Most of the time the difference between the terms Cost and Expense is ignored and are used interchangeably. However, the difference is significant from accounting perspective and being an accountant it is good if we keep these two terms separate to cause lesser confusion and clearer communication of financial information.
Cost can be defined as the monetary value of the utility (or benefit) which is yet to be derived from the resources used by the business to earn income.
In simple words it is the benefit that we are expecting to have in future from the asset(s) by using such asset(s) for business purposes or by selling such asset in an arms length transaction.
Expense can be defined as the monetary value of the utility that has already expired because of the use of the resources in business activities directed towards generating income.
In simple words it is the monetary amount of the benefit used up in the asset(s). So, basically it is the consideration that we have paid in generating income.
Some students might still be confused about the relationship of cost and expense. Let’s understand it with an example.
A company bought one latest piece of machinery worth 100,000. It is expected that it will be useful for next five years and will be used to process raw material into finished goods.
The value of asset in example is 100,000 which is basically monetary representation of the total utility it has i.e. we have counted the total benefit it can provide us in money form and this is the total amount of benefits which we are expecting to recover over next five years. Now, if we use this asset then each year 20,000 (100,000 / 5) worth of utility will expire and at the end of the first year of its use we will left with only 80,000 of the total utility in the asset.
So, basically Expense is the amount of cost which has expired and Cost is the amount of expense which has not yet expired.
Due to same reason we will report only 80,000 in the Statement of Financial Position (Balance sheet) as this is the benefit in the asset which we are left with for next four years. And 20,000 will be transferred to Income Statement as an expense to be set off against the revenues generated by the organization to calculate actual income earned.
From the above discussion we can understand how important it is to make cost versus expense comparison as costs are reported in SoFP as the value of assets whereas expenses are reported in the Income Statement. And we understood that these terms do have their accounting implications and differences in accounting treatments.