## **Learning Outcomes**

After reading this article, you will be able to classify spending as capital or revenue expenditure using simple decision rules. You will be able to explain where each type is reported in the financial statements and why classification affects profit and capital. You will also be able to record typical transactions in the ledgers (bank/payables plus the correct asset or expense account) and deal with mixed invoices that contain both capital and revenue items.

## **ACCA Recording Financial Transactions (FA1) Syllabus**

For ACCA Recording Financial Transactions (FA1), you must understand:

- how to distinguish non-current assets from expenses in day-to-day bookkeeping
- how capital and revenue expenditure affect profit, assets and owner’s capital
- which general ledger accounts to use when coding invoices and payments
- the double-entry needed for buying non-current assets versus paying expenses
- common classification errors (repairs vs improvements, drawings vs expenses, mixed invoices)

## **Test Your Knowledge**

_Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision._

1. A business buys a photocopier for office use and pays by bank transfer. Which entry is correct?
   - A. Dr Photocopier expense, Cr Bank
   - B. Dr Plant and equipment, Cr Bank
   - C. Dr Purchases, Cr Bank
   - D. Dr Bank, Cr Plant and equipment

2. True or false? Routine servicing of a delivery van is capital expenditure because it relates to a non-current asset.

3. A single supplier invoice includes: (i) office chairs, (ii) printer paper. State how you would record the invoice in the general ledger (name the accounts), assuming it is on credit.

4. Which of the following is most likely to be revenue expenditure?
   - A. Extending a building to create extra floor space
   - B. Replacing broken window glass after an accident
   - C. Legal fees to purchase a property
   - D. Delivery cost to bring a new machine to the premises

5. True or false? If you record capital expenditure as an expense, profit for the period will usually be lower than it should be.

## **Introduction**

In FA1, many marks come from choosing the correct ledger account when recording a transaction. A frequent source of errors is treating an asset purchase as an expense (or the other way round).

Capital and revenue expenditure affects _where_ a cost is reported: either as a non-current asset in the statement of financial position, or as an expense in the statement of profit or loss. Because profit feeds into the owner’s capital, classification also changes reported capital.

## Capital and revenue expenditure: the basic distinction

Capital and revenue expenditure are both “spending”, but they are recorded differently because they relate to different accounting elements (assets versus expenses).

> **Key Term: capital expenditure**
> Spending that creates a non-current asset or improves an existing non-current asset, giving benefits over more than one accounting period.
>
> **Key Term: revenue expenditure**
> Spending on day-to-day running costs, or on maintaining assets in their current condition, where the benefit is used up in the current accounting period.
>
> **Key Term: non-current asset**
> An asset bought for use in the business (not for resale) that is expected to help generate income for more than one accounting period.

Typical capital items include vehicles, machinery, computers and fixtures. Typical revenue items include rent, wages, electricity, repairs and stationery.

## Where each type is reported (and why it matters)

Capital expenditure is recorded as an asset first. It is then charged to profit over time through depreciation (if the asset is depreciated). Revenue expenditure is charged to profit immediately as an expense.

> **Key Term: expense**
> A cost that reduces profit for the period, recorded in the statement of profit or loss.
>
> **Key Term: depreciation**
> The periodic expense that spreads the cost of a non-current asset over its useful life.

### Effect on profit and capital

If you incorrectly record a capital item as an expense, profit is usually understated in the current period. Because profit increases owner’s capital, misstated profit leads to misstated capital.

A simple way to express the impact (ignoring tax) is:
$$\text{Capital at period end} = \text{Opening capital} + \text{Profit} - \text{Drawings} + \text{Capital introduced}$$

So if profit is wrong, closing capital is wrong too.

## How to classify spending in FA1 questions

Use these checks in order. They work well for invoice coding and double-entry questions.

### 1) What did the business obtain?

- **Something to use** in the business for years (eg a van, computer) ⟶ likely capital expenditure.
- **Goods for resale** (inventory) ⟶ not capital expenditure; record as purchases/inventory (part of trading).
- **A service consumed** (eg electricity, cleaning) ⟶ revenue expenditure (expense).

### 2) How long will the benefit last?

A common exam indicator is “benefit beyond the current accounting period”. If it will help operations for more than one year, it is often capital.

### 3) Is it maintenance or improvement?

Maintenance keeps an asset working as it already did. Improvement increases capacity, efficiency, useful life, or quality.

> **Key Term: repairs and maintenance**
> Costs that restore an asset to its previous condition or keep it operating, without improving it beyond its original standard.
>
> **Key Term: improvement**
> Spending that upgrades an asset beyond its original standard (for example, increasing capacity or extending useful life), usually treated as capital expenditure.

### 4) Does one invoice contain both types?

Invoices often include a mix (eg “new computer + installation + printer paper”). You should split the coding so each part goes to the correct account.

### 5) Is it business spending or drawings?

If the owner buys something for personal use and the business pays, it is not an expense of the business.

> **Key Term: drawings**
> Withdrawals by the owner for personal use (cash or other assets), recorded as a reduction of capital rather than as a business expense.

## Recording capital items and expenses in the ledgers

For FA1, you are usually expected to choose the correct accounts and apply standard double-entry rules.

### Typical double entries

- Buy equipment for cash: **Dr Non-current asset**, **Cr Bank**
- Buy equipment on credit: **Dr Non-current asset**, **Cr Payables**
- Pay an expense from bank: **Dr Expense**, **Cr Bank**
- Receive an expense invoice on credit: **Dr Expense**, **Cr Payables**

### **Worked Example 1.1**

A business receives a supplier invoice on credit for:

- Office desk: \$450
- Printer paper: \$30

Record the invoice in the general ledger (ignore sales tax).

> **Answer:**
>
> - Office desk is capital expenditure: **Dr Furniture and fittings (non-current asset) \$450**
> - Printer paper is revenue expenditure: **Dr Stationery expense \$30**
> - Total invoice is owed to the supplier: **Cr Payables \$480**

### **Worked Example 1.2**

A delivery van is taken to a garage. The garage invoice states:

- Annual service: \$220
- Upgraded suspension fitted to increase load capacity: \$900

State how each cost should be classified.

> **Answer:**
>
> - Annual service is **repairs and maintenance** (revenue expenditure) because it maintains the van’s condition: **expense**
> - Upgraded suspension increases the van’s capacity, so it is an **improvement** (capital expenditure): **non-current asset** (or added to the van’s cost)

### **Exam Warning**

A common FA1 error is assuming “anything related to an asset is capital”. Many costs linked to non-current assets (servicing, cleaning, minor repairs) are revenue expenditure because they do not upgrade the asset.

### **Revision Tip**

When you read an invoice description, underline words that signal capital (eg _purchase_, _new_, _installation_, _upgrade_, _extension_) versus revenue (eg _service_, _repair_, _cleaning_, _rent_, _insurance_). Then decide the ledger accounts before you think about debits and credits.

## **Key Point Checklist**

_This article has covered the following key knowledge points:_

- Capital expenditure creates or upgrades a non-current asset and is recorded on the statement of financial position.
- Revenue expenditure is charged as an expense in the statement of profit or loss.
- Misclassification changes profit and therefore affects owner’s capital.
- Repairs and maintenance normally keep an asset working and are usually revenue expenditure.
- Improvements usually increase capacity/useful life and are usually capital expenditure.
- Mixed invoices should be split between asset and expense accounts.
- Typical FA1 double entries differ for asset purchases versus expenses and for cash versus credit.

## **Key Terms and Concepts**

- capital expenditure
- revenue expenditure
- non-current asset
- expense
- depreciation
- repairs and maintenance
- improvement
- drawings


Capital and revenue expenditure basics - Identifying capital items vs expenses