What Are Operating Expenses? Your Guide to Understanding Business Costs

Operating expenses (OpEx) are the costs businesses incur to support their day-to-day operations. This article will take a closer look at operating expenses, including common types and examples, and comparisons with other similar terms in bookkeeping.

What is an Operating Expense?

Operating expenses are the costs a business incurs to support its day-to-day tasks (known as operating activities). Common operating expenses include payroll, rent, utilities, sales and marketing costs, and insurance.

All expenses incurred through operating activities count as operating expenses. In contrast, some activities incur expenses but are not classified as operating activities. These activities are called financing activities and investing activities.

• Financing activities are tasks related to securing or repaying debt to third parties. Examples include borrowing money, repaying debt, issuing shares to investors, paying dividends, and buying back shares.
• Investing activities are tasks related to the purchase and sale of long-term assets, such as property, equipment, buildings, and vehicles. Costs related to investing activities are classified as capital expenditures.

Most tax authorities, including the IRS and the CRA, recognize operating expenses as tax deductible, on the condition that these expenses are necessary to the business and accepted within its specific industry. Operating expenses thus have the power to reduce taxable income.

By keeping track of your operating expenses, you’ll get a clearer picture of what it really costs to run your business. This insight can help you find ways to reduce costs and boost profitability.

Examples of Operating Expenses

The specific operating expenses a business incurs will depend on its core functions and operating activities. However, most businesses can expect their operating expenses to fall under one or more of the following categories:

Compensation

Compensation expenses refer to the cost of reimbursing workers, including employees, contractors, and interns, for their labor. Common examples of compensation expenses include salaries, commissions, bonuses, benefits packages, retirement plans, and payroll processing fees.

Sales and Marketing

Sales and marketing expenses are the costs of promoting and distributing a product or service. These include advertising spend, promotional material costs, website maintenance fees, sponsorship fees, and social media operating fees. Sales and marketing expenses can also include the cost of advertising to shareholders and investors, such as networking and event fees.

Research and Development

Research and development expenses cover the cost of developing or enhancing products, services, or processes. Examples include the cost of materials, labor, testing, supplies, and equipment.

Administrative

Administrative expenses include the costs of non-revenue-generating business management activities. Common examples of administrative expenses include insurance, legal fees, accounting fees, training and recruitment, software subscription fees, licensing fees, and membership dues.

Rent, Utilities, and Maintenance

Rent, utilities, and maintenance expenses count for the upkeep of a physical workspace. This includes payments for office or facility leases, electricity, water, internet, building repairs, janitorial services, and other related operating costs necessary to keep the premises functional and safe.

Office or Workspace-related Expenses

Office expenses are all regular costs related to making a physical space conducive to operating activities. Typical office expenses include supplies and inventory, such as pens, paper, printer ink, and file folders.

Travel

Travel expenses account for the cost of transporting people or objects from one location to another. These expenses include gas, shipping fees, and commute fees.

Depreciation and Amortization

Depreciation and amortization expenses account for expected losses in the value of assets over time. Depreciation expenses cover the wear and tear of tangible assets, such as equipment, machinery, vehicles, and buildings. Meanwhile, amortization expenses represent the gradual loss of value in intangible assets like copyrights and trademarks.

Do bank fees count as an operating expense?

Most bank fees, such as monthly maintenance fees, transfer fees, ATM fees, check processing fees, and paper statement fees, count as operating expenses because they are costs the business expects to incur. Bookkeepers typically classify these fees as administrative expenses because they fund general business management activities.

However, there are a few types of bank fees that count as non-operating expenses. These fees typically come from loan and investment products. Examples include:

• Loan origination fees: Bookkeepers recognize loan origination fees as part of the cost of securing financing, which makes it a financial expense rather than an operating one. Double-entry bookkeeping practices record them as credits to cash accounts (or whatever account was used to pay), and debits to deferred loan cost accounts (which are assets).
• Interest charges on loans and overdrafts: Bookkeepers count interest as non-operating expenses because they are unrelated to core business operations. They are costs associated with financing activities, not operating activities.
• Fees on investment accounts: Like interest expenses, fees on investment accounts are unrelated to core business operations. They are costs associated with investing activities, not operating activities.

Operating Expenses in Bookkeeping

Bookkeepers record operating expenses as expense accounts in journal entries. As expense accounts, they carry natural debit balances and thus increase with debits and decrease with credits.

Operating expenses appear on two types of financial statements: the income statement (also known as the profit and loss statement) and the cash flow statement.

• The income statement calculates total operating expenses to show the cost of running the business during a specific accounting period. It then subtracts these expenses from revenue to determine the operating profit or net income.
• The cash flow statement reports operating expenses within the operating activities section. It helps bookkeepers and stakeholders understand how much cash the business generates and spends through its core operating activities, providing insight into the company’s operating cash flow.

