.

Frequently Asked Questions

What is the difference between capital and revenue expenditure?

The main difference between capital and revenue expenditures is that the expenses incurred towards revenues are to be treated as deductions from sales. Capital expenditures can be depreciated over their useful lives.

What are examples of capital expenditures?

Capital expenditure refers to buying or building new fixed assets or replacing fixed assets. In general, the cost of a fixed asset is capitalized and depreciated over its useful life. Fixed assets are tangible or intangible assets with a useful life of more than one year. Some examples of fixed assets include: - Buildings - Machinery - Vehicles

What are some examples of revenue expenditures?

Revenue expenditures are expenses used to generate revenue. They reduce net income and represent a cost of doing business. Examples include: - Salaries of employees - Utilities, such as water, electricity - Rent paid on office or store space

What are some examples where it is difficult to determine whether an expenditure is a capital or revenue in nature?

Some expenditures lie on the borderline between capital and revenue expenditure, making them difficult to categorize. For example, the cost of repairs, alterations, and extensions may be considered as capital expenditure for one entity but as revenue expenditure for another.

What are some examples where an item is always treated as capital expenditure?

Some expenses are always treated as capital expenditures for all types of entities. Some examples include: - Purchase of a building or machinery to be used by the entity and not resale - Installation and erection costs, such as the cost of moving machinery from one site to another or installation costs for new machinery at an existing site

True is a Certified Educator in Personal Finance (CEPF®), a member of the Society for Advancing Business Editing and Writing, contributes to his financial education site, Finance Strategists, and has spoken to various financial communities such as the CFA Institute, as well as university students like his Alma mater, Biola University, where he received a bachelor of science in business and data analytics.

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