Interest is not an operating expense for a business whose own lending is not the operation. It is a non-operating charge, reported below the operating cost lines rather than among them, so it reduces the bottom line without moving the operating subtotal. Two things change that answer and nothing else does: an entity whose borrowing and lending is the business itself, and interest capitalized into an asset rather than charged to a period.
Where the Rule Puts It
The SEC’s caption list for a filed statement of comprehensive income draws the boundary in its own words. The cost and expense captions run from caption 2, costs and expenses applicable to sales and revenues, through caption 3, other operating costs and expenses, to caption 6, other general expenses. The first caption carrying the word non-operating is caption 7, and interest and amortization of debt discount and expense follows it at caption 8 (17 CFR 210.5-03).
That places the charge below every cost and expense caption on the list, between the two captions the rule labels non-operating. What makes a cost an operating one is taken up in operating expenses, and the lines this placement puts between the two subtotals are in operating income vs net income.
The Two Cases That Change the Answer
The first is an entity whose borrowing and lending is the operation. Article 5 of Regulation S-X, which carries the caption list above, does not apply to banks and bank holding companies (17 CFR 210.5-01).
Banks and bank holding companies report under Article 9 instead, where interest on deposits, on short-term borrowings and on long-term debt are the opening expense items, totaled as total interest expense at line 9 and taken off total interest income to reach net interest income at line 10, before any other income or expense is reached (17 CFR 210.9-04). A company that merely borrows heavily is not in this case, because the rule assigns the statement by the kind of entity filing it rather than by how leveraged that entity is, and the subtotal that subtraction produces is net interest income.
The second case takes the charge out of the period altogether. Interest incurred while a qualifying asset is being readied for its intended use is added to that asset’s cost rather than expensed, so it reaches neither side of the operating line that year, a treatment set out in capitalized interest.
A Deductible Business Expense Is Not an Operating Expense
Deductibility asks whether the Code allows an amount against income. Classification asks where a statement reports it. The Code answers the first with a section of its own for interest, section 163, rather than folding it into the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business (26 U.S.C. 162(a), 26 U.S.C. 163).
A chart of accounts built from the return’s expense list therefore carries interest beside rent and advertising, and produces no operating subtotal until that line is reclassified, a coding boundary worked through in operating expenses and, for the other charge firms argue over, in depreciation as an operating expense.
Common Questions
Is Interest Expense an Operating Expense or Financing Expense?
Financing in substance, non-operating in the language a filed statement uses. It is the price of how the business is funded rather than a cost of running it, which is why the rule seats it below the operating cost captions (17 CFR 210.5-03).
Do Operating Costs Include Interest?
No, for any business outside the two cases above. The word operating does reach it in one place, the statement of cash flows, where interest paid is an operating outflow even though the income statement reports the same charge below the operating lines, a split covered in operating activities.
How Do You Record Interest Expenses?
Debit interest expense, and credit cash or interest payable depending on whether the period ends with the amount paid or still owed. The entries and the period-end accrual are set out in interest expense.
What Are Examples of Interest Expenses?
A term loan, a drawn line of credit, a carried credit card balance, bonds the business issued, and the interest leg of a finance lease. Each is the same charge arising on a different instrument rather than a different kind of expense, and what counts as interest is set out in interest expense.
Accountably places trained offshore accountants and tax preparers inside US CPA and EA firms, so a client’s interest accounts are mapped to the right side of the operating line before the statements reach the firm’s own reviewer.
