Capital expenditures are moneys spent by business to buy or improve assets, such as a car, an office computer or real estate. Capital expenditures are always negative — a liability — in the accounting books because they're a business expense the IRS won't let you deduct from your taxes. Instead, you have to recover the expense through time.
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A capital expenditure, often shortened to "capex", is a negative value against income or revenue because it is money leaving your company.
Capital expenditures are negative because they are amounts that are being subtracted from your balance sheet, or represent a negative capital expenditure on cash flow statements. Sometimes called capital outlays, capital expenditures are used to purchase assets that will serve your business for longer than one year. The money can also be spent to improve an existing asset and extend its usable life. Expanding an office complex, upgrading factory equipment or installing wireless internet in a rental property could all qualify. Money spent on repairs and maintenance is not a capital expenditure and can be written off as a business expense the year it's paid out.
Capital expenditures represent an investment in the business; a company that doesn't buy new equipment or upgrade its old technology risks falling behind the competition. If a company isn't devoting much money to capital expenditure, that can be a sign growth has slowed or the market is tapped out, so it doesn't see any advantage to upgrading. On the other hand, a company that overspends on new equipment may not improve efficiency enough to compensate for the expenditure.
It's not always easy to tell the difference between improvements, which are capital expenditures, and repairs or maintenance, the IRS states. Generally, improvements add to the value of the asset, extend the lifespan or adapt it for a different use. If you spend money to keep your business equipment usable, for example, that's a deductible repair expense; if you overhaul it to the point you can keep it running five years longer than normal, that's a capital expenditure.
To recover a capital expenditure, you'll usually have to claim a loss for depreciation or amortization. Depreciation and amortization both allow you to claim some of the value of the asset as a deduction each year, based on the wear and tear from use. Eventually the asset will depreciate all its value and you'll no longer be able to claim anything — but at that point, depreciation should have wiped out the original expenditure.
The straight line method of depreciation is the simplest and most commonly used method for depreciating capital assets. Under this method, for example, if a piece of machinery you bought for $50,000 has a useful life of five years, then you could depreciate $10,000 each year for its useful life. If the same machinery could be sold for $10,000 at the end of its useful life, then you would depreciate $40,000 over five years ($50,000 - $10,000), or $8,000 per year.
