Utilities expense is the cost of electricity, natural gas, heating oil, water, sewer and similar services that a business uses during an accounting period. It is reported on the income statement among operating expenses. Many businesses include telephone and internet service in the same account, while others keep a separate account for communications.
Under accrual accounting, the expense belongs to the period in which the utilities are consumed, not the period in which the bill is paid. Because bills usually arrive weeks after the usage they cover, a business closing its books often has to estimate and record utilities it has used but not yet been billed for. In a factory, utilities used in production are part of manufacturing overhead and become part of the cost of inventory, while utilities for offices and showrooms are a period cost.
Utilities expense in plain terms
At home, the lights and heating used in December are paid for when the bill arrives in January. The cost really belongs to December, because that is when the electricity was used, even though the money leaves the account later.
A business keeps its books on the same logic. When it adds up how much it cost to run the business in December, it includes December's power, gas and water, whether or not the bills have arrived. If it waited for the bills, December would look cheaper than it really was and January would look more expensive, which would make the monthly results harder to compare.
Recording utilities expense
Suppose a company's electricity meter is read on the 10th of each month. On January 15 it receives a $3,100 bill for the 31 days from December 10 to January 9, or $100 a day. Twenty-two of those days fall in December, so $2,200 belongs to that month.
On December 31 the company records one of its adjusting entries: a debit to Utilities Expense of $2,200 and a credit to Utilities Payable, an accrued liability, of $2,200. When the bill arrives on January 15, it debits Utilities Payable $2,200 and Utilities Expense $900 for the nine January days, and credits Accounts Payable $3,100. Debits and credits each total $3,100, and each month carries its own share of the cost.
Utility companies often require a new business customer to pay a security deposit. That deposit is an asset, recorded as a receivable or other asset, not an expense, because it is normally refunded or applied to a later bill.
Where utilities expense is classified
- Offices and administration. Utilities for head office and back-office space are included in selling, general and administrative expenses.
- Factories. Power for machines and heating for production floors are manufacturing overhead, applied to products and expensed through cost of goods sold when the goods are sold. They are part of product cost.
- Retail stores. Lighting, heating and cooling of a shop are often reported as selling expenses.
- Nonprofits. Utilities are split among programs, management and fundraising under functional expense classification.
- Rental property. A landlord that pays tenants' utilities records them as operating expenses of the property and recovers them through rent or separate charges.
Utilities as a cost to manage
Utilities are usually a mixed cost. A typical commercial bill combines a fixed monthly service charge with a usage charge per kilowatt-hour, therm or gallon, and larger customers may also pay a demand charge based on their peak usage. Cost accountants often separate the fixed and variable parts, for example with the high-low method, so that budgets flex with activity. Rates vary widely by region and season. Businesses manage the cost through energy audits, efficient equipment, shifting heavy use to off-peak hours and, where markets allow, buying power from competing suppliers.
Tax treatment
For federal income tax, utilities used in a trade or business are generally deductible as ordinary and necessary business expenses in the year paid or incurred, depending on the taxpayer's accounting method. Utilities that are part of producing inventory are capitalized into inventory cost under the uniform capitalization rules for taxpayers subject to them. A self-employed person who uses part of a home regularly and exclusively for business may deduct a business-use share of household utilities under the regular home office method. Under the simplified method of $5 per square foot for up to 300 square feet, no separate deduction for utilities is allowed.