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What is an expense?

An expense is a cost that occurs as part of a company's operating activities during a specified accounting period. A retailer will likely incur the following expenses: the cost of goods sold, commissions earned by the sales staff, rent for the retail space, the cost of the electricity used, advertising that took place, wages and salaries that were incurred, etc.

Under the accrual method of accounting, an expense is reported on the income statement for the period when 1) the cost best matches the related revenues, 2) the cost is used up or expires, or 3) there is uncertainty or difficulty in measuring the future benefit.

For instance a retailer's income statement for the month of August should report the cost of the goods that were sold in August. (The date that the retailer had paid for the goods is not pertinent.) The commissions earned by the sales staff for having sold the goods in August is to be reported as an expense on the August income statement (even if the commissions are paid in September). The cost of the electricity used in August must also be included as an expense in the August income statement (even if the bill is received in September and is paid in October). These examples indicate that an expense can occur in an accounting period that is different from the period when the company pays for the item. Hence the word expense has a meaning that is different from payment.

Expenses are often divided into two major classifications: operating and nonoperating. Operating expenses involve a company's main activities. For example, a retailer's operating expenses include 1) the cost of goods sold, and 2) the selling, general and administrative (SG&A) expenses. The company may further sort these expenses by department, product line, and so on. A retailer's nonoperating expenses pertain to its incidental activities. A common nonoperating expense for a retailer is interest expense.