What is the difference between Accounting and Economic Profit?

When you don't have more understanding about some business terms, you are very liable to misinterpret those terms. What most people know about profit is actually the gain an investor generated after a successful transaction. Some don't know there are other types of profit like accounting and economic profit. However, both terms are not the same. Accounting profit is a type of profit you have after deducting the total cost from the total revenue, without adding the values of those things you lose in a bid to acquire something else.

Economic profit, on the other hand, is a type of profit you have after deducting the total cost from the total revenue, including the cost of those things you lose in a bid to acquire some goods and services. Going by the definition above, it is obvious that economic profit will always have lesser value compared to accounting profit because opportunity cost will not be recorded in accounting profit but it will have effect in economic profit.

Accounting profit is also known as the net income of an organization. It is the difference between the total monetary revenue generated and the total monetary cost. In simple terms, it is the money left after deducting the cost and expenses (such as rent, wages, and material costs) of running the organization. Accounting profit is determined by generally accepted accounting principles (GAAP).

On the other hand, Economic profit is the difference between total monetary revenue and total monetary cost, but it also includes the opportunity cost of taking one action versus another. The economic benefit is determined by economic principles, not by accounting principles.

Generally, we think profit is the total return we have left after the capital, and other expenses have been deducted. However, economic profit is different from accounting profit. The difference between the total cost and the total revenue, leaving out the value of the opportunity is what is referred to as the accounting profit; while economic cost, on the other hand, is the difference between the total cost and the total revenue without excluding the cost of the opportunity. Economic profit can be defined as revenue deducted from implicit and explicit costs, and accounting profit is the total revenue deducted from the explicit fees.

Accounting costs are calculated for a definite period, unlike the economic profit; and the economic profit will always be of lesser value. When accounting profits are calculated, things like allowances, leased assets, provisions, capitalizing development cost, and non-cash transactions are considered; but when economic benefit is calculated, many things like interest rate on the flow of cash, tax rates, residual value, opportunity cost, and inflation level changes are taken into account.