Overview of Business Expense Tax Categories
Creating business expense categories for taxes helps you track where all your business income goes. This is essential in a fast-paced business environment. Categorizing your expenses and then tracking them helps you pinpoint where expenses are being incurred in your business, leading to better business decisions.
Having clear records will also help your accountant take advantage of every business deduction you qualify for. This will make tax season easier and could lower your tax liability.
What Are Tax-Deductible Business Expenses?
Tax-deductible business expenses are the "ordinary and necessary" costs a business incurs during the normal course of business. Businesses can deduct expenses they qualify for in line with the information provided on the Internal Revenue Service’s Business Expense Resources page.
Generally speaking, “ordinary” costs are common expenses within any given industry that most business owners would incur. “Necessary” refers to costs that businesses couldn’t do without. Expenses that meet these conditions are tax-deductible. Some of these business expenses will be fully deductible while others are only partially deductible.
What Are Business Expense Categories for Taxes?
Business expense categories for tax are categories that allow businesses to record and organize their expenses clearly. This makes it easier to claim all the expenses due by recording expenditures as they happen in the relevant business expense category.
Recording your expenses in the correct categories as they occur makes it easier for small business accounting professionals to reduce your tax liability as much as possible. It’s an effective system to catch every expense and declare them on your business tax return. It also prevents the time-consuming re-categorization of business expenses ahead of tax season.
Are Expense Categories Different in Different Industries?
Some common business expense categories apply to the majority of companies regardless of the industry they're in. Ask your accountant about industry-specific categories or miscellaneous itemized tax deductions that might not fit into other categories. A tax professional will help you ensure deductions you're entitled to don't slip through.
Top Small Business Expense Categories to Know
The following common business expense categories will help you record and organize your transactions. Keep in mind that some of these might not be relevant to your business and that additional categories that are not included in this list might be.
Financial Expenses
Several costs related to banking can be deducted. These include:
Credit and Collection Fees
Businesses that use accrual basis accounting (a method where expenses and revenue are recorded when they're earned or incurred, even if the payment isn't made at that point) can deduct unpaid invoices that have become partially or totally worthless as business bad debt. You can also deduct any fees incurred when collecting debt. If you have a lot of business bad debt, an accounting professional can help you optimize your billing processes, minimize bad debt, and improve your cash flow.
Bank Fees
Interest your business pays on loans, lines of credit, or business credit cards is tax-deductible. The relevant percentage of mortgage interest can also be claimed if you work from home. Other bank fees like maintenance or overdraft fees also qualify. However, you can't claim fees related to your personal accounts.
Employee-Related Expense Categories
Payroll costs account for one of the biggest expenses businesses incur. Claiming the relevant tax deductions is therefore vitally important.
Salaries or Other Compensation:
Employee salaries, commissions, and bonuses are tax-deductible. This can extend to salaries you pay your spouse or children as long as the payments were made through payroll and the amount is considered reasonable.
Employee Benefit Programs
Payments put toward employee benefits like disability or life insurance, dependent care assistance, or health plans for you or your employees are tax-deductible.
Employee Education and Training
The cost of required continuing education and training for yourself and your employees can be tax deductible.
Gifts
You can claim up to $25 for gifts given to each employee, client, or vendor per calendar year.
Office Expenses
Many items related to equipping your office are tax-deductible. If you work from home, some expenses can also be deducted but the process is a little more complicated.
Office Expenses and Supplies
Supplies include items like cleaning products, paper, stationery, and exercise books. Office expenses include costs associated with running your business like website hosting and software.
Telephone
Business-related cell phone contracts and monthly phone bills (an office telephone or second telephone line in your home used exclusively for business) can be deducted.
Utilities
Common utilities like electricity, internet, water, and sewerage are fully deductible. If you work from home, you can deduct utilities in proportion to how much your home is used for business purposes.
Rent
If you rent a warehouse or office space, you can typically deduct what you pay.
Recurring Costs
Several monthly, quarterly, and annual costs related to your business can be deducted.
Legal and Professional Fees
Fees paid to accountants, lawyers, financial planners, or other professionals you hire to help with your business are tax-deductible.
Dues and Subscriptions
Membership fees include amounts paid to trade or professional associations (pages 32, 47-48 of the PDF). Subscriptions to industry-related magazines or journals can also be deducted.
Software
Bookkeeping or other software used for business purposes is tax-deductible.
Business Trips or Meetings
Business-related travel is a common tax-deductible expense for some businesses. Several aspects of business trips or meetings can be deducted:
Travel
Business-related travel expenses include flights, hotels, and meals (see below). Costs incurred by job candidates traveling for an interview like parking fees or flights are also deductible.
Business Meals
50% of qualifying food and drink purchases are deductible. Anything you claim must be related to business; examples could be food purchased at work conferences or on business trips.
You can claim 50% of the actual cost of business meals or use the standard meal allowance. Some businesses choose this option to avoid the time-consuming process of keeping records of all the expenses incurred.
Common Business Expenses
Many other typical business-related expenses are also tax-deductible and can make a difference to your tax bill.
Postage and Shipping:
Stamps, freight, or postage fees for business-related items like sending products to customers and return shipping labels are included. Please note that envelopes and packaging are included in the “office supplies” category rather than the “postage and shipping” category.
Printing
Ink cartridges and printers are deductible if you print your own material. Outside printing services can also be deducted. If your business does direct mail marketing, you can deduct the printing but must list postage separately.
Advertising
Items used to promote your business like promotional materials, brochures, posters, websites, social media posts, or billboards could be deductible expenses. Spending on a PR campaign also falls into this category. The advertising and marketing expenses you claim must be considered "ordinary and necessary" for your industry.
Insurance
You can deduct premiums spent on business insurance for liability, real estate, and malpractice as well as workers' compensation insurance. Claiming auto insurance premiums is possible but a little more complicated. You can only claim the portion of auto insurance that is related to business use of the car and only if you use the actual expense method rather than the standard mileage rate.
Vehicle Expenses
There are a range of costs associated with company vehicles that can be deducted. These include parking fees, repairs, tires, and more. You will only itemize these costs if you use the actual expense method rather than the standard mileage rate.
Other Deductible Business Expenses
Remember to take the following deductions into account in addition to the categories outlined above.
Depreciation
Big-ticket items like vehicles or machinery typically need to be depreciated and the cost of these assets deducted over several years. You may also be able to write off tools used for work. Depreciation is a complex subject that can be tricky to navigate, so working with a professional is the best course of action if your business has assets it needs to deduct.
Charitable Contributions
According to the IRS, you can only deduct your charitable contributions if you itemize them using Schedule A (Form 1040). This deduction is also subject to other regulations; check with an accounting professional to see if your contributions qualify.
