Difference between Costs and Expense

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Difference between Cost and Expense

This article explains the Difference between Cost and Expense within business administration.

In all enterprises there are activities that reduce the equity: wages are paid, goods and raw materials are purchased, rents and taxes are paid, etc. In general, such activities would generally be called cost. In the commercial sector, in particular in accounting, however, one differentiates between expense and cost.

Expense

The definition of the Expense is quite simple: anything that reduces the financial capacity (equity) of a company is called an expense. Exception: Disbursements to shareholders, such as profit sharing, are not an expense.

Cost

So to this point, we know that everything that reduces equity is expense. The expense can also be cost under certain conditions at the same time.

In contrast to expense, cost is always linked to the company’s service provision. For example, when a steel mill purchases coal for steel production, this is a cost. The salary payments to the employees are also connected with the provision of services and are thus cost.

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If the company makes a donation, this has nothing to do with the production of steel. This edition is said to be operating. Thus the donation represents an expense but no cost.

In addition to the operation, there are two further criteria for cost. Cost are period-related. Period-related: the expense occurs within the period under review, for example within the financial year. If the reason for the expenditure is outside the period, it is not a cost. In practice, this is often tax payments to the tax office.

The last condition for cost: they must not be extraordinary. Extraordinary means that these impairments do not occur in the “normal case”. When a factory hall burns, the company is financially damaged and the equity decreases. As factory buildings do not burn off in the normal case, however, it is not a matter of cost.

Conclusion: Differentiate between cost and expense 

Note: All cost are expense, but not every effort is included.

Cost are only counted as cost if all three of the following conditions are met:

Operation: The effort must be linked to the operational performance purpose.

Periodicity: The expense must be incurred in the period considered.

Negligence: The effort must not be generated by unusual events, such as accidents and catastrophes.

If only one condition is not met, this is an expense, but not a cost.

Examples of Expense and Cost

The following examples illustrate the difference between cost and expense.

Example 1:  The company pays salaries = cost

Example 2: The company generates losses due to share speculation,

Example 3: The company must pay trade tax from the previous year = expense, as per-period terms

Example 4: A storm is damaging the company’s building since it is extraordinary

Example 5: New raw materials are purchased = cost

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