Accounting · Final Accounts of Sole Proprietors

Capital and Revenue Items (CA Foundation Accounting)

Updated 1 October 2026 · Fact-checked

Capital items give long-term benefit or change the fixed structure of the business, so they go to the Balance Sheet. Revenue items relate to the current year's operations, so they go to the Trading or Profit and Loss Account. Deferred revenue expenditure is revenue in nature but spread over several years.

Understand Capital and Revenue Items

Every rupee a business spends or earns is either capital or revenue in nature. This decides where it appears in the final accounts. A wrong classification changes profit and the Balance Sheet.

Capital expenditure buys or improves an asset that gives benefit for more than one year, or increases earning capacity. It is shown as an asset in the Balance Sheet. Examples: purchase of machinery, cost of land, legal fees paid to acquire property, carriage and installation of a new machine.

Revenue expenditure is spent to run the business for the current year or to maintain assets in working order. It is charged to the Trading or Profit and Loss Account. Examples: salaries, rent, repairs, depreciation, cost of goods sold, interest on loan.

Capital receipts come from owners or lenders, or from selling fixed assets. Examples: capital introduced, loan taken, sale proceeds of machinery. Revenue receipts come from normal operations. Examples: sales, commission earned, interest on investments, rent received. A capital receipt is not income, so it never goes to the P&L Account (a profit or loss on sale of a fixed asset is the part that does).

Deferred revenue expenditure is revenue in nature but its benefit lasts several years, for example a heavy advertising campaign for a new product. Only a part is charged to P&L each year. The unwritten balance is shown in the Balance Sheet until it is fully written off.

The same item can be capital or revenue depending on purpose. Buying a computer is capital for a shop that will use it, but revenue (stock-in-trade, a purchase) for a dealer who sells computers.

Key rules to remember

Test for capital expenditure: Benefit beyond one year OR asset acquired or improved OR earning capacity increased → Capital; Goes to the Balance Sheet. Ask: did I buy something lasting, or make it better or bigger?
Test for revenue expenditure: Benefit used up in the year OR maintains existing capacity → Revenue; Goes to the Trading or P&L Account. Repairs that only restore the asset are revenue.
Cost of a fixed asset: Cost of asset = Purchase price + freight + installation + trial run + legal fees to acquire; All costs needed to bring the asset to working condition are capitalised.
Deferred revenue expenditure: Annual write-off = Total expenditure ÷ number of years of benefit (when written off equally); Balance Sheet shows total less amounts written off so far.
Receipts rule: Capital receipt → Balance Sheet (loan, capital, sale of fixed asset); Revenue receipt → P&L (income from operations); Only the profit or loss on sale of an asset reaches the P&L, not the full proceeds.

How to solve Capital and Revenue Items questions

Use this method for any question that asks you to classify items or correct their treatment.

1Read each item and note the business type, because the same item can change nature with the business.
2Ask the purpose: was it spent to acquire or improve a long-term asset, or to run and maintain the business now?
3Apply the benefit test: does the benefit last beyond the current year, or increase earning capacity?
4Label the item capital, revenue or deferred revenue, and say whether it is expenditure or receipt.
5Name the statement it goes to: Balance Sheet, Trading Account, or P&L Account.
6Where an item is mixed (such as repairs on a new second-hand machine), split it into the capital part and the revenue part.
7If asked for corrected profit, adjust: add back wrongly expensed capital items and deduct wrongly capitalised revenue items, then adjust depreciation if needed.
8Give a one-line reason for each item. The reason earns the marks.

Quickest way: Three-question filter

When to use it: Use for table-type or list-type questions with many items and little time.

Question 1: Did I get an asset or make it better? If yes, capital expenditure.
Question 2: Is it a loan, owner's money or sale of a fixed asset? If yes, capital receipt.
Question 3: Is it a normal running cost or normal income? If yes, revenue.
If the amount is large and the benefit lasts years but is not an asset, mark deferred revenue.
Write in a table with columns: Item, Nature, Reason, Where shown. Keep each reason to a few words.

