How to Categorize Expenses for Small Business

Are you struggling to keep track of each penny of your business? Whether it’s small or large, starting a business comes with great responsibilities. To ensure smooth cash flow and maximum profit, you need to control the business’s operating cost.

First of all, you must be aware of where and how much you’re spending money. However, being a business owner makes it hard for you to organize and manage everything simultaneously. Therefore, you can choose the most effective way is to categorize expenses for your business.

With a  proper categorizing of business expenses, you can make a budget. Especially as a small business owner, you have many bills, including employees’ salaries, to pay and buy your business supplies. Some of the expenses can be daily, weekly or monthly. Additionally, tax deposits and annual expenses like business insurance and bonding are all you’ve to take care of. Not to mention, your budget list makes it easier to save money and earn revenue.

Moreover, categorizing types of expenses in business will enhance growth and stables the financial status of the company. Eventually, your expense documents will help to maximize tax deductions. This will give you an exact scenario of profit and loss and you may be able to find a way to retain money in the business.

So, how do you decide how to categorize expenses for a small business? Here are a few tips for you.

How to Categorize Expenses for Your Small Business?

Creating business expense categories for every transaction will give you an insight into your spending. However, keep the expense categorization simple. So, every employee to the financial team can easily understand where the money is going. There are many accounting software to track it, such as Xero, QuickBooks, Freshbooks etc.

Let’s learn the best way to organize expenses for small business.

1. Determine the Startup Business Cost

Do you know how much you need to start the business? The first step is to determine the startup cost. Though it’s a small business, you can’t ignore the expenses.

Therefore, you can start by grouping the expenses into two categories to keep them under control and organized. These are one-time expenses and recurring expenses. The one-time expenses include costing to start the business like permit, license, furniture, equipment, other fees etc.

On the other hand, recurring expenses are paid monthly like different utilities, rent and salaries.

2. Identify the Right Category

Every business has different expenses and budget accordingly. Before proceeding to categorize your business expenses, identify the right ones for you.

However, the categories for small business varies with the need of business owner and goals. Know which industry you’re going into so that it’s become easier to make the right decision. Moreover, your expense category must reflect the easy way for financial management.

For example, manufacturing businesses have categories for various maintenance services and product quality inspection. In comparison, the Civil Engineering and Construction business will have dedicated categories according to the heavy machinery and equipment needed.

3. Monitoring Bank Account

In order to keep track of your expense and income, monitor bank transactions regularly. It is like bookkeeping that keeps a record of all your financial transactions. Thus, you’ll be able to manage information while making financing decisions or investing and set a benchmark to meet revenue.

For this reason, you can use the accounting software to reconcile your bank account statements easily.

4. Identify the Resources of Your Expenditure

Small businesses come with lots of expenses. That’s why it’s important to know where you’re spending the cash.

As you’re keeping records of account statements, it’s easy to identify the resources of expenditure. You can assign them in the accounting software to categorize. Additionally, you can keep records on bills, invoices or receipts.

However, your computer spreadsheets are also helpful in managing business expenses categories. Start by creating a file with the full list of monthly expenses and then categorize them accordingly.

5. Make the List of Small Business Expense Categories

To decide how to organize expenses for your small business, first, understand the business goals. To be tax-deductible, your business expense should be ordinary and necessary.

Moreover, it will help you to make a budget to move further.

Here is the list of common business expense categories to start with.

  • Payroll:

Generally, payroll is the largest share of any business budget. Whenever you pay salaries or commission bonuses to the employees, categorize them. Additionally, you can categorize further deductions and payroll taxes on your salary.

For this purpose, you can set a payroll schedule. It determines how many pay periods you’ve per year, how many paychecks you receive per month, along with the salary and tax structure.

Thus, It becomes easier to understand the fixed and variable expenses of your small business. Eventually, you can keep track of fluctuating payroll wages, hourly or weekly costing.

  • Employee Benefits:

Employee benefits are non-wage perks offered to them in addition to salary. However, they vary from company to company and changes with time.

You need to make a benefits-related expense to keep checking the spending that gives the employees the highest return on investment. Moreover, some benefits can be valuable. Hence, it’s important to consider it as a part of total compensation.

Some common benefits include:

  1. Insurance: it can be property, general liability or health insurance, including dental, vision, life or disability. You better categorize annual or monthly premiums that the business pays for your insurance policies.
  2. Retirement benefits: it is a fund set aside to give the employees a pension after retirement. You can categorize it in the business retirement plan like a 401k plan.
  3. Education and training: as the owner, you definitely want to develop your employee’s professional experience. You may bear expenses for their further education or training courses, attend seminars and hence categorize it.
  4. Vacation days
  5. Sick day
  6. Child care
  7. Fitness allowances
  8. Membership or subscription plan
  • Rent or Mortgage Payment

You may find difficulties with different costs. However, they can be fixed or variable but essential to run the business. So, it’s necessary to track those to determine which utility is tax-deductible such as rent or mortgage.

This expense categorization involves rent payment for your office location, warehouse, equipment, vehicles etc., that you don’t own but make payment to use for the business.

  • Other Utilities

There are other utilities apart from rent or lease payment, which falls under the categorization.

  1. Electricity
  2. Gas
  3. Water/sewage
  4. Trash collection
  5. Household bills if you’re doing work from home.
  • Communication

This is the expense that you use to communicate while working. It includes internet connection, mobile phone and landline bills.

  • Marketing and Advertising

Starting and running a business is not enough. You need to promote it as well to grow. Eventually, you need money to make advertising and promoting the business.

Create a category to point down the marketing and advertising cost, which is an important part of any business. It can be online or offline.

The offline category includes radio, tv, print, public relations, sponsorships fees, etc. On the other hand, online businesses sometimes require payment to unlock further benefits. So if your business uses email marketing, visual display, social media or other paid platforms, include them in this category.

Additionally, other production costs, like hiring professionals to make commercials, also falls under the expense category.

  • Office Furniture

It includes expenses to buy chairs, tables, desks, file cabinets, other furniture etc.

  • Office Equipment

Despite of a small business, you need basic equipment to run an office.  These are computers, printers, laptops, mobile phones, land phones and others for productivity.

  • Office Supplies

This category is required for all types of office costs, such as paper stocks, postage, toner cartridges and other stationery items. Sometimes, kitchen supplies like snacks and drinks are also considered as a business expense.

  • Maintenance and Repairing Cost

In order to maintain your office place, you can set a budget to spend. The reparining costs include cleaning, replacing tube lights or bulbs, repairing equipments, painting the walls and other similar expenses.

  • Travel

Have you calculated the business travel expense? Then, do it quickly. You may travel to other regions or abroad for business purposes. Hence, categorizing the business travel expense is necessary. It includes airplane or train fare, food, lodging, cab or car rental fees, other accommodations, and mileage reimbursement

However, the T&E expense category is dependent on the standard mileage rate for computing reimbursements and mileage deductions. That’s why you need to consider all types of travel expenses and manage travel arrangements. So, your employees can submit a reasonable expense after a business trip.

  • Seminars and Conference

In case you’re attending a business seminar or conference outside of the office, including its cost in the list of how to categorize expenses for small business.

  • Cars and Other Business Vehicles

Most businesses use vehicles for daily jobs. From cars to trucks, special vehicles are required to run a business. Hence, you need to categorize them.

These costs include:

  1. Rental or loan payments
  2. Registration fees
  3. Taxes
  4. Maintenance and repairing
  5. Fuel
  6. Insurance
  7. Parking fees, fines and storage
  • Meals and Entertainment

Most of the time, meals and entertainment costs are abused and reported incorrectly. Therefore, you need to control it to stay within budget. Although these are tax-deductible, you can cut the cost when the business runs low.

The expense on the meals includes team lunch or Thanksgiving dinner party and meals provide to the clients. However, nobody keeps the meal receipts and submit a random amount while making an expense report. Well, you can solve this issue by introducing digital expense reporting software to keep track of actual expenses.

Similarly, you can control the entertainment expense. Conducting large events, throwing parties, taking clients or customers outside, arranging dinners for employees may cost you extra dollars to spend.

  • Payment Processing Fees

Meanwhile, banks charge a certain amount during receiving payment from customers. Whether you’re using a credit or debit card, online payment services like PayPal or Stripe, you’ve to pay a fee to them.

  • Software Service Subscription Fees

Are you using different software to work? Then pay a fee to use their services. MS Office, Adobe Creative Suite or any other applications comes with value. Additional subscription charges like “Software as a Service” tools, web hosting can be included in the following category.

  • Additional Services

As you’re starting the business, your focus should be on saving as well as good production. Hiring full-time professionals like an accountant or lawyer can cost you a higher payroll. However, you can avoid it by employing them on a project or contractual basis.

The services that can cost less are:

  1. Lawyers
  2. Accountants
  3. Cleaning
  4. Landscaping
  5. Security
  6. Tax preparation
  7. Marketing
  8. Media production

6. Track Down Your Profit & Loss Report

Are you running out of expenses? Then, track and check your profit and loss (P&L) report by using the accounting software.

You can see the report by breaking it on a monthly or annual basis. Thus, it’s easy to track the changes throughout the period. Furthermore, you can identify the most expensive category to take the cash flow under control.

7. Research the Tax-deductible Expenses

As you’ve categorized expenses for your small business, now it’s time to find out tax-deductible expenses. These tax write-offs can be partial, total or applied over time.

You probably busy concentrating on improving your service or product and how you can cut the cost to make more profit. But not paying attention to the taxes can cause you big trouble. Therefore, you need to know which small business tax deduction you’re eligible for.

Though small businesses pay 21% in federal taxes, over 50% of the small business owners say they pay too much taxes. However, if you’re following “ordinary and necessary” rules by IRS, then you may save some dollars.

Here are seven common tax-deductible small business expenses.

  • Milage and vehicle expenses
  • Business meals
  • Rent or mortgage and utilities
  • Employee pay and benefits
  • Gifts
  • Marketing expenses
  • Office supplies and other general expenses

Conversely, you can’t deduct tax if you’re using the business car for a private ride or interest paid on the credit card for personal use. That’s why you need to realize the difference between personal and business expenses. With this in mind, you can break the cost by a percentage of use while deciding the expenses for your small business.

Conclusion

Overall, tracking and managing the business expenses may seem a little hectic. You can start categorizing them from the beginning of the business. That’s how you will get less headache.

Moreover, you can choose the vital expense categories for the initial start. Then keep adding other business expenses as the company grows and earns revenue. In addition to accounting software or other systems, you can later hire a professional accountant to keep track of these categories.

Further, if you’re using a digital system to keep the record, update the documents timely. So, you get everything in one place when it comes to tax payment. Thus, it will be easy to access the list to manage and organize your business systematically.

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