How to Categorize Your Expenses to Maintain the Financial Health of Your Business

Any business owner will tell you that the key to longevity and ultimate success is financial health.  Maintaining that financial health isn’t always easy, but R&D Legal Bookkeeping has some tips to share to help.

One of the foundational steps in managing your finances effectively is properly categorizing your expenses. Clear and organized expense categorization not only simplifies bookkeeping, but also provides valuable insights into your spending patterns, helps identify areas for cost savings, and ensures better financial planning. Here’s a comprehensive guide on how to categorize your expenses to keep your business financially healthy, plus a few more tips for good measure.

First, it’s important to understand why you need to categorize your expenses.  Proper categorization helps track where your money is going, identify unnecessary expenses, prepare accurate financial statements, and it makes tax filings much easier. Moreover, when it comes time to making informed business decisions, you need to know about where your money goes. Categorization is a key foundational step in your bookkeeping.

To get started categorizing your expenses, you will need to set up clear and consistent categories.  Think of these like filing folders for all your spending habits! Start by defining broad categories that reflect your business operations and then you can get more granular with subcategories, if need be.  Common expense categories include:

Operational Expenses such as:

• Rent or lease payments
• Utilities (electricity, water, internet)
• Office supplies
• Maintenance and repairs

Payroll Expenses

• Salaries and wages
• Employee benefits
• Freelance or contractor payments

Marketing and Advertising

• Print Advertising
• Memberships
• Social media ads
• Promotional materials
• Sponsorships
• Printing Costs

Professional Services

• Legal and consulting fees
• Accounting services
• Bookkeeping Services

Travel and Entertainment

• Business travel costs
• Client entertainment

Inventory Costs

• Raw materials
• Purchase of finished goods

Financial Expenses

• Bank fees
• Loan interest

Miscellaneous Expenses tend to be any other costs not falling into the above categories. Try to keep these at a minimum since they don’t give you a lot of information.  At R&D Legal Bookkeeping, we try to keep the “misc” category at $0 and classify all expenses. You should know where your money is going in nearly all instances.

It’s helpful to use accounting software for automation. The popular ones are QuickBooks, Xero, or Wave and many of these platforms allow you to create custom categories and automatically assign expenses based on rules, saving time, and significantly reducing errors. They sync data online when you connect properly and automatically import data. Just be sure that you have synced correctly!

Don’t Wait!

It’s important to record your expenses promptly. Don’t wait! Regularly update your expense records. Prompt recording ensures accuracy and helps you stay on top of your financial situation. Keep digital copies of receipts and invoices for documentation and audit purposes, in case you need them.

Schedule periodic reviews (monthly or quarterly) to analyze your expenses and identify high cost areas.  Regular reviews will help you detect unusual or fraudulent charges. (We have seen clients that have neglected their finances for months, only to discover stolen credit cards and charges that were not theirs! Let this be a lesson to you.) Regularly monitoring your expenses also allows you to adjust your budget accordingly.  Being proactive helps you optimize your spending and improve profitability.

Maintain a dedicated business bank account and credit card. This separation simplifies tracking expenses and provides clarity during tax season.

Keep Up with Tax Regulation and stay informed about deductible expenses and ensure your categories align with tax laws in your jurisdiction. Proper categorization can maximize your deductions and reduce your tax liability.

Categorizing your expenses might seem tedious initially, but it pays dividends in the long run. It empowers you to make strategic financial decisions, ensures compliance, and keeps your business on a healthy financial trajectory. Start with a clear plan, leverage technology, and review your expenses regularly to maintain optimal financial health for your business.

We’re Here to Help

Many business owners are simply too busy with their business and running their speciality to handle the complexities of bookkeeping that is required. That’s where R&D Legal Bookkeeping Services comes in — we are here to help and can take that off your plate.