This article provides a short note on deferred revenue expenditure.
Sometimes, it may happen that the business enterprise may incur revenue expenditure, but the amount is so heavy that the benefit of the same would last for numbers of years. In that case, such expenditure should be capitalized and treated as deferred revenue expenditure. Sometimes, heavy losses due to the Act of God such as earthquake or flood can also be treated as deferred revenue expenditure.
Recording the whole expenditure in the same accounting year in which that expenditure was spent would decrease the profits of that year heavily. It is prudent policy that the whole of such expenditure should be spread over the number of accounting years over which the benefit is likely to occur.
Also as per the matching concept, the whole expenditure should be apportioned over a number of accounting years and only that portion should be charged to revenue during current year which has facilitated the enterprise to earn revenues during the current year.
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Remaining balance should, however, be carried forward to the next year. The portion of such expenditure which has been treated as revenue shall be debited in the profit and loss account and the balance unutilized amount should be shown in the balance sheet on the assets side.
Case Study:
Mr. Atul spent Rs. 25,00,000 for advertising his new product through a leading T.V channel as per the terms of agreement with T.V channel, his product shall be advertised for the full one year from 1.4.2011 to 31.3.2011. In this connection an important point needs consideration.
Is it possible that immediately after 31.3.2011, the consumer who have seen the product for the whole year forget the product ? Certainly not, because the full year advertising must have left the impact on the minds of consumers in such a way that it will last for several years. So, in this case if we debit the whole amount of Rs. 25,00,000 in the current year’s Profit and Loss Account, it will reduce the profits of the enterprise by Rs. 25,00,000, despite the fact that the amount so incurred would help to generate sales in future years also.
Keeping in view the matching concept in mind it is prudent to apportion the whole expenditure in several years. On the basis of past experience of the entrepreneur and psychology of the consumers, the expected benefits of the advertisement are determined and hence expenditure apportioned accordingly.
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Example 1:
Heavy amount spent on advertisement in connection with launching of a new product in the market.
Example 2:
Amount spent on replacement of some important part of the newly purchased machine, damaged during transit, is an abnormal loss and should be treated as deferred revenue expenditure.
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Example 3:
Heavy loss due to earthquake or flood can also be treated as deferred revenue expenditure.
Example 4:
Demolition of an old building having book value of Rs. 18,000 for the purpose of renovation of new building. In this case, loss due to demolition of old building can be treated as deferred revenue expenditure.