What expense category is Amazon Web Services (AWS)?

Amazon Web Services (AWS) is a comprehensive cloud computing platform offering a wide range of services, including computing power, storage, databases, and various application services. Businesses use AWS to build and run applications, store and analyze data, and access other cloud-based functionalities.  From an accounting perspective, AWS represents an expense related to IT infrastructure and operations.

The accurate categorization of AWS expenses is essential for several reasons.  It allows financial controllers to maintain a clear understanding of IT costs, budget effectively for necessary technology resources, and ensure compliance with financial reporting standards.  It also aids in analyzing the return on investment (ROI) for cloud computing and allocating expenses appropriately across departments, providing a detailed view of technology spending.

This guide aims to provide financial controllers with a comprehensive explanation of how to accurately classify AWS expenses. We'll also cover key accounting considerations relevant to these expenses and discuss the associated tax implications for businesses.

How do you classify Amazon Web Services (AWS) expenses?

The most accurate way to classify AWS expenses is as Software Expenses or Information Technology (IT) Expenses, depending on the specific services used and the company's accounting practices.

1. Software Expenses: When a company utilizes AWS for software-based services, such as cloud-based applications, databases, or development tools, the fees are typically classified as Software Expenses.  This reflects the subscription-based access to software and platforms provided by AWS.

IRS Publication 535 discusses software expenses, differentiating between purchased software and subscription-based services, which aligns with the nature of many AWS offerings.

2. Information Technology (IT) Expenses: If a company uses AWS for broader IT infrastructure needs, such as servers, storage, and networking, the expenses might be classified as IT Expenses.  This is particularly relevant for companies that have migrated significant portions of their IT infrastructure to the AWS cloud.

While IRS Publication 535 doesn't explicitly define "cloud computing expenses," it provides guidance on deducting various technology-related expenses, which can be applied to AWS. Both classifications can be acceptable, but consistency is key. The chosen classification should be applied uniformly across all AWS expenses.

Expense Categories to Avoid for Amazon Web Services (AWS)

It's important to avoid some common but potentially inaccurate expense categories when classifying AWS, or to use them inconsistently. Here's a breakdown of why these categories are generally less preferred:

1. Operating Expenses: While AWS expenses are operating expenses in a broad sense, this category is too general. Using more specific categories like "Software Expenses" or "IT Expenses" provides better clarity.
2. Administrative Expenses: Similar to Operating Expenses, this category is too broad and doesn't accurately reflect the nature of AWS expenses, which are primarily technology-related.
3. Cloud Computing Expenses: While descriptive, this is not a standard accounting term. Using "Software Expenses" or "IT Expenses" aligns with established accounting practices.
4. Subscription Expenses: While technically correct for some AWS services, this is a subcategory of "Software Expenses" and might not capture the infrastructure aspect.

Important Note on Alternative Classifications

It's crucial to understand that some alternative classifications could be acceptable if applied consistently. However, consistency is paramount. A business should choose one classification method and apply it uniformly across all AWS expenses to maintain accurate and comparable financial records. To maintain accuracy and clarity in financial reporting, AWS expenses should ideally be classified as Software Expenses or Information Technology (IT) Expenses, used consistently.

Considerations While Categorizing Amazon Web Services (AWS) Expenses

When accounting for AWS expenses, several factors come into play:

1. Expense Recognition

• If AWS services are billed monthly, the expense should be recognized in the month it is incurred.
• If there are upfront costs or long-term contracts with AWS, the expense might need to be allocated over the period of the contract. This aligns with accrual accounting principles, which dictate that expenses should be matched with the revenues they help generate, providing a more accurate picture of profitability within a specific period.

Tip: When dealing with AWS reserved instances or long-term service agreements, establishing a system to amortize the expense over the contract term ensures that the income statement accurately reflects the cost of using AWS in each accounting period.

2. Materiality

• For companies with substantial cloud computing expenditures, creating separate accounts for different AWS services (e.g., "AWS - Compute," "AWS - Storage," "AWS - Database") might be beneficial for detailed tracking and analysis.
• For companies with smaller cloud computing budgets, including AWS expenses within general "Software Expenses" or "IT Expenses" accounts is acceptable.

Tip: Assess the materiality of AWS expenses within your company's overall budget. If it's a significant expense, detailed tracking will provide better visibility and control.

3. Departmental Allocation

• Since AWS services can be used across multiple departments (e.g., Development, Operations, Marketing), consider allocating the expense to those departments based on usage. This provides a more accurate view of departmental costs and helps in understanding the business value derived from AWS.

Tip: Implementing a system to track AWS usage by department or project can enhance budgeting accuracy and demonstrate the value of cloud computing to different parts of the organization.

Examples of Amazon Web Services (AWS) and Their Classification

Here are a couple of examples of AWS services and how they can be classified:

• AWS EC2 (Compute) Fees: Costs associated with using AWS's virtual servers are classified as Information Technology (IT) Expenses.
• AWS S3 (Storage) Fees: Costs related to storing data on AWS are also classified as Information Technology (IT) Expenses.
• AWS Lambda (Serverless Computing) Fees: Costs for using AWS's serverless computing platform can be classified as Software Expenses, especially if used for application development.
• AWS RDS (Relational Database Service) Fees: Costs for using AWS's managed database services can also be classified as Software Expenses.