Common mistakes in Capital and Revenue Items

Treating all repairs as revenue.
Students memorise that repairs are revenue.
Fix: Repairs at purchase of a second-hand asset to make it usable, and major improvements, are capital. Only routine repairs are revenue.
Ignoring the type of business.
Students classify the item by name alone.
Fix: Check what the firm does. Furniture bought by a furniture dealer for resale is a purchase, which is revenue.
Showing sale proceeds of a fixed asset as income.
Money coming in feels like revenue.
Fix: Sale proceeds are a capital receipt. Only the profit or loss on sale goes to the P&L Account.
Leaving out freight, installation and legal costs from asset cost.
Students see them as expenses.
Fix: Costs required to bring the asset to working condition are capitalised.
Confusing deferred revenue expenditure with capital expenditure.
Both show a balance in the Balance Sheet.
Fix: Deferred revenue expenditure creates no physical asset and is written off over a few years. Capital expenditure creates an asset.
Treating interest paid on a loan as a capital item because the loan is capital.
Students link the interest to the loan.
Fix: Loan is a capital receipt, but interest on it is a revenue expense.

Worked examples

Example 1

Classify each item as capital or revenue expenditure, with reasons: (a) ₹50,000 paid for a new machine; (b) ₹4,000 freight and ₹6,000 installation on that machine; (c) ₹8,000 for routine repairs of an old machine; (d) ₹20,000 wages paid to own workers for building an extension to the factory.

Show the solution

(a) The machine will serve for many years, so it is capital expenditure.
(b) Freight and installation bring the machine to working condition, so they are capital and added to the cost.
(c) Routine repairs only maintain existing capacity and benefit this year, so they are revenue expenditure.
(d) Wages for building an extension create a long-term asset, so they are capital expenditure.

Answer: (a) Capital; (b) Capital, so the machine's cost is ₹50,000 + ₹4,000 + ₹6,000 = ₹60,000; (c) Revenue; (d) Capital.

Example 2

A firm's profit before adjustments is ₹1,80,000. It wrongly charged ₹25,000 for purchase of furniture to expenses and wrongly capitalised ₹10,000 of repairs to old machinery. Ignore depreciation. Find the correct profit.

Show the solution

Furniture purchase of ₹25,000 is capital, so it should not reduce profit. Add back ₹25,000.
Repairs of ₹10,000 on old machinery are revenue, so they should reduce profit. Deduct ₹10,000.
Correct profit = ₹1,80,000 + ₹25,000 − ₹10,000 = ₹1,95,000.
Furniture appears in the Balance Sheet at ₹25,000 and machinery is reduced by ₹10,000.

Answer: Correct profit is ₹1,95,000.

Exam tips

Always write a short reason beside each classification. A bare label may get no marks.
Watch for mixed items such as second-hand asset repairs, and split them.
In profit-correction questions, list each error with its effect (add or deduct) so partial marks are secured.
Remember that the nature depends on the business. Look for hints such as 'dealer in' or 'manufacturer'.
For deferred revenue expenditure, show the amount written off and the balance carried to the Balance Sheet.

Practice questions from Final Accounts of Sole Proprietors

Capital and Revenue Items: frequently asked questions

What is the main difference between capital and revenue expenditure?

Capital expenditure gives benefit for more than one year and creates or improves an asset. It goes to the Balance Sheet. Revenue expenditure is used up in the current year and goes to the Trading or P&L Account.

What is deferred revenue expenditure with an example?

It is revenue expenditure whose benefit is expected over several years, so it is written off in parts. A large advertising campaign for launching a new product is a common example. The unwritten amount is shown in the Balance Sheet.

Are capital receipts and revenue receipts treated the same way?

No. Capital receipts such as capital introduced, loans and sale of fixed assets go to the Balance Sheet. Revenue receipts such as sales and commission earned go to the P&L side of final accounts.

Is depreciation capital or revenue?

Depreciation is a revenue expense charged to the P&L Account. It is a charge on the asset's cost, but the asset's purchase itself is capital expenditure.