Capital and Revenue Expenditure | Principles | Financial Accounting Notes | B.Com 1st Sem | CBCS Pattern

   Financial Accounting Notes
B.Com 1st Sem CBCS Pattern
Capital and Revenue Expenditure

Unit – 2: Capital, Revenue and Deferred Revenue Expenditure 

Concept of Capital and Revenue Expenditure

Capital Expenditure: The transactions of capital expenditure give benefits for more than one accounting period, such as acquisition and improvement of assets, acquisition of special rights, increasing of earning capacity, and restoration of operating efficiency. It is non-recurring in nature. Therefore, they are shown on the assets side of the Balance Sheet.

Rules for Determining Capital Expenditure

Ø  Expenditure incurred to acquire long term assets (at least more than one accounting period).

Ø  Such Long term assets must be uses in business to earn profits and not meant for resale.

Ø  Expenditure incurred to keep the assets in working condition.

Ø  Expenditure is incurred to increase earning capacity of a business.

Ø  Preliminary expenses incurred before the commencement of business is considered capital expenditure.

Some examples of capital expenditure: (i) Purchase of land, building, machinery or furniture; (ii) Cost of leasehold land and building; (iii) Cost of purchased goodwill; (iv) Preliminary expenditures; (v) Cost of additions or extensions to existing assets; (vi) Cost of overhauling second-hand machines; (vii) Expenditure on putting an asset into working condition; and (viii) Cost incurred for increasing the earning capacity of a business.

Revenue Expenditure: It is incurred for generating revenue in the current accounting period and its benefit expires with such period. It helps to maintain the normal working condition of a business. It is charged as expenses in Trading / Profit & Loss Account on debit side.

Rules for Determining Revenue Expenditure

Any expenditure which cannot be recognised as capital expenditure can be termed as revenue expenditure. Revenue expenditure temporarily influences only the profit earning capacity of the business. Expenditure is recognised as revenue when it is incurred for the following purposes:

Ø  Expenditure for day-to-day conduct of the business.

Ø  Expenditure for the benefits of less than one year.

Ø  Expenditure on consumable items, on goods and services for resale.

Ø  Expenditures incurred for maintaining fixed assets in working order. For example, repairs, renewals and depreciation.

Some examples of Revenue Expenditure: (i) Salaries and wages paid to the employees; (ii) Rent and rates for the factory or office premises; (iii) Depreciation on plant and machinery; (iv) Consumable stores; (v) Inventory of raw materials, work-in-progress and finished goods; (vi) Insurance premium; (vii) Taxes and legal expenses; and (viii) Miscellaneous expenses. The accounting treatments of capital and revenue expenditure are as under:

Ø  Revenue expenditures – Debited to Profit and Loss Account.

Ø  Capital Expenditures – Shown as assets in the Balance Sheet.

The following are the points of distinction between Capital Expenditure and Revenue Expenditure:

Basis	Capital Expenditure	Revenue Expenditure
1. Benefits	Its benefit realised for more than one accounting period.	Its benefits enjoyed within a particular accounting period.
2. Nature	It is non-recurring (Irregular) in nature.	It is Recurring (Regular) in nature.
3. Conversion	All Capital Expenditures eventually become Revenue Expenditures like depreciation	Revenue Expenditures are not generally capital expenditures.
4. Matching	These are not matched with Capital Receipts.	These are matched with Revenue Receipts.
5. Shown	These are shown in balance sheet.	These items are shown in income statement.

 Deferred Revenue Expenditure

Expenditures which are of revenue in nature and incurred during one accounting period but its benefits are expected to be derived over a number of years, such expenditures are called deferred revenue expenditure. Such expenditure is written off to income and expenditure account over the period of benefits realised from such expenditure. Deferred expenditure to the extent not written is shown as an asset in balance sheet.

Examples: Advertising suspense, Preliminary expenses, Loss on issue of debentures, Cost of issue of shares and debentures.

Capital and Revenue Receipts

A receipt of money may be of a capital or revenue nature. A clear distinction, therefore, should be made between capital receipts and revenue receipts.

A receipt of money is considered as capital receipt when a contribution is made by the proprietor towards the capital of the business or a contribution of capital to the business by someone outside the business. Capital receipts do not have any effect on the profits earned or losses incurred during the course of a year. Additional capital introduced by the proprietor; by partners, in case of partnership firm, by issuing fresh shares, in case of a company; and, by selling assets, previously not intended for resale.

A receipt of money is considered as revenue receipt when it is received from customers for goods supplied or fees received for services rendered in the ordinary course of business, which is a result of the firm’s activity in the current period. Receipts of money in the revenue nature increase the profits or decrease the losses of a business and must be set against the revenue expenses in order to ascertain the profit for the period.

The following are the points of difference between capital receipts and revenue receipts:

Revenue Receipts	Capital Receipts
1. It has short-term effect. The benefit is enjoyed within one accounting period.	1. It has long-term effect. The benefit is enjoyed for many years in future.
2. It occurs repeatedly. It is recurring and regular.	2. It does not occur again and again. It is nonrecurring and irregular.
3. It is shown in profit and loss account on the credit side, as an income for the year.	3. It is shown in the Balance Sheet on the liability side.
4. It does not produce capital receipt.	4. Capital receipt, when invested, produces revenue receipt.
5. This does not increase or decrease the value of asset or liability.	5. The capital receipt decreases the value of asset or increases the value of liability.