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written by | March 8, 2022

Why is Maintaining Administrative Expenses Important?

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Administrative expenses are costs incurred by a company in the running of the organisation and do not include production or sales expenses. All overhead expenses incurred by an organisation are considered administrative costs. They do not pertain to any specific department or a distinct unit.

Key Takeaways of Administrative Expenses:

  1. Administrative expenses are charges that are incurred to keep a business running smoothly but are not directly tied to the production of a specific product or service.
  2. Administrative costs will always be incurred as a fundamental element of business operations.
  3. Because they have no direct impact on a company's key business tasks, administrative expenses are frequently among the first to be targeted for budget cuts.
  4. Administrative expenses may be allocated to business units based on a percentage of income, expenses, or other factors.

Understanding Administrative Expenses:

  • Salaries for senior management and prices for general services or supplies, such as legal, accounting, clerical work, and information technology, are examples of administrative expenses. These costs are frequently removed from gross margins since they are not directly tied to the production of goods or services by a company.
  • Administrative costs are incurred by businesses to perform basic operations (e.g., payroll or healthcare benefits administration), boost oversight and efficiency, and/or comply with laws and regulations. The administrative expenses given below are the cost of goods sold (COGS) on the income statement and may be combined with other expenses such as general or selling expenses.
  • Because they are incurred as part of the foundation of corporate operations, some administrative expenses are fixed in nature. These costs would be incurred regardless of the volume of output or sales. The rest of the administrative costs are semi-variable. A business, for example, will constantly use a certain amount of electricity to keep the lights on. It can then take steps to minimize its electric bill after that.

Also read: Know the Basics of Managerial Accounting

  • Administrative expenditures are often the first to be eliminated because they have no direct impact on the product or service that a company sells or creates. Management is highly driven to keep administrative costs low in comparison to other costs, as this helps a company to leverage its resources more efficiently. The sales-to-administrative expense ratio allows businesses to determine how much of their sales revenue is allocated to administrative costs.
  • Administrative expenses that are reasonable, ordinary, and required for business operations can be deducted on a company's tax return. These costs must be incurred in the ordinary course of business and deducted in the year in which they occur.         

Other Types of Administrative Expenses:

  • Administrative expenses include wages and benefits for specific employees, such as accounting and IT personnel. Administrative expenses include all executive salaries and benefits. Building leases, insurance, subscriptions, utilities, and office supplies are all examples of administrative expenses.
  • Depreciation expenses can be categorised as a general, administrative, or selling (marketing) expense, depending on the asset being depreciated. Consulting and legal fees may also be included as administrative expenses by organisations. Research and development (R&D) costs, on the other hand, are not considered administrative costs.
  • A corporation may distribute administrative expenses to each of its departments based on a proportion of revenue, expenses, square footage, or other variables to get a complete picture of the costs associated with running various business divisions. Internally, this enables management to make decisions concerning the expansion or contraction of specific business divisions.

Examples of administrative expenses: 

  1. All executive salaries and the additional benefits they are entitled to are financed by administrative expenses.
  2. Fees paid to independent contractors like lawyers and accountants.
  3. Office supplies like stationery, paper, office furniture, and office maintenance are also considered administrative expenses.
  4. Some of the other administrative expenses include recurring payments such as rent, utilities, professional memberships, maintenance fees, and service fees.
  5. All costs related to Information Technology (IT) services.

A practical example of Administrative expenses:

XYZ Company spends ₹ 4,000 per month on electricity and reports it as an administrative expense. It can apportion the cost based on the amount of space each department takes up. Assume

  • The production space is 2,000 square feet.
  • The manufacturing space is 1,500 square feet.
  • The accounting office has a square footage of 750 square feet.
  • The sales office has a square footage of 750 square feet.

The company has a 5,000-square-foot office. The following is an example of how the electric bill could be divided:

Production: ₹ 1,600 or (2,000 / 5,000) x ₹ 4,000

Manufacturing: ₹ 1,200 or (1,500 / 5,000) x ₹ 4,000 Accounting: ₹ 600 or (750 / 5,000) x ₹ 4,000

Sales: ₹ 600 or (750 / 5,000) x ₹ 4,000

Also read: 3 Golden Rules of Accounting, Explained with Best Examples

Why are administrative expenses important for every business?  

  • An office does not run on its own. Your teams require a high-functioning ambience in which they can work comfortably without having to worry about trivial issues.
  •  A good ambience aids in the recruitment of quality employees who tend to stay for long with the organisation. Small indulgences like comfortable seating, cheerful interiors add to the ambiance.
  • Urban culture involves company meetings, project evaluation activities, and office meetings which are now held in cafeterias and open spaces. Every penny spent on these tasks is accounted for in the administrative budget.

Accounting for administrative expenses:

Most administrative costs may appear insignificant in contrast to other costs. The next question is whether or not we should account for them. When you add them all up, they have the potential to have a big impact on your total business.

As a result, all such costs should be recorded and reported in the financial statement. These administrative expenses should be accounted for during the period in which they were incurred, not during the period in which they were paid.

Some of the most frequent administrative costs are listed below:

  1. Salaries: Salary covers pay for corporate employees such as management, finance, accounting, custodial, and information technology.
  2. Rent: Another important expense is providing office space for your employees. This is one of the reasons why some businesses have chosen to work remotely rather than in an office. Remote culture has become the new standard in light of the current pandemic.
  3. Food, Drinks, and other Refreshments: It's easier for employees to show up and do their best work when they're pleased and comfortable. These are the costs of providing refreshments to keep staff at their peak performance.
  4. Other perks to employees: Aside from food and beverages, benefits might include anything from a team supper at a restaurant for new employees to a monthly yoga class, an annual Christmas party, or a paid gym membership, among other things.
  5. Work-related technical supplies: These include a screen, keyboard, batteries, and a mouse, among other things. There could be some contingencies like furniture breakage, air-conditioning replacement among others which are also considered as administrative expenses.

Also read: What is Double Entry System of Accounting

Conclusion

This article helps you understand how organisations have to incur expenses for the proper maintenance of their commercial premises.  These expenses could range from large purchases like machinery to nominal purchases like stationery. One of the common misunderstandings, particularly among small organisations, is that only large expenses are risky. As a result, firms fail to keep track of little expenses. Companies need to have a detailed understanding of their total costs incurred. Smaller expenses, like a minor leak, can sink a large ship, and when added together, they can have a significant influence on your organisation. This makes it imperative for every organisation to pay heed to their administrative expenses. 

Follow Khatabook for the latest updates, news blogs, and articles related to micro, small and medium businesses (MSMEs), business tips, income tax, GST, salary, and accounting.

FAQs

Q: Are wages paid to workers considered an administrative expense?

Ans:

 No. Wages are paid on a daily basis to temporary workers. Salaries are paid to those individuals who are employed by the Organisation on a full-time basis.

Q: Are administrative expenses shown under Direct Expenses head or Indirect expenses head?

Ans:

Administrative expenses are shown under Indirect Expenses Head.

Q: Give three examples of administrative expenses

Ans:

Rent, Insurance and Office expenses are examples of administrative expenses.

Q: What are administrative expenses?

Ans:

Costs incurred by the company on activities other than manufacturing and production are known as administrative expenses.

Disclaimer :
The information, product and services provided on this website are provided on an “as is” and “as available” basis without any warranty or representation, express or implied. Khatabook Blogs are meant purely for educational discussion of financial products and services. Khatabook does not make a guarantee that the service will meet your requirements, or that it will be uninterrupted, timely and secure, and that errors, if any, will be corrected. The material and information contained herein is for general information purposes only. Consult a professional before relying on the information to make any legal, financial or business decisions. Use this information strictly at your own risk. Khatabook will not be liable for any false, inaccurate or incomplete information present on the website. Although every effort is made to ensure that the information contained in this website is updated, relevant and accurate, Khatabook makes no guarantees about the completeness, reliability, accuracy, suitability or availability with respect to the website or the information, product, services or related graphics contained on the website for any purpose. Khatabook will not be liable for the website being temporarily unavailable, due to any technical issues or otherwise, beyond its control and for any loss or damage suffered as a result of the use of or access to, or inability to use or access to this website whatsoever.
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Disclaimer :
The information, product and services provided on this website are provided on an “as is” and “as available” basis without any warranty or representation, express or implied. Khatabook Blogs are meant purely for educational discussion of financial products and services. Khatabook does not make a guarantee that the service will meet your requirements, or that it will be uninterrupted, timely and secure, and that errors, if any, will be corrected. The material and information contained herein is for general information purposes only. Consult a professional before relying on the information to make any legal, financial or business decisions. Use this information strictly at your own risk. Khatabook will not be liable for any false, inaccurate or incomplete information present on the website. Although every effort is made to ensure that the information contained in this website is updated, relevant and accurate, Khatabook makes no guarantees about the completeness, reliability, accuracy, suitability or availability with respect to the website or the information, product, services or related graphics contained on the website for any purpose. Khatabook will not be liable for the website being temporarily unavailable, due to any technical issues or otherwise, beyond its control and for any loss or damage suffered as a result of the use of or access to, or inability to use or access to this website whatsoever.