How To Categorize and Track Small Business Expenses

As a business owner, you must account for and manage several types of expenses in order to keep your operations running. Categorizing these expenses can help you effectively plan your finances, maintain an organized record of all transactions, and file taxes with ease. Understanding the key business expense categories can also make it easier to identify what is and isn’t tax deductible.
In this article, we will discuss what these small business expenses are, how to categorize them, and how expense tracking can benefit your business. 

Key Takeaways

• Key expense categories for small businesses include utilities, insurance, and taxes. 
• When categorizing and tracking expenses, business owners should consider setting up a separate bank account and using tracking software or apps.
• Tracking business expenses can offer several benefits including better preparing you for tax season and providing strategic opportunities for budget planning and tax deductions. 

What Are Tax-Deductible Business Expenses?

Tax-deductible business expenses, or “tax write-offs,” are costs that business owners can deduct from their total revenue to determine their taxable income. In essence, tax-deductible business expenses can reduce the amount of taxes you have to pay for operating and profiting from your business. 

Here are some key examples of tax-deductible expenses:

• Business use of home and/or car
• Direct labor
• Taxes
• Office or storage facility rent 
• Insurance payments
• Utilities like phone bills, internet service, etc. 1

Small Business Expense Categories

Categorizing business expenses can make it easier to identify deductible items and file tax returns. Here are the main deductible expenses for small businesses to keep in mind. 

Taxes

Business-related tax expenses like state and local sales tax, state and local income tax, personal property tax, and excise tax may be deductible. 

Utilities and Rent 

Expenses paid for utilities necessary for your business to remain operational can be deductible. These expenses can include your telephone, internet, and electricity bills, and rent paid for your office and additional storage space.

Note

If you work from home and use a home office setup, you can include the cost of a computer, mobile data plan, office chair, work desk, and similar expenses for tax deductions.

Insurance

The ordinary and necessary cost of insurance can be deducted as a business expense if it is specifically for your business or trade. Examples of tax-deductible insurance expenses include insurance premiums, general and professional liability insurance, commercial property insurance, and data breach insurance. 

Vehicle Expenses 

If you use a car or a similar vehicle for business purposes, cost of ownership and operations can be tax deductible. More specifically, the cost of gas, mileage from business use, parking fees and tolls, and depreciation (though there are certain criteria for the latter) can be considered deductible expenses.  

Compensation

The wages you pay your employees or contractors for direct labor can count as a deductible business expense. 

How To Categorize Small Business Expenses

Categorizing business expenses can be helpful, but it may feel challenging and overwhelming if you have never filed business taxes before. Whether you are a new business owner creating efficient systems for expense tracking, or a seasoned entrepreneur looking to change your financial records system, here are some ways to categorize small business expenses. 

Set Up a Separate Expense Account 

Setting up a separate bank account for handling specific business expenses can make tracking easier. For example, you can pay all your phone, internet, and electricity bills through a separate “Utilities” account. 

Use Online Apps and Software

User-friendly (and often free) tracking apps and software can streamline the expense tracking and tax calculating process for small business owners. Instead of having to manually add to and maintain a spreadsheet or sort through a pen-and-paper trail of transactions, business owners can have an automated system to create invoice and expense reports, track expenses and time, and easily look up financial records and data.

Note

Examples of expense tracking software include SAP Concur, Expensify, Quickbooks, and Mint. 

Why You Should Track Business Expenses

Tracking business expenses can help you in the following ways:

• Expense tracking helps you identify tax-deductible expenses and gets you better prepared for tax season.
• A well-maintained transaction record can come in handy during business audits and inspections. 
• Regularly tracking business expenses can help you determine how you are doing financially, your business’s potential for profitability, and what needs to change. 
• Expense tracking helps you categorize and organize all the financial data essential to keep the business running. 
• Tracking business expenses also helps you budget effectively and find external funding if required. 

Note

Remember to keep records of business expenses and other business paperwork even after you file your taxes.

Frequently Asked Questions (FAQs)
Where do I put insurance when it comes to business expense categories?

Insurance payments can fall under the vehicle expense category if it's vehicle insurance, and the salaries and compensation category if you are offering insurance policies to employees. 

How do I write off business expenses?

You can write off business expenses when filing your taxes. This can be done by filling in the relevant tax forms (i.e. Form 1040, Schedule C) and submitting the information by following the instructions on the document. The IRS provides a guide on deducting business expenses.   

How do I keep track of business expenses and income?

Traditionally, businesses would keep track of their expenses and income by hiring an accountant or recording their transactions manually. Nowadays, however, there are several free or low-cost software programs and apps to make tracking easier and more convenient.