When an expense is recorded, it most obviously appears within a line item in the income statement. The income statement shows the financial results of a business for a designated period of time. An expense appears more indirectly in the balance sheet, where the retained earnings line item within the equity section of the balance sheet will always decline by the same amount as the expense.

In addition, either the asset side of the balance sheet will decline or the liabilities side will increase by the amount of the expense, thereby keeping the balance sheet in balance. Here are examples of where the changes may occur:

Assets. Cash declines if you paid the expense item in cash, or inventory declines if you wrote off some inventory.
Contra asset accounts. The accumulated depreciation contra account increases if you created a depreciation charge.
Liabilities. Accrued expenses increase if you created an expense accrual, or accounts payable increase if you recorded a supplier invoice that is not yet paid.

In short, expenses appear directly in the income statement and indirectly in the balance sheet. It is useful to always read both the income statement and the balance sheet of a company, so that the full effect of an expense can be seen.

Example

Hemlock Corporation pays $1,000 to rent a copier for one month. This has the following impact on its financial statements:

Income statement impact. The company’s rental expense line item increases by $1,000, which reduces its reported income for that period.
Balance sheet impact. If Hemlock pays for the rental in cash, then the cash line item on its balance sheet declines by $1,000. Or, if it has not yet paid the bill, then the accounts payable line item on its balance sheet increases by $1,000. In addition, the expense reduces the retained earnings line item in the equity section of the balance sheet.

In short, an expense can appear in an organization’s balance sheet in several places, depending on the circumstances.