11 Capital Expenditure n Revenue Expenditure

8/10/2019 11 Capital Expenditure n Revenue Expenditure

1/4

Pg . 25

Chapter 3

Capital Expenditure and Revenue Expenditure

When preparing final accounts it is important to distinguish between capitaland revenue expenditure.

Capital expenditure can be defined as expenditure incurred on thepurchase, alteration or improvement of fixed assets. For example, thepurchase of a car to be use to deliver goods is capital expenditure. Included incapital expenditure are such costs as: Delivery of fixed assets; Installation of fixed assets; Improvement (but not repair) of fixed assets; Legal costs of buying property;

Demolition costs; Architects fees;

Revenue expenditure is expenditure incurred in the running / managementof the business. For example, the cost of petrol or diesel for cars is revenueexpenditure. Other revenue expenditure: Maintenance of Fixed Assets; Administration of the business; Selling and distribution expenses.

Capital Expenditure is shown on the Balance Sheet, while Revenue

Expenditure is an expense in the Profit and Loss account. It is important toclassify these types of expenditure correctly in the accounting system. Forexample: if the cost of the car was shown as an expense in the Profit and Lossaccount, then the net profit would be reduced, meanwhile, the Balance Sheetwould not show the car as a Fixed Asset. Therefore, incorrect treatment ofexpenditure will result:

1 Capital Expenditure treated as Increase Expenses Decrease in Fixed Assets

Revenue Expenditure Decrease Net Profit in the Balance Sheet

2 Revenue Expenditure treated as Decrease Expenses Increase in Fixed Assets

Capital Expenditure Increase Net Profit in the Balance Sheet.

Only by allocating capital expenditure and revenue expenditure correctlybetween the Profit and Loss account and the Balance Sheet can the FinalAccounts reflect accurately the financial statement of the business. The chart

below shows the main items of capital expenditure and revenue expenditureassociated with three major fixed assets buildings, vehicles and computers.


2/4

Pg . 26

Capital Expenditure Revenue Expenditure

Buildings cost of building general maintenance

cost of extension repairs

carriage on raw materials used redecorationthe new building

legal fees

labour cost of own employees

to build new premises

installation of utilities in the new

premises e.g. water and electricity.

Vehicles net cost, including any optional extras fuel

delivery costs road licence

number plates painting company logolicence for the new vehicle insurance

any changes to the vehicle that servicing and repairs

increases its value.

Computers net cost discs

installation and testing printing paper

modifications, including memory insurance

upgrades, low cost computer programmes

installation of special wiring

cost of air conditioning

staff training

computer programmes (if the cost

of such programmes is high)


3/4

Pg . 27

Exercises

1a. Explain briefly the distinction between Capital and RevenueExpenditure.

1b. State whether the following transactions of a Sports Club should beclassified as Capital Expenditure or Revenue Expenditure:

i. The redecoration of the club premises.ii. The installation of a new wine bar.iii. The building of an extension to the club dressing rooms.iv. The purchase of wine and spirits.v. The purchase of a record player for use in the club lounge.

2. Mario Abela decided to modernise his premises so that morecustomers would be attached and so that the work could be carried outmore efficiently.

During the year ended 30 April 1999, the following took place:(a)

An extension to the office was built, Lm15,600 was paid for materials,and Lm22,340 for labour. Lm125 was paid for legal fees for permissionto extend building.

(b)The original premises were redecorated Lm2,600.(c)

A new, powerful computer was purchased to process the officesaccounts and other administration. The computer cost Lm5,300.

(d)

50 new smaller computers were purchased at a total cost of Lm97,600and sold to customers.

(e)

The original premises had some old electrical wiring renewed at a costof Lm1670, and some additional power points installed at a cost ofLm760, so that more computers could be demonstrated to customers.

(f) Other running expenses for the year totalled Lm67,400.

You are required to classify the above transactions under Capitalexpenditure and Revenue Expenditure.

3. Lorry Ellul buys new machinery on 1 November 1999 for Lm10,000.He pays for this by taking out a bank loan, for which he is chargedLm1,200 interest during the year ended 31 October 1999. The

installation of the machinery cost him Lm450 for labour and Lm75 formaterials. As the machinery is specialised, its purchase cost him anadditional Lm80 in legal fees. During the year ended 31 October 1999he spent Lm500 on power to operate the machinery, Lm8,500 on thewages of the machine operator and Lm9,250 on the materials used inproduction.

You are required to distinguish the above items between capital and revenueexpenditure.


4/4

Pg . 28

4. Joe Psaila bought a new computer for his office on 1 May 1999. The

computer cost Lm2,500, and he paid an installation charge of Lm100.He also paid Lm900 for software for the computer. He agreed to payLm300 for an agreement covering his computer for repairs andmaintenance for three years from 1 May 1999.

During the year ended 30 April 1999, he paid wages of Lm12,000 to hiscomputer operator, and he estimates that the power used by thecomputer cost Lm20.

You are required to:

a. List the items given above as either Capital Expenditure orRevenue Expenditure;

b.

Give two reasons for the importance of correctly distinguishingbetween the two types of expenditure.

5.

For the business of R.Debono, a food merchant, classify the followingitems between capital and revenue expenditure:

(a)

repairs to meat slicer;(b)new tyre for van;(c)

additional shop counter;(d)renewing sign writing on shop;(e)

fitting partitions in shop;(f) roof repairs;(g)

installing thief detection equipment;

(h)

wages of shop assistant;(i)

new cash register;(j) repairs to office safe;(k)

installing new freezers.

6.

Distinguish the following items between capital and revenueexpenditure:

(a)interest on loan to purchase computer;(b)

cost of software;(c)cost of paper;

(d)

wages of computer operator;(e)cost of adding extra memory to the computer;(f)

cost of floppy discs used during the year;(g)cost of adding air conditioning to the computer room.

Documents

11 Capital Expenditure n Revenue Expenditure