Key Difference – Cost vs Expense
Cost and expense are two widely used terms in accounting which are also used interchangeably. However, they have different meanings and should be interpreted accurately. The key difference between cost and expense is that cost is the monetary value spent to obtain something whereas expense is an item charged against generating revenue. Costs and expenses should be analyzed against revenues for the accounting period.
CONTENTS
1. Overview and Key Difference
2. What is Cost
3. What is Expense
4. Side by Side Comparison – Cost vs Expense
5. Summary
What is a Cost?
Cost is an amount that has to be paid to acquire something. In accounting terms, costs are classified at various levels.
Cost of Asset
According to IAS 16– ‘Property, Plant and Equipment’, a cost of an asset includes the funds paid to acquire the asset, the cost of site preparation, shipping, handling, and installation. The cost of an asset is reflected in the balance sheet. The asset is not fully consumed yet, thus this should be recorded as a cost.
E.g.1 ADR Company purchased a building which has a cost of $100,500 which has an economic useful life of 40 years.
Cost of Goods Sold
Cost of Goods Sold is the addition of all the direct charges such as materials, labor, and overheads used to produce revenue.
E.g.2 ADR Company produces 5, 000 products per cost of $25 each, thus incurring a total cost of $125,000
What is an Expense
Expense is an item that can be charged against revenue for a particular period. Expenses are deducted from incomes to arrive at the profit for the accounting year. Since expenses are related to business income, they are reflected in the income statement. In other words, an expense is a cost whose utility has been used up; it has been consumed. Continuing from the same example,
Eg.1. The above-mentioned building will be expensed through the depreciation charge per annum and which will be $2,512.5 ($100,000/40) since the cost of an asset is subjected to annual accounting charge of depreciation due to the reduction in its economic useful life. Depreciation is charged per year and the amount charged up to date is referred to as ‘accumulated depreciation’. The accounting entries are,
Depreciation A/C DR$2,512.5
Accumulated Depreciation A/C CR$2,512.5
Eg.2. products worth of $125,000 will be sold to earn revenue. The accounting entries will be,
Cost of goods sold A/C DR$125,000
Inventory A/C CR$125,000
Expenses also can be accrued or prepaid and both these types should be accounted for.
Accrued Expenses
These are expenses recognized in books before they are paid for and is recorded as a current liability
E.g. accrued interest, accrued tax
Prepaid Expenses
These are expenses paid in advance prior to due date, therefore recorded as current asset
E.g. prepaid rent, prepaid insurance
Figure 1: Expenses are incurred in various ways and different organizations can categorize them at their discretion.
What is the difference Between Cost and Expense?
Cost vs Expense |
|
| Cost is the monetary value spent to obtain something. | Expense is an item charged against generating revenue. |
| Types | |
| Cost of assets and cost of goods sold are main types of Costs. | Expenses can be accrued, prepaid or items recorded to compensate for the use of assets. |
| Tax | |
| Cost is not directly attributable to tax; however, the depreciation charge for cost of the assets is tax deductible | Expense is tax deductible; thus it reduces the tax bill. |
Summary – Cost vs Expense
Understanding different types of costs and expenses assist better realization of the difference between cost and expense. While Expenses are recognized against revenue, the value of costs is apportioned and written off as expenses to indicate a reduction in their value. Further, expenses are more beneficial from a tax saving point of view compared to costs.
Reference:
1.Murray, Jean. “What’s the Difference Between Costs and Expenses?” The Balance. N.p., n.d. Web. 09 Mar. 2017.
2.”IAS 16- Property, Plant and Equipment.” International Accounting Standards. N.p., n.d. Web. 9 Mar. 2017.
3.”What is the difference between cost and expense? – Questions & Answers.” AccountingTools. N.p., n.d. Web. 09 Mar. 2017.
4.”Accruals and Prepayments.” Accrual Accounting – Prepayment Accounting Explained with examples. N.p., n.d. Web. 09 Mar. 2017.
Image Courtesy:
1. “Chart of Corporate Commercial Expenses and Manufacturing Expenses, 1909” By James Bray Griffith – Administrative and industrial organization. 1909. (Public Domain) via Commons Wikimedia