Fixed Costs vs Variable Costs

Bookkeepers also categorize operating expenses based on their expected level of flexibility in relation to production volume. Each category has a different impact on profitability.

Fixed Costs

Fixed operating costs refer to costs that remain constant regardless of production volume. Some common examples of fixed costs include:

• Rent and lease payments
• Flat salaries
• Insurance premiums
• Property taxes
• Licensing fees
• Software subscriptions
• Depreciation

Because fixed costs don’t change with sales volume, they dictate the business’ break even point. The higher your fixed costs, the more you need to sell to break even.

Variable Costs

Variable operating costs are expenses that increase or decrease directly with production volume. The more you plan to sell, the more you spend on production. Some common examples include:

• Hourly wages
• Commissions
• Packaging costs
• Shipping and delivery costs

Because variable costs fluctuate with sales, having high variable costs is less risky than having high fixed costs. You can scale production according to demand to avoid major losses.

Semi-Variable Costs

Semi-variable operating costs, also known as mixed costs, are expenses that include both fixed and variable components. They begin at a fixed base amount and increase as production volume increases. Examples of semi-variable costs include:

• Salaries with bonuses or commissions
• Utilities
• Telephone and internet bills
• Equipment maintenance costs
• Vehicle expenses

Semi-variable costs are partly fixed and partly variable. Since their variable components are less directly tied to production than purely variable costs, they can complicate cost planning. Businesses need to budget for the fixed portions carefully and monitor the factors driving cost increases to prevent unexpected profit declines.

Operating Expenses vs Non-Operating Expenses

If an operating expense is any cost incurred from day-to-day business activities, a non-operating expense is a cost incurred from activities outside core business operations. Common examples of non-operating expenses include:

• Interest expenses
• Losses on asset sales
• Foreign exchange losses
• Lawsuit settlements
• Restructuring costs
• Disaster-related costs

Non-operating expenses are typically one-time or irregular costs arising from secondary activities. While necessary and sometimes unavoidable, they contribute no funding to core business functions.

Bookkeepers distinguish operating expenses from non-operating expenses to understand the true cost of running a business. For example, increased spending on hiring staff reflects core operational growth. If profit declines, the business may view the increased payroll as a contributing factor.

In contrast, losses from recovering after a disaster are non-operating and don’t represent the usual cost of daily operations. While these losses will inevitably decrease profits, the business can’t use them to evaluate overall profitability.

Operating Expenses vs. Capital Expenditures

Capital expenditures (CapEx) are funds a business spends on investing activities, such as acquiring, upgrading, or maintaining long-term assets. These assets can be tangible, such as property, buildings, and equipment, or intangible, like copyrights, trademarks, and patents.

Bookkeepers separate operating expenses and capital expenditures because they represent two different types of spending. Operating expenses pay for day-to-day business operations, while capital expenditures pay for investments in future growth.

Like non-operating expenses, bookkeepers separate operating expenses from capital expenditures to provide a clearer view of profitability. For example, a business investing heavily in property may appear unprofitable on paper, even though it’s funding future growth.

Bottom Line

Understanding operating expenses is essential for any business aiming to maintain financial health and maximize profitability. Monitoring operating expenses reveals the true cost of doing business, empowering companies to make informed decisions that drive profitability, operational efficiency, and sustainable growth.

FAQs

Do operating expenses need to impact production?

Not all operating expenses are directly related to the production of goods or services. They fund all costs related to day-to-day business operations. This includes marketing, research and development, administrative costs, rent, utilities, workspace-related costs, travel, and depreciation and amortization.

Why do depreciation and amortization count as operating expenses?

Depreciation and amortization are considered operating expenses because they reflect regular, expected costs of doing business. They represent the gradual loss in value of owned assets over time. In contrast, non-operating expenses (such as legal settlements, disaster-related losses, or losses on asset sales) are unusual, one-time events that don’t reflect the business’s normal operations. Meanwhile, depreciation and amortization are anticipated and systematically accounted for, giving a clearer picture of the true cost of running the business.

Is salary an operating expense?

Salaries and other forms of compensation are classified as operating expenses and can be fixed, variable, or semi-variable depending on their structure. Fixed salaries are considered fixed operating costs because they remain constant regardless of production or sales levels. Hourly wages and commissions are variable because they fluctuate depending on hours or projects worked. Meanwhile, salaries with bonuses or commissions are semi-variable because they have a base expectation that increases according to performance.

Is VAT an operating expense?

The value-added tax (VAT) a business pays on purchases can count as an operating expense if the business is not VAT-registered. This is because VAT is a cost the business expects to incur through its day-to-day operations. However, VAT-registered businesses are allowed to reclaim VAT from tax authorities. Because the money returns to the business, it does not count as an operating expense.