Asset Vs. Expense: Differences, Types And Best Practices
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While assets and expenses are both purchases of a business, they are distinct financial elements with varying features and purposes. Young professionals who are getting started on their accountancy careers can find it confusing to distinguish between these two financial terms. Learning the differences between assets and expenses is essential for accountants and other professionals who handle the finances of an organisation. In this article, we explain the differences between an asset vs. expense with examples and types and share tips on how to record these elements in financial statements.
Asset Vs. Expense: Are They The Same?
Developing a complete understanding of asset vs. expense is essential for the accurate calculation of profitability, budgets and other finances of a business. Here is a quick explanation of the primary differences between these two financial terms:
An asset is a business resource that offers economic benefit to the business in the future.
An expense is a resource that the business has already consumed during the operations of the company for a specific accounting period.
What Is An Asset?
An asset refers to any resource that adds value to a business in the future. For example, cash reserves are an asset to the company, as the company can use the cash to pay for inventory and other materials in the future. Similarly, a two-wheeler or four-wheeler registered under the company's name is an asset as it helps transport people and things for the organisation.
Assets offer either a short-term or long-term benefit to the business, depending on their nature. For example, a business property is a long-term asset as it provides benefits for the business over the years. Perishable inventory is a short-term asset, as the company has to use them before the expiry date. Here are a few examples of common business assets:
Accrued revenues and receivables
Inventory and supplies
Land and buildings
Equipment and machinery
Furniture and fixtures
Here is a real-life example of a business asset:
A garment manufacturer purchases a commercial sewing machine worth ₹10 lakhs. The sewing machine is an asset and not an expense as it helps the business produce more clothes that increase revenue.
What Is An Expense?
An expense is a necessary cost that a business incurs to operate. It can either be commodities or services that a company purchases to run the business. Unlike assets, expenses do not offer long-term benefits to the business, as the organisation consumes them immediately. Accountants deduct the cost of the expense from the total revenue before calculating the profit or loss of the company. It is essential to track and categorise business expenses, as some are eligible for tax deductions, offering significant cost savings to the company.
Here are a few examples of common business expenses:
The payroll of full-time and part-time employees and freelance contractors
Rent and utilities
Bank fees and interest
Fuel and maintenance expenses for company vehicles
Furniture and office furnishings
Membership fees and subscription dues
Employee meals and travel allowances
Employee retirement plans
Maintenance and repair fees and other upkeep expenses
Here is an example of the typical administrative expenses of a business for a quarter:
A large multinational company can include office supplies, insurance, employee salary, utilities and maintenance costs as the administrative expenses for the quarter.
Types Of Assets
Assets are of six different types:
Current assets: Assets that are easily converted into cash are current assets. Examples include accounts receivable, cash accounts, inventory and cash equivalent accounts.
Fixed assets: Also known as non-current assets, it takes time for businesses to liquidate fixed assets. Examples include land, buildings, vehicles, machinery, copyrights and patents.
Tangible assets: Tangible assets have physical existence and include cash, inventory, machinery, vehicles, property, marketable security and equipment.
Intangible assets: An asset that has no physical presence is an intangible asset. Examples include copyrights, patents, trademarks, licenses and business goodwill.
Operating assets: Any asset that a business actively uses is an operating asset. Examples include patents, inventory, cash accounts, accounts receivable and copyrights.
Non-operating assets: If a business does not use an asset regularly for business operations, it is not a non-operating asset. Examples include marketable securities and vacant land.
Types of expenses
Expenses are of three types:
Fixed expense: A fixed cost remains the same or changes only slightly every month or quarter. An example of a fixed expense is a company's monthly rent for its office building.
Variable expenses: These expenditures vary month after month. They are the most significant expenses of a business for a specific period. An example of a variable expense would be overtime expenditures because of seasonal variations in manufacturing schedules.
Periodic expenses: These expenses happen infrequently and are difficult to plan for. An example of a periodic expense is the unexpected repair fees for a sudden machinery failure.
Key Differences Between Assets And Expenses
Both expenses and assets incur when a business purchases products or services. But the similarities end there. Here are the three significant differences between them:
Value after acquisition
Any purchase is an asset if it maintains its worth for at least one year. Depending on the type of asset, the value may either appreciate or depreciate. Assets like land appreciate, whereas others, like vehicles, tools, machinery and systems, depreciate. Unlike assets, expenses do not maintain their value for more than a year and do not offer any benefit to the company. As a result, financial professionals deduct their value right away.
The operating cycle for expenses is for a short period, like a month, quarter or year. Accountants do not carry forward expenses and usually record them as soon as they occur. Assets offer value for a longer period, usually over a year. Examples of short-term assets include cash, inventory and marketable securities and examples of long-term assets include the company's property, machinery and equipment.
Expenses are less expensive than assets and businesses pay for them from their working cash flow. Assets are costlier than expenses and companies pay for these, either with their long-term cash reserves or with funding gained via a business loan or bank overdraft. You can consider assets as long-term investments that the business makes for the future benefit of the company.
Accounting For Assets And Expenses
As assets and expenses represent distinct elements of a business, accountants record them differently in the organisation's financial statements. Here are the ways to record assets and expenses in the company's books:
Accountants enter expenses on the debit side of the profit-and-loss report. The profit-and-loss report specifies the profit or loss of the business for a specific period. As per the principles of double-entry bookkeeping, whenever you enter an expense as a debit, it creates a corresponding credit entry in another account, like a liability account.
The expense entry period depends on the type of accounting method you use. If you use accrual accounting, the expense period is the same as when the expense occurs. If you use cash accounting, the expense period is when you pay the expense invoice. For example, assume you receive a utility invoice at the end of May, but you pay the bill only in July. Under accrual accounting, you record the expense in May as soon as it occurs. In cash accounting, you enter the expense in July when you pay for the invoice.
Assets are present on the business's balance sheet, along with capital, equity and liabilities. The balance sheet represents the monetary value of the company at a specific point in time. Since assets add value to the business over the long term, accountants weigh this added value against the initial cost of investment. Some assets decline in value. To record depreciating purchases, accountants spread the cost of the purchase throughout its useful life.
Best Practices To Track Assets And Expenses
Assets and expenses are essential to the successful operation of a business. Here are a few accounting practices that help you track them properly:
Avoid duplication. Ensure that you categorise assets and expenses properly to avoid duplicate entries. For example, if you record machinery under fixed assets, ensure that you do not include it under operating or tangible assets.
Maintain meticulous records. Ensure that you keep track of receipts and other documentation of assets and expenses to provide proof for taxation and auditing purposes.
Consider double-entry bookkeeping. Bookkeeping procedures like double-entry help you track assets and expenses accurately, avoiding any mistakes because of manual errors.
Understand taxation rules. Certain assets and expenses are tax deductible and can help you reduce overall business taxes. Being aware of the assets and expenses that have tax deductions can help you increase the cost savings of the business.
Use the right accounting software. Choosing an accounting software customised for the industry you work in can help you record assets and expenses accurately and avoid duplication or inaccurate entries.
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