What does ‘expenses’ mean?
Expenses, in simple terms, refer to the funds a company invests in its daily operations to generate income. It's essentially the money you need to spend to acquire something valuable. As the well-known saying suggests, "It takes money to make money."
Typical expenditures encompass payments to suppliers, employee salaries, renting factories, and the decline in equipment value over time. Businesses have the opportunity to deduct expenses that are eligible for tax deductions when they file their income tax returns. This deduction helps in reducing the taxable income and, consequently, the tax amount a business owes. Nevertheless, it's crucial to note that the Income Tax Department has stringent regulations and guidelines regarding which expenses can be claimed as deductions.
Expenses in Accrual Accounting and Cash Accounting
Expenses find their place in the company's financial records depending on the chosen accounting approach, which can be either the accrual or cash method. With the accrual method, an expense gets recorded when the legal obligation is fulfilled—this happens when goods are received or services are rendered.
On the other hand, cash accounting only logs an expense when actual cash changes hands. Let's say you have a utility bill due in April, but you pay it in May; under the accrual method, it's marked as an April expense, while the cash method records it in May when you make the payment.
Accrual accounting operates on the principle of matching, ensuring that each accounting period accurately reflects profits. It aligns revenue with the expenses that arise in earning that revenue throughout the same accounting period. For instance, if you have sales commission expenses, they get recorded in the period when the related sales are reported, regardless of when the commission was actually disbursed