Preliminary expenses

Preliminary expenses are related to creating new company and before starting business operations. Preliminary expenses cannot be put on normal accounts, but they have to be accounted. Therefore, they are accounted as fictitious assets. Such assets are written off as soon as possible, when the company earns first earnings. Preliminary assets can be found on assets side of balance sheet.

In some accounting policies preliminary expenses are accounted in Reserves & Surplus as negative balance and written of gradually. In other policies (old approach) they are shown as Miscellaneous Expenditures.

Example preliminary expenses are:

• legal costs,
• professional fees,
• stamp duty,
• printing fees.

Profesonal fees

It is a remuneration for work performed irregularly or once, usually in free professions. It includes:

1. remuneration transferred to the author or artist of the performer for using the work or performing it through the entities paying the fee,
2. remuneration paid to authors or performers paid by organizations for the collective management of copyright or related rights,
3. remuneration for scientific and research and development works, being a part of creative activity, implemented by employees of scientific units and research and development units.

Stamp duty

Stamp duty is the remuneration for the activities of public administration bodies, taken in individual cases. These activities include performing official activities, issuing certificates, permits and certain documents.

The obligation to pay stamp duty arises as soon as:

1. submit an application for a certificate or permit,
2. filing an application or submitting an application for official action,
3. upon submission of a document to the public administration body, court or body performing tasks in the field of public administration that is not a government or local government administration authority.

Payment methods :

1. by applying the paper on the stamp paper,
2. cash in the office,
3. cashless transfer to the account of the competent office,
4. by stamping the application with stamp duty stamps.

Examples of Preliminary expenses

• Legal Costs: Legal costs are incurred when starting a business. This includes setting up a business entity, registering the business, obtaining licenses, obtaining permits, and other legal services.
• Accounting Fees: Accounting fees are incurred when setting up the financial systems of a business. This includes setting up accounting software, preparing financial statements, and registering with the appropriate government agencies.
• Advertising Costs: Advertising costs are incurred when launching a new business. This includes creating marketing materials, setting up a website, and running advertisements.
• Equipment Costs: Equipment costs are incurred when purchasing equipment for the business. This includes office furniture, computers, and other necessary equipment.
• Office Supplies: Office supplies are necessary for running a business. This includes items such as paper, pens, paper clips, and other necessary office supplies.

Advantages of Preliminary expenses

Preliminary expenses provide a number of advantages to companies, including:

• The ability to create a well-structured business plan and budget, which can be used to make sound business decisions. This helps ensure that the company is well prepared to launch and sustain its operations.
• The ability to accurately track and monitor the progress of a company’s launch and initial operations. This enables business owners to make informed decisions regarding the success of the venture.
• The ability to use initial capital more efficiently. Through preliminary expenses, companies can avoid wasteful spending and focus their resources on the most critical areas.
• The ability to build strong relationships with lenders and investors. By showing that the company is committed to careful budgeting and planning, businesses can increase their chances of securing the necessary capital for growth.

Limitations of Preliminary expenses

Preliminary expenses have several limitations:

• Firstly, they are not considered a normal part of the business, and they are considered as non-operating expenses. This means that they are not included in the operating income and expenses reports.
• Secondly, they are not tax deductible. As they are considered non-operating expenses, they cannot be used to reduce the taxable income of the business.
• Thirdly, they cannot be capitalized. This means that they cannot be spread out over time and added to the balance sheet as an asset.
• Fourthly, the amount of the preliminary expenses cannot be determined accurately. This is because the exact amount depends on many factors, such as the size of the business and the complexity of the project.
• Finally, since these expenses are not considered operating expenses, they do not generate income for the business. This means that the business will not be able to recoup the money spent on the preliminary expenses.

Other approaches related to Preliminary expenses

Preliminary expenses can be accounted using different approaches. These include:

• Capitalizing the expenses: This approach involves recording the expenses as assets on the balance sheet. These assets are then amortized over a period of time as the expenses are used up in the business operations.
• Expensing the expenses: This approach involves recording the expenses as expenses on the income statement. This method is used when the expenses are not expected to provide any benefits in the future.
• Offsetting the expenses: This approach involves offsetting the expenses against the revenues earned from the business operations. This method is used when the expenses are expected to provide benefits in the future.

In summary, preliminary expenses can be accounted for in different ways, depending on the expected future benefits. Depending on the type of expenses, the business can choose to capitalize, expense or offset the expenses.

Preliminary expenses — recommended articles

Fictitious asset — Organizational costs — Working interests — Disposal of fixed assets — Revenue reserve — Cash control — Fiscal Agent — Financial resources — Output tax

References

• Ashbaugh, H., & Pincus, M. (2001). Domestic accounting standards, international accounting standards, and the predictability of earningsJournal of accounting research, 39(3), 417-434.
• Stephen J. Lubben. Corporate Reorganization & Professional Fees, 77-137.
• Steve Bond, Mike Hawkins, Alexander Klemm. (June 2004) Stamp Duty on Shares and its Efect on Share Prices The Institute for Fiscal Studies.
• Victoria Saporta, Kamhon Kan. (1997). The efects of stamp duty on the level and volatility of UK equity pricesJournal of Economic Literature Classification Numbers G12, G13, D82.

Footnotes

Author: Magdalena Pawłowska