Factor income earned by factors of production is spent in the form of expenditure on purchase of goods and services produced by firms. This method measures national income as the sum total of final expenditures incurred by households, business firms, government and foreigners. This total final expenditure is equal to gross domestic product at market price, i.e. ∑ Final expenditure = GDP_MP. 

This method is also known as ‘Income Disposal Method:

Components of Final expenditure : Expenditure is done by all the sectors of an economy, households, government, firms and foreign sector. The various components of final expenditure are :

1. Private final Consumption expenditure (PFCE) – It refers to expenditure incurred by households and private non-profit institutions providing all types of consumer goods, i.e. durable, semidurable goods and consumer services to the households.

2. Government Final Consumption Expenditure (GFCE) – It refers to the expenditure incurred by the government on various administrative services like defense, law and order, education, etc.

3. Gross domestic capital formation (GDCF) or Gross investment – It refers to the addition to capital stock of the economy. It represents the expenditure incurred on acquiring goods for investment by the production units located within the domestic territory.

4. Net Exports (X – M) – It refers to the difference between export and imports of a country during a period of one year.

The steps included in calculating national income by expenditure method are :

STEP I : Identify the economic units incurring final expenditure:

All the economic units, which incur final expenditure within the domestic territory are classified under four groups.

1. Household sector
2. Government Sector
3. Producing Sector
4. Rest of the world.

STEP II : Classification of final expenditure : 

Final expenditures incurred by the above mentioned economic units are estimated and classified under the following heads .
(a) Private final consumption expenditure (PFCE)
(b) Government final consumption expenditure (GFCE)
(c) Gross domestic capital formation (GDCF)
(d) Net exports (X – M)

The sum total of four components of final expenditure gives gross domestic product at market price. (GDP_MP).
i. e. GDP_MP = PFCE + GFCE + GDCF + (X – M)

STEP III : Calculate domestic income (NDP_FC):
By subtracting the amount of depreciation and net indirect taxes from GDP_MP, we get domestic income, i.e.
NDP_FC = GDP_MP – Dep – NIT

STEP IV : Estimate net factor income from abroad (NFIA) to arrive at national income: In the final step, NFIA is added to domestic income to arrive at national income.
National Income NNP_FC = NDP_FC + NFIA.