What Are The Tax Implications for Amazon Web Services (AWS) Expenses?

From a tax perspective, AWS expenses are generally deductible business expenses, meaning they can be deducted from gross income to arrive at taxable income, as long as they meet the IRS criteria.

1. To be deductible, the expenses must be "ordinary and necessary".

• An ordinary expense is one that is common and accepted in your trade or business.
• A necessary expense is one that is helpful and appropriate for your trade or business.

If a business pays for annual AWS reserved instances or upfront costs, it could be considered a prepaid expense. IRS Publication 535 discusses the rules for deducting prepaid expenses, stating that if the benefit period extends beyond the current tax year, the expense must be allocated over the periods it benefits.

Tip: Be mindful of prepaid AWS expenses, particularly with reserved instances or long-term contracts. Ensure that these expenses are properly amortized over the relevant tax years to comply with IRS regulations.

2. Amortization of Amazon Web Services (AWS) Costs: In general, recurring AWS usage fees are operational expenses and are not amortized. Amortization typically applies to capital expenses, such as the purchase of intangible assets with a useful life of more than one year.

However, if a company were to develop custom software or acquire a very large, multi-year AWS license with unique terms that resemble an intangible asset, amortization might come into play.

Additionally, accurate records of AWS expenses are essential for supporting deductions and complying with IRS requirements. This includes:

• Invoices from AWS.
• Proof of payment (e.g., bank statements, credit card statements).
• Internal records documenting the business purpose of AWS usage.

IRS Publication 463 and 535 emphasize the importance of maintaining detailed records of business expenses.

Tip: Implement a robust record-keeping system for all cloud computing expenses, including AWS. This will streamline tax preparation and provide support in the event of an audit.

How Fyle Automates Your Expense Categorization and More!

Fyle significantly simplifies the management and tracking of AWS expenses, offering businesses enhanced efficiency, control, and valuable insights into their cloud spending.

Here's a detailed explanation of how Fyle helps:

1. Automated Expense Tracking: Employees or finance personnel can easily submit AWS invoices through Fyle's mobile or web app. Fyle automatically extracts key data from the invoices, minimizing manual data entry and potential errors and accelerating the expense reporting process.
2. Automated Expense Categorization: Fyle's AI can be configured to automatically categorize AWS expenses as "Software Expenses" or "IT Expenses" based on pre-set rules. This ensures consistent and accurate coding of expenses, saving time and improving accuracy.
3. Seamless Accounting Integration: Similar to how AWS integrates with other business applications, Fyle integrates with popular accounting software (e.g., QuickBooks, Xero) to automatically sync AWS expense data. This eliminates the need for manual data transfer, speeds up reconciliation, and enhances overall efficiency.
4. Customizable Approval Workflows: Fyle allows businesses to establish customizable approval workflows for AWS expenses. This ensures that expenses are reviewed and approved by the appropriate personnel, granting greater control over spending.
5. Detailed Reporting and Analytics: Fyle provides comprehensive reporting and analytics on AWS expenses, delivering valuable insights into cloud spending. You can utilize Fyle's reporting capabilities to analyze AWS costs per project, department, or service, enabling data-driven decisions on resource allocation and potential cost optimization.
6. Compliance and Audit Trail: Fyle maintains a detailed audit trail of all AWS expense transactions, facilitating easy tracking of who submitted, approved, and processed each expense. This aids businesses in ensuring compliance with internal policies and external regulations and simplifies audits.
7. Cost Savings Insights: Accurate expense tracking and analysis within Fyle can help businesses uncover cost-saving opportunities. For example, it can reveal whether there are underutilized AWS services or if different pricing models would be more cost-effective. Fyle's reporting features can provide a company with insights into the average AWS cost per user or project, enabling them to evaluate the cost-effectiveness of their cloud strategy.

By automating and streamlining the management of AWS expenses, Fyle empowers businesses to save time, reduce administrative overhead, and achieve enhanced visibility and control over their cloud expenditures.

FAQs around Amazon Web Services (AWS)

1. How are Amazon Web Services (AWS) expenses treated for tax purposes?

To determine if AWS expenses are deductible, the fundamental principle is that the expense must be both ordinary and necessary. An ordinary expense is one that is common and accepted in your industry, and for businesses that utilize cloud computing for data storage, website hosting, or software as a service, AWS expenses are likely considered ordinary. A necessary expense is one that is helpful and appropriate for your trade or business; if AWS services support your business operations, they would likely be considered necessary.

2. Are there specific IRS guidelines on deducting cloud computing expenses?

While the IRS publications don't explicitly mention "cloud computing" or "AWS," the general principles for deducting business expenses apply. The key is whether the expenses are ordinary and necessary for your business.

3. How should businesses keep records of their AWS expenses?

Businesses should maintain detailed records of their AWS expenses, including invoices, contracts, and documentation of how the services are used for business purposes. This is essential for substantiating deductions.

4. Where are AWS expenses deducted on tax returns?

Where AWS expenses are deducted depends on the business structure. For sole proprietors, they would typically be deducted on Schedule C (Form 1040). For corporations, they would be deducted on the corporate income tax return.