Cost vs Expense

Difference Between Cost and Expense

The key difference between Cost and Expense is that cost refers to the amount spent by the business organization for the purpose of acquiring an asset or for creation of the assets, whereas, the expense refers to the amount spent by the business organization for the ongoing operations of the business in order to ensure the generation of the revenue.

In the financial domain, the measurement of success of a business base on the negotiation of price and the cost incurred. In this article, we will discuss cost vs. expenses. We use these very often as interchangeably in the business discussion. Still, these two words have different meanings and applications in business, and this article intends to put forward that difference.

What is Cost?

We can define it as an amount paid or spent to acquire an asset (fixed asset) or paid towards the creation of an asset (prepaid expense). It is usually a one-time payment that we capitalize it and reflect as a balance sheetBalance SheetA balance sheet is one of the financial statements of a company that presents the shareholders' equity, liabilities, and assets of the company at a specific point in time. It is based on the accounting equation that states that the sum of the total liabilities and the owner's capital equals the total assets of the company.read more item. Investment in the purchase of such assets, which is a requirement for the continuance of the business, will give future benefits.

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Source: Cost vs Expense (wallstreetmojo.com)

What is the Expense?

The expense can be defined as an amount paid or spent regularly towards ongoing business operationsBusiness OperationsBusiness operations refer to all those activities that the employees undertake within an organizational setup daily to produce goods and services for accomplishing the company's goals like profit generation.read more to ensure revenue generation. It is spent annually and is reflected in the profit and loss statement and, as such, impacts profitability. Also, the balance sheet cost is accounted as an expense in the profit and loss accountProfit And Loss AccountThe Profit & Loss account, also known as the Income statement, is a financial statement that summarizes an organization's revenue and costs incurred during the financial period and is indicative of the company's financial performance by showing whether the company made a profit or incurred losses during that period.read more guided by the matching principle, i.e., the expense should be recognized proportionately during the same period when it is utilized for revenue generation.

One of the examples is the purchase of plant and machinery for USD 1000. It is capitalized and is accounted for as a fixed assetFixed AssetFixed assets are assets that are held for the long term and are not expected to be converted into cash in a short period of time. Plant and machinery, land and buildings, furniture, computers, copyright, and vehicles are all examples.read more in the balance sheet. Now, let us consider that the depreciation of a fixed asset is over the next 10 years on a straight-line basis. Consequently, the depreciation expense would be USD 100 annually, and this depreciation is an example of expense.

Another example is the pre-payment of rent of USD 600 for the next 10 years, and we account for this in the balance sheet as a prepaid expensePrepaid ExpensePrepaid expenses are expenses for which the company paid in advance in an accounting period but which were not used in the same accounting period and have yet to be recorded in the company's books of accounts.read more. Now, the prepaid expense is to be spread out across 10 years at USD 60 annually as rent expense, and this is another example of expense.

Cost vs. Expense Infographics

Let’s see the top differences between cost vs. expense.

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Key Differences

The key differences are as follows –

• Cost is an investment towards the purchase of assets for the future benefits of the business. At the same time, the expense is on the ongoing business for revenue generation.
• Cost is a one-time payment in nature, while expense is a regular payment.
• The balance sheet usually reflects Cost, while expense forms part of the profit and loss statement.
• A cost is recognized as an expense in the profit and loss statement as per the matching principleMatching PrincipleThe Matching Principle of Accounting provides accounting guidance, stating that all expenses should be recognized in the income statement of the period in which the revenue related to that expense is earned. This means that, regardless of when the actual transaction is made, the expenses that are entered into the debit side of the accounts should have a corresponding credit entry in the same period.read more. However, we can never recognize an expense as a cost.

Cost vs. Expense Comparison Table

Basis for Comparison	Cost	Expense
Meaning	An investment made towards the purchase of assets intended for future benefits in business.	A regular payment made towards ongoing business for revenue generation
Financial Statement	Reflected on the asset side of the balance sheet	Reflected on the profit and loss statement
Purpose	Purchase of asset	Payment necessary to earn revenue
Effect on Profitability	Doesn’t impact the profitability of the company directly	Directly impacts the profitability of the company.
Current Ratio	The cost incurred towards current assetsCurrent AssetsCurrent assets refer to those short-term assets which can be efficiently utilized for business operations, sold for immediate cash or liquidated within a year. It comprises inventory, cash, cash equivalents, marketable securities, accounts receivable, etc.read moreCurrent assets refer to those short-term assets which can be efficiently utilized for business operations, sold for immediate cash or liquidated within a year. It comprises inventory, cash, cash equivalents, marketable securities, accounts receivable, etc.read moreCurrent assets refer to those short-term assets which can be efficiently utilized for business operations, sold for immediate cash or liquidated within a year. It comprises inventory, cash, cash equivalents, marketable securities, accounts receivable, etc.read more impact the current ratio.	No impact
Capital Structure	The cost incurred towards non-current assetsNon-current AssetsNon-current assets are long-term assets bought to use in the business, and their benefits are likely to accrue for many years. These Assets reveal information about the company's investing activities and can be tangible or intangible. Examples include property, plant, equipment, land & building, bonds and stocks, patents, trademark.read more impact capital structure.	No impact
Example	Fixed assets, prepaid expensePrepaid ExpensePrepaid expense examples will provide an idea of the various payments made by the company in advance for those goods or services which will be procured in future. Some of these include prepaid rent, advance salary and prepaid insurance.read morePrepaid expense examples will provide an idea of the various payments made by the company in advance for those goods or services which will be procured in future. Some of these include prepaid rent, advance salary and prepaid insurance.read morePrepaid expense examples will provide an idea of the various payments made by the company in advance for those goods or services which will be procured in future. Some of these include prepaid rent, advance salary and prepaid insurance.read more, inventory, etc.;	Depreciation, interest expenseInterest ExpenseInterest expense is the amount of interest payable on any borrowings, such as loans, bonds, or other lines of credit, and the costs associated with it are shown on the income statement as interest expense.read more, raw material expense, etc.;

Conclusion

The bottom line is that to distinctively and correctly differentiate between cost and expense; one must understand the purpose and accounting treatment. I hope this article helps to avoid the interchangeable use of the two terms in the future.

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