Capital vs Revenue Expenditure: Tabular Comparison with Examples
Capital Expenditure and Revenue Expenditure are fundamental concepts in Commerce, especially in Accounting and Business Finance. Understanding these terms and their differences helps students analyze business transactions, prepare accurate financial statements, and make sense of practical exam questions.
Capital Expenditure, often referred to as CapEx, is the money spent by an organization on acquiring or improving fixed assets that will increase earning capacity in the future. These expenditures are usually one-time, high-value investments made towards assets like buildings, machinery, or infrastructure, which provide benefits over multiple accounting periods. For example, purchasing new machinery or developing infrastructure qualifies as capital expenditure.
On the other hand, Revenue Expenditure is the recurring expense required for the daily functioning of a business. These are generally short-term in nature and do not add to the asset base of a company. Revenue expenditures focus on maintaining the current efficiency of the business operations and are fully expensed in the Income Statement within the same accounting period. Common examples include salaries, rent, utility bills, and regular repair costs.
Key Differences Between Capital Expenditure and Revenue Expenditure
| Basis | Capital Expenditure | Revenue Expenditure |
|---|---|---|
| Nature | Non-recurring, for long-term asset creation | Recurring, for day-to-day operations |
| Purpose | Enhances earning capacity | Maintains earning capacity |
| Accounting Treatment | Added to assets and depreciated over useful life | Fully expensed in income statement during period incurred |
| Examples | Purchase of machinery, construction of building | Salaries, repairs, rent, utilities |
Proper classification of these expenditures is crucial. If a capital expense is mistakenly recorded as revenue, it understates profits and assets. Conversely, wrongly classifying a revenue expense as capital inflates the asset value and misrepresents financial health. Accurate reporting supports good decision-making and compliance with accounting standards.
Stepwise Approach for Identifying Expenditure Type
| Step | Question to Ask | Expected Classification |
|---|---|---|
| 1 | Does the expense lead to creation or substantial improvement of an asset? | Capital Expenditure |
| 2 | Is it a routine cost for running the daily business? | Revenue Expenditure |
| 3 | Is the benefit expected to last for more than one accounting year? | Capital Expenditure |
| 4 | Is it fully consumed within the same period? | Revenue Expenditure |
Let us look at some practical scenarios:
- Buying a machine: The cost of the machine and installation expenses are capital expenditure since they help create a new asset.
- Salaries paid to staff, rent, and electricity bills: These are revenue expenditures, as they are essential for day-to-day functioning and do not contribute to acquisition or improvement of an asset.
- Major renovation of premises: This would be classified as capital expenditure because it enhances the value and life of the asset.
- Routine maintenance of existing machinery: This is considered revenue expenditure as it only helps maintain current operations without increasing asset value.
The benefits of capital expenditures are spread over several years. These costs are capitalized, meaning they are recorded as assets in the Balance Sheet, and reduced gradually through depreciation each year. Revenue expenditures, in contrast, are shown as expenses in the Profit & Loss Account for the period in which they occur.
| Type | Accounting Treatment |
|---|---|
| Capital Expenditure | Shown under fixed assets, depreciated over useful life |
| Revenue Expenditure | Fully charged to Profit & Loss Account in the year incurred |
To test your understanding, try classifying these expenses:
-
Fees paid to a lawyer for purchase of land
— Capital Expenditure
-
Cost of raw material used in production
— Revenue Expenditure
-
Annual maintenance contract for equipment
— Revenue Expenditure
-
Extension of factory building
— Capital Expenditure
Clear distinction between these two categories ensures proper budgeting, helps in taxation, and aids management decisions. This clarity is crucial for all students in Accounting and Business Studies.
Next Steps for Effective Learning
- Practice more classification questions using Vedantu’s free commerce resources.
- Review sample financial statements to see real-life application of these concepts.
- Revise topic summaries and tables regularly for quick recall during exams.
Consistent practice with varied examples will strengthen your understanding of capital and revenue expenditures, preparing you well for both theoretical and application-based questions in Commerce.
FAQs on Difference Between Capital Expenditure and Revenue Expenditure Explained
1. What is the difference between capital expenditure and revenue expenditure?
Capital expenditure is spent on acquiring or improving long-term assets, such as land, buildings, or machinery, which benefit the business for years. Revenue expenditure is incurred for daily business activities, like wages, rent, or repairs, and benefits only the current year. The key differences include:
- Capital expenditure: Non-recurring, increases asset value, shown in the balance sheet, depreciated over time
- Revenue expenditure: Recurring, maintains existing assets, shown in profit & loss account, charged fully in the current year
2. What are some examples of capital expenditure and revenue expenditure?
Examples of capital expenditure:
- Purchasing machinery
- Building a new factory or office
- Cost of installing new equipment
- Legal expenses to acquire property
Examples of revenue expenditure:
- Employee salaries
- Monthly rent payments
- Routine repairs and maintenance
- Utility bills
3. Why is the distinction between capital and revenue expenditure important?
Distinguishing between capital and revenue expenditure is crucial for accurate financial reporting and compliance. Capital expenditures affect asset values and depreciation over several years, while revenue expenditures impact the current year’s profit or loss. Proper classification ensures correct calculation of net profit and fair presentation of the balance sheet.
4. How is capital expenditure treated in financial statements?
Capital expenditure is recorded as an asset in the balance sheet. It is not charged fully to the profit & loss account in the year of purchase but depreciated over several years to match its benefit period.
5. How is revenue expenditure treated in accounting?
Revenue expenditure is charged as an expense in the profit & loss account of the current accounting period. It is not capitalized and does not affect the value of assets in the balance sheet.
6. Can installation costs of a new machine be considered capital expenditure?
Yes, installation costs of a new machine are capital expenditure because they are necessary to bring the asset into working condition and increase its value. All direct expenses until the asset is ready for use are capitalized.
7. What types of expenses are classified as revenue expenditure?
Revenue expenditure includes all costs incurred in the normal course of business operations to maintain existing assets or generate income. Examples include:
- Salaries and wages
- Rent
- Office supplies
- Routine repairs
- Advertising expenses
8. What is deferred revenue expenditure?
Deferred revenue expenditure is a revenue expense that provides benefit over more than one year. It is initially recorded as an asset and then written off in installments over its benefit period. Examples include heavy advertising expenses for a new product launch.
9. How do you identify whether an expense is capital or revenue in nature?
To identify the nature of expenditure:
- Ask if the expense creates or enhances a long-term asset (Capital)
- Check if the benefit lasts beyond the current year (Capital)
- See if it is recurring or for routine operations (Revenue)
- Determine if it helps maintain, rather than increase, earning capacity (Revenue)
10. What is the difference between capital receipts and revenue receipts?
Capital receipts are funds received from non-operating sources, like selling fixed assets or loans, and are not part of regular income. Revenue receipts refer to income from normal business activities, such as sales or service fees. The key distinction is that capital receipts affect the balance sheet, while revenue receipts impact the profit & loss account.
11. Are legal fees to buy a building capital or revenue expenditure?
Legal fees to buy a building are considered capital expenditure as they are directly related to the acquisition of a long-term asset and are included in the cost of the asset purchased.
12. Is repair of an existing asset capital or revenue expenditure?
Repair of an existing asset is generally revenue expenditure if it is for normal maintenance. However, if repairs significantly upgrade or improve the asset’s capacity, it can be treated as capital expenditure. Routine maintenance is always revenue expenditure.
