13.2 What is the difference between capital and revenue expenditures?

Question 1

What are the two types of expenditures related to non-current assets?

Answer 1

1. Capital expenditure

2. Revenue expenditure

Question 2

What do capital expenditures consist of?

Answer 2

1. Cost to buy the non-current assets, and

2. All expenditures to bring to bring the non-current assets to a ready-to-use condition.

Question 3

What are some examples of expenditures that are incurred to bring the non-current assets to a ready-to-use condition?

Answer 3

1. Freight charges
2. Import duties
3. Legal fees
4. Installation costs

Question 4

Are the benefits provided by capital expenditure long or short term?

Answer 4

The benefits are long term. They last for more than one year.

Question 5

Where is capital expenditure recorded?

Answer 5

In non-current assets account and shown in the Statement of Financial Position.

Question 6

What is the journal entry for recording capital expenditure?

Answer 6

Dr Non-current asset

Cr Cash at Bank or Trade Payable

Question 7

What do revenue expenditures consist of? Give some examples of revenue expenditures.

Answer 7

Revenue expenditures consist of:

1. costs to operate or run the non-current assets, such as petrol and machine oil; and
2. costs to repair and maintain the non-current assets in working condition.

Question 8

Are the benefits provided by revenue expenditure long or short term?

Answer 8

The benefits last only for the current year.

Question 9

How are revenue expenditures recorded?

Answer 9

In an expense account and shown in the Statement of Financial Performance.

Question 10

What is the journal entry for recording revenue expenditure?

Answer 10

Dr Expense

Cr Cash at Bank

Question 11

Why is it important to differentiate between capital and revenue expenditures?

Answer 11

Because non-current assets and profit for the year will be affected if the expenditure is wrongly classified.

Question 12

Is the cost of a major overhaul of a truck a capital or revenue expenditure?

Answer 12

Capital expenditure because capital expenditures will generate benefits that will last for more than one year. As the overhaul has resulted in extension of the truck’s useful life, the cost of the major overhaul is a capital expenditure and is debited to the motor vehicles account.

Question 13

Which of the following expenditures incurred to purchase a truck (with a useful life of five years) are capital expenditures? What is the journal entry for the capital expenditures?

a. $80 000 to Sumi Motor for a truck
b. $15 000 for certificate of entitlement (COE)
c. $5 000 to Fast Freight for bringing in the truck from Japan to Singapore.
d. $1 000 for road tax
e. $2 500 for petrol
f. $4 000 for maintenance

Answer 13

Items (a), (b) and (c). Therefore the total capital expenditure is $100 000 ($80 000 + $15 000 + $5 000).

The journal entry is:
Dr Motor vehicles $100 000
Cr Cash at bank $100 000

Question 14

Which of the following expenditures incurred to purchase a truck (with a useful life of five years) are revenue expenditures? What is the journal entry for the revenue expenditures?

a. $80 000 to Sumi Motor for a truck
b. $15 000 for certificate of entitlement (COE)
c. $5 000 to Fast Freight for bringing in the truck from Japan to Singapore.
d. $1 000 for road tax
e. $2 500 for petrol
f. $4 000 for maintenance

Answer 14

Items (d), (e) and (f). The total revenue expenditures are
$7 500 ($1 000 +$2 500 + $4 000).

The journal entry is:
Dr Motor vehicle expenses $7 500
Cr Cash at bank $7 500

Question 15

Why do some businesses treat capital expenditures as revenue expenditures, if the capital expenditures are immaterial?

Answer 15

Because it is in accordance with the materiality concept.

Question 16

Mega Home and Eng Lighting are in the home furnishing industry. In the year 20X8, Mega Home made a profit of $900 000 and Eng Lighting made a profit of $9 000.

During the same financial year, both companies paid
$2 000 for a printer. How might Mega Home classify this expenditure? Is it okay for Mega Home to classify this expenditure as a revenue expenditure?

Answer 16

The printer is a capital expenditure as the benefits from this expenditure last for a few years. Thus, this amount should be recorded in the equipment account which is a non-current asset.

Mega Home may however record the expenditure as revenue expenditure as $2 000 is immaterial when compared to the size of the profit of the business. This is in accordance with the materiality concept.

Question 17

Refer to Flashcard 16.

How may Mega Home record the amount?

Answer 17

As a revenue expenditure:
Dr Computer expense $2 000
Cr Cash at Bank $2 000

Question 18

Refer to Flashcard 16.

How may Eng Lighting record the amount?

Answer 18

As a capital expenditure:
Dr Equipment $2 000
Cr Cash at bank $2 000

Question 19

What does the materiality concept state?

Answer 19

A transaction or an item is considered material if it makes a difference to decision-making. The value of the transaction or item is usually compared to the size and nature of the business, in terms of income, profit, assets or equity of the business.

Question 20

Is a business required to record a transaction or an item in accordance with the accounting principles and guidelines if the transaction or item is not material?

Answer 20

No, it does not need to. Thus, a capital expenditure may be recorded as a revenue expenditure if it is considered immaterial.

Question 21

Can a capital expenditure be recorded as a revenue expenditure?

Answer 21

Yes, if it is considered immaterial, i.e. it does not make a difference to decision making.

Question 22

Is this transaction or item material to a business that reports a profit of $1 million?

Purchase a piece of land for $500 000.

Answer 22

Material

Question 23

Is this transaction or item material to a business that reports a profit of $1 million?

Incur repair cost for a delivery truck for $1 000.

Answer 23

Immaterial

Question 24

Is this transaction or item material to a business that reports a profit of $1 million?

Incur painting of building for $300 000.

Answer 24

Material

Question 25

Is this transaction or item material to a business that reports a profit of $1 million?

Purchase a tablet for $400.

Answer 25

Immaterial

Question 26

Where is a capital expenditure recorded in?

Answer 26

Non-current asset account

Question 27

Where is a revenue expenditure recorded in?

Answer 27

Expense account

Question 28

What is the effect of wrongly classifying a capital expenditure item as a revenue expenditure?

Answer 28

Non-current assets will be understated.

Expenses will be overstated and hence profit will be understated.

Question 29

What is the effect of wrongly classifying a revenue expenditure item as a capital expenditure?

Answer 29

Expenses will be understated and hence profit will be overstated.
Non-current assets will be overstated.