Companies incur expenses that are a part of daily operations. These expenses are crucial in running the business and ensuring the generation of revenues over time. In some industries, companies may also incur pass-through expenses. These expenses are not the same as the ones that occur through the usual course of business for companies.
What is a Pass-through Expense?
A pass-through expense is a type of expense that one party passes through to another. This definition also matches the name it gets. Essentially, it is a cost incurred by one party but ultimately paid by the other party. In real estate, a pass-through expense can be an item the landlord incurs. However, the landlord passes the whole amount or a portion to the tenant.
With a pass-through expense, the party that initially incurs the expense passes it on to another party for payment. The receiving party may not control the expenses incurred but are responsible for paying for them. Usually, both parties agree to the incursion of these expenses beforehand. Therefore, the receiving party already knows or expects the first party to pass these expenses on when they occur.
Who is responsible for paying Pass-through Expenses in a business transaction?
The responsibility for paying pass-through expenses can vary depending on the business transaction or contract. Generally, the party that incurs it is responsible for paying it initially. However, if the expense is a pass-through expense, the party that ultimately benefits from it will be responsible for paying it.
For example, if a supplier incurs shipping costs to deliver a product to a customer, the supplier may pass on a portion of those shipping costs to the customer as a pass-through expense. In this case, the customer would be responsible for paying the pass-through expense, even though the supplier incurred the original shipping costs.
What is the accounting for Pass-through Expenses?
The party incurring a pass-through expense does not record it as an expense or revenue. They only recognize the portion that relates to them. For the amount passed through, the party incurring it creates a receivable in their accounts. Once they pass that expense to the other party, they record the receipt as a deduction in that receivable.
On the other hand, the receiving party must record the expense as soon as it occurs. This accounting treatment applies regardless of whether the other party has passed through the expense. Practically, this may not be possible as the receiver may not be aware of these expenses occurring. In those cases, the receiving party must record it as an expense when the first party passes it through.
What is the journal entry for a Pass-through Expense?
The journal entry for a pass-through expense differs for both parties. For the party initially paying it, the amount does not categorize as an actual expense. Therefore, they must record it as a receivable from the receiving party. The journal entry to record it is as below.
| Dr | Receivable |
| Cr | Bank or Cash |
For the receiving party, the accounting treatment will be the same as other expenses. Therefore, the journal entry to recognize it will be as below.
| Dr | Expense |
| Cr | Accounts payable |
Conclusion
A pass-through expense is a cost that one party incurs but passes through to another. The party receiving it is ultimately responsible for paying for it. Usually, it is common in commercial lease agreements where the landlord transfers the expense to the tenant. The accounting treatment for a pass-through expense differs for both parties.
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