As a company owner, you must keep an eye on your expenses, so they don’t get out of hand. The costs for running a business are called expenses. Expenses in accounting refer to all costs required to keep your business operational and generate profit. It can either be monetary or non-monetary such as time, resources or effort required. For example, You pay an employee their salary, which is a significant part of your expense. You must also pay for all the supplies needed to keep your business running. These expenses are tracked and reported on your company’s income statement as a cost of doing business.
Types of Expenses
Expenses in accounting are classified into three main categories: fixed, variable, and semi-variable.
1. Fixed expenses
Expenses that do not change with an increase or decrease in the level of business activity are considered fixed. For example, a lease contract for using your office space. It remains unchanged regardless of how much business you transact. These expenses are not affected by your sales volume increase or decrease. Fixed expenses usually remain constant over time and can be budgeted based on historical data on previous years’ performance.
2. Variable expenses
Expenses that vary with production and sales volumes are considered variable expenses. You must decide how much to spend on each expense and how to allocate it to different production units in your business. Each expense should be allocated based on what is necessary and effective for achieving your goals. For example: If a certain quantity of raw materials is needed for producing your product and the price of the raw material increases, you will have to spend more on it. In this case, you adjust your expenses on that specific raw material.
If you’re not tracking your expenses regularly, it can be easy to overestimate your variable costs by a significant amount. To avoid this, you need to set aside the money for variable expenses at the start of each year and then use that budgeted figure to calculate your actual variable costs. You should also track your expectations for each fixed and variable cost so that you can plan accordingly if you overestimate or underestimate a particular cost.
3. Semi-variable expenses
Expenses in accounting are considered semi-variable when they have identifiable causes but cannot be attributed to production activity. In these cases, you may have existing expenses that you incurred from past periods of low activity and would not be able to measure accurately as a variable expense. You may decide to classify these expenses as semi-variable, where you track them until they are brought into your business operations by an increase in either production volume or sales.
Why Do We Need Expenses in Accounting?
To measure and communicate how well the company performed, we need to know how much money was earned as profit and how much it cost to earn that profit. The expense is an important factor because it contributes directly to the operating costs of a business. As a result, the management of money outlays and in-flows can influence a company’s profitability.
Keeping track of expenses is crucial for your business because when you pay for raw materials and other expenses, you are actually spending money away from your business. Thus, if you don’t have an accurate record of your expenses, it is easy to lose track and make costly mistakes that eventually dent your profit.