Difference Between Cost, Expense, Liabilities, Asset, Income and Equity

  

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Asset, equity, income, cost, expenses, and liability in this write-up will be viewed from a real estate investor's standpoint. They are interrelated and it will be good for investors to have a clearer understanding of these words.

An asset is a resource with economic value that an individual, corporation, or country owns or controls with the expectation that it will provide a future benefit. An asset can also be something you own containing economic value right now and/or future value. So, we can simply define an asset as anything of value that can be converted into cash. Assets are tangible and intangible. Tangible assets include current assets (cash, inventory, and accounts receivables) and fixed assets (Buildings, land, cars, and equipment). On the other hand, intangible assets include copyrights, trademarks, patents, etc. All investments are assets but not all assets are investments. An investment yields income or profit but not all asset yields income or profit.

Equity is what an investor will get back after the asset has been sold and all liabilities paid off. If a real estate investor decides to sell his house, the difference between the current market value and the pending mortgage is called the homeowner’s equity.

Income is money received, especially regularly for work carried out or through investments. In real estate, the money received by the landlord for renting out a property can be considered an income. This passive rental income is received monthly or annually. Real estate income can bring a lot of cash flow to the landlord who is not paying a mortgage.

Cost and expenses are often used interchangeably by many people. In real estate expenses come to the investor in different forms such as a mortgage, insurance, repairs, maintenance, etc. Expense is the amount paid regularly to keep the business going. Types of expenses include variable, fixed, intermittent, and discretionary expenses. While cost is an amount paid to acquire an asset. Cost is an amount that has to be paid or spent to buy or obtain something. Cost is usually a one-time payment. The two types of cost are fixed and variable costs. The money paid to acquire a building or land is a fixed cost. Additionally, depreciation on construction equipment, tools rentals, safety equipment, licensing fees, etc. are examples of fixed costs.  Variable cost is money paid as disposal fees and environmental remediation costs for a construction site that demolished existing structures.

So as a real estate investor, you will have to deal with variable expenses that change monthly. This includes raw materials, piece-rate labor, commissions, delivery cost, etc. Fixed expenses are those payments that remain the same from month to month such as mortgages, property manager fees, etc. The intermittent expenses occur at various times throughout the year such as property maintenance expenses. Discretionary expenses are usually non-essential spending for things that are not important. For example, installing expensive lighting or plumbing fixtures in a house may not necessarily change the rental rates. Real estate investors need to track their spending because this has a significant effect on the budget of the building during construction or as a rental.

 Unlike expense which is paid regularly, liabilities is something the business owes now or in the future. So, we can say that delaying payments would make an expense a liability. Examples of liabilities include taxes, mortgages, loans, accrued expenses, etc. Current and noncurrent (long term) are the two types of liabilities. The formal is expected to be paid off in less than 12 months, while the latter is expected to be paid off in 12 months or more.   For a real estate investment to be profitable, liabilities should be less than the current asset value and equity should be higher than the capital invested after adjustment for inflation(Equity= asset – liabilities).

So we pay a cost for an asset that puts money in our pocket as income from rentals and liabilities remove money from our pocket as expenses not yet paid. These words help investors to better plan their business both in the short and long term to ascertain profitability.

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