Fixed Expenses
Fixed expenses, similar to fixed costs, are costs that do not change over a specific period, regardless of the level of activity, production, or sales of a business. They remain the same whether the business is busy or slow and are typically paid on a regular schedule, such as weekly, monthly, or annually. These are part of the operating expenses of the business and are often necessary to keep the business running.
Here are some common examples of fixed expenses:
- Rent or Mortgage Payments: These are regular payments made for the use of property. Whether a company produces a lot or a little, these payments typically stay the same.
- Salaries: Some employees earn a set salary, which doesn’t change based on the level of output or sales.
- Insurance Premiums: Insurance coverage usually comes at a fixed monthly or annual cost. Businesses commonly have various types of insurance, such as liability, property, and workers’ compensation.
- Utilities: While some utilities might vary slightly based on usage, many businesses have a base level of service that represents a fixed cost. For instance, costs for internet service or security monitoring could be considered fixed.
- Depreciation and Amortization: These are non-cash charges that spread the cost of an asset over its useful life. While these costs don’t represent a cash outflow, they are still considered fixed expenses.
- Property Taxes: If a business owns property, it generally pays property taxes, which are typically a fixed expense and paid annually.
- Interest Expense: If a business has debt, it often incurs a regular, fixed interest expense.
Fixed expenses contrast with variable expenses, which fluctuate based on the level of output or sales, such as the cost of raw materials or commission-based pay. Understanding both fixed and variable expenses is crucial for effective budgeting, forecasting, and business decision-making.
Example of Fixed Expenses
Let’s consider a small software development company to illustrate some fixed expenses:
- Rent: The company rents office space for its employees. The monthly rent is $5,000.
- Salaries: The company has two administrative employees who are not directly involved in the software development process. Each earns a salary of $4,000 per month, so the total monthly cost is $8,000.
- Insurance: The company pays $1,000 per month for various types of insurance, such as property, liability, and workers’ compensation insurance.
- Internet and Utilities: As a software company, they have a hefty internet bill that comes up to $500 per month. Other utilities like electricity and water average around $300 per month.
- Depreciation: The company has invested $24,000 in computer equipment which is expected to have a lifespan of 4 years. This results in a monthly depreciation expense of $500 ($24,000 / (4*12 months)).
Adding these costs together, the company has fixed expenses of $15,300 each month. These costs will need to be paid regardless of how many software projects the company undertakes or completes during the month.
However, if the company hires freelance developers based on the number of projects it has, the cost of those developers would be a variable expense, because it changes based on the level of output.
