Definition: An expense is the cost of an asset used by a company in its operations to produce revenues. In other words, an expense is the use of assets to create sales. Notice that I didn’t say it’s the amount of money spent to generate sales. Expenses are created when an asset is used up, not when cash is paid out. Take depreciation expense for example.
What Does Expense Mean?
The expense account is a contra equity account that has a debit balance. This means that equity is decreased as the company generates more expenses. This only makes sense since expenses lower the net income or profits of the company. You can see this clearly in the expanded accounting equation where equity = owner’s capital – withdrawals + revenues – expenses. As the expense account increases, the total equity of the company decreases.
Some common examples of costs are employee salaries, advertising, rent, utilities, taxes, and supplies. All of these costs are reported on the income statement at the end of an accounting period. Depending on the financial statement format, the costs might be categorized in different subcategories like selling and general administrative. Regardless how they are categorized, the total expenses are calculated and subtracted from the total revenues to calculate the net income for the period.
Let’s take a look at some examples.
Corey’s Food Truck, Inc. is a local food company that delivers sandwiches on the Santa Monica beach. Corey places new deli orders for $100 every Monday to a local butcher. When Corey places his order, he debits supplies for $100 and credits cash for $100. This journal entry records the asset, cash, being used up to generate revenues by making sandwiches.
At the end of the year, Corey spends a total of $5,200 on deli meat and lists this as an expense on his income statement.