Capital Expenditure and Revenue Expenditure

Before this article, we should know the difference between terms; expenditure and expense. Expenditure is an amount incurred by a business to purchase assets and reduction of liabilities of business. While the expense is an amount incurred by a business to earn profit.

Capital Expenditure – Definition, Explanation and Examples:

The amount spent or incurred on acquiring a non-current asset is treated as capital expenditure. The same principle applies to the purchase of a business as a going concern concept of accounting.

Capital expenditure include purchase price of non-current assets plus the identical costs connected with the acquisition of non-current assets, e.g., installation costs on machine, import duty on imported cars, brokerage on the purchase of investments, registration charges for transfer of property rights, conveyance and mortgage charges in connection with a purchase, etc.

The capital expenditures increase the earning capacity of the business.

The expenditures which increase the useful life of a non-current asset beyond the original estimate life are also capital expenditures. To illustrate, assume that a machine with an estimated life of ten years is substantially rebuilt at the end of its seventh of year of use, and that the extraordinary repairs are expected to extend the life of the machine an additional three years beyond the original estimate. In such circumstances, it is appropriate to capitalize the expenditure incurred.

Revenue Expenditure – Definition, Explanation and Examples:

The amount incurred in the acquisition of inventories for sale or production is considered as revenue expenditure. For example, wages and salaries, oil and power, administration and insurance, bad debts, interest, depreciation of fixed assets, etc.

Expenditures that are minor in amount are usually treated as revenue expenditures though they may have the characteristics of capital expenditures.

The revenue expenditures just maintain the earning capacity of the business.

Difference/Distinction between Capital and Revenue Expenditures:

The cost of installing an air conditioning unit in an automobile or replacement of a power unit attached to a machine by one of greater capacity should be treated as a capital expenditure. It is equally clear that expenditures for maintenance and repairs of recurring nature should be classified as revenue expenditures. Thus, the cost of replacing spark plugs in an automobile or of repainting a building should be treated as revenue expenses.

Following table describes the main difference/distinction between capital and revenue expenditures:

capital and revenue expenditures difference