Capital and

Revenue
Transactions
Rajib Deb
Research Scholar, NIT, Silchar
Introduction

The concepts of capital and revenue are of

fundamental importance to the correct determination
of accounting profit for a period and recognition of
business assets at the end of that period. The distinction
affects the measurement of profit in a number of
accounting periods.

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CAPITAL and Revenue
Capital has been defined by economists as
those assets which are used in the production of
goods and rendering of services for further
production of assets.
In accounting, on the other hand, the capital of
a business is increased by that portion of the
periodic income which has not been consumed
by the owner.

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Relationship
The relationship between capital and revenue is that of
between a tree and its fruits.
It is the tree which produces the fruits, and it is the fruit
that can be consumed. If the tree is tendered with
care, it will produce more fruits, conversely, if the tree is
destroyed, there will be no more fruits. Likewise,
revenue comes out of capital and capital is the source
of revenue. Capital is invested by a person in the
business so that it may produce revenue. Moreover, as
a fruit may give birth to another new tree, different
revenues may also produce further new capital.
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 Capital of a business can be increased in a
two fold way:
1. When the owner brings in more capital to the
business; and/or
2. When the owner does not consume the entire
periodic income.

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Capital and Revenue
Expenditures
Capital expenditure is the outflow of funds to
acquire an asset that will benefit the business for
more than one accounting period. A capital
expenditure takes place when an asset or
service is acquired or improvement of a fixed
asset is effected. These assets are expected to
provide benefits to the business in more than
one accounting period and are not intended for
resale in the ordinary course of business.
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Revenue expenditure is the outflow of funds to
meet the running expenses of a business and it
will be of benefit for the current period only. A
revenue expenditure is incurred to carry on the
normal course of business or maintain the
capital assets in a good condition.

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Rules for Determining Capital
Expenditure
An expenditure can be recognised as capital if it is
incurred for the following purposes :
An expenditure incurred for the purpose of acquiring
long term assets (useful life is at least more than one
accounting period) for use in business to earn profits
and not meant for resale, will be treated as a capital
expenditure.

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 For example, if a second hand motor car dealer
buys a piece of furniture with a view to use it in
business; it will be a capital expenditure. But if
he buys second hand motor cars, for re-sale,
then it will be a revenue expenditure because
he deals in second hand motor cars.

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 When an expenditure is incurred to improve the
present condition of a machine or putting an
old asset into working condition, it is recognised
as a capital expenditure. The expenditure is
capitalised and added to the cost of the asset.
Likewise, any expenditure incurred to put an
asset into working condition is also a capital
expenditure.

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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
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Rules for Determining Revenue
Expenditure
Any expenditure which cannot be recognised as
capital expenditure can be termed as revenue
expenditure. A revenue expenditure temporarily
influences only the profit earning capacity of the
business.
An expenditure is recognised as revenue when it is
incurred for the following purposes :
Expenditure for day-to-day conduct of the business, the
benefits of which last less than one year.

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 Examples are wages of workmen, interest on
borrowed capital, rent, selling expenses, and so
on.
Expenditure on consumable items, on goods
and services for resale either in their original or
improved form. Examples are purchases of raw
materials, office stationery, and the like.
Expenditures incurred for maintaining fixed
assets in working order. For example, repairs,
renewals and depreciation.

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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.
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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.
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 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 firms 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.

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Difference between capital receipts
and revenue receipts
Revenue Receipts
It has short-term effect. The benefit
is enjoyed within one accounting
period.
It occurs repeatedly. It is recurring
and regular.
It is shown in profit and loss account
on the credit side, as an income for
the year
This does not increase or decrease
the value of asset or liability.
Capital Receipts
It has long-term effect. The benefit
is enjoyed for many years in future.
It does not occur again and again.
It is nonrecurring and irregular.
It is shown in the balance sheet on
the liability side.
of asset or liability.
The capital receipt decreases the
value of asset or increases the
value of liability e.g. sale of a fixed
asset, loan from bank etc.
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Problems
State whether the following are capital, revenue or deferred
revenue expenditure.
(i) Carriage of Rs.7,500 spent on machinery purchased and
installed.
(ii) Heavy advertising costs of Rs.20,000 spent on the launching of
a companys new product.
(iii) Rs. 200 paid for servicing the company vehicle, including Rs.50
paid for changing the oil.
(iv) Construction of basement costing Rs.1,95,000 at the factory
premises.

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Solution
(i) Carriage of Rs. 7,500 paid for machinery purchased and
installed should be treated as a Capital Expenditure.
(ii) Advertising expenses for launching a new product of the
company should be treated as a Revenue Expenditure. (As
per AS-26)
(iii) Rs.200 paid for servicing and oil change should be treated
as a Revenue Expenditure.
(iv) Construction cost of basement should be treated as a
Capital Expenditure.

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Problems
State whether the following are capital or revenue expenditure.
(i) Paid a bill of Rs.10,000 of Mr. Kumar, who was engaged as the
erection engineer to set up a new automatic machine costing Rs.
20,000 at the new factory site.
(ii) Incurred Rs.26,000 expenditure on varied advertisement
campaigns under taken yearly, on a regular basis, during the peak
festival season.
(iii) In accordance with the long-term plan of providing a well-
equipped Labour Welfare Centre, spent Rs.90,000 being the
budgeted allocation for the year.

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Solution
(i) Expenses incurred for erecting a new machine should be
treated as a Capital Expenditure.
(ii) Advertisement expenses during peak festival season should be
treated as a Revenue Expenditure.
(iii) Expenses incurred for Labour Welfare Centre should be treated
as a Capital Expenditure.

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Bibliography:
Icmai.in
Financial Accounting- P.C. Tulsian

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Thank
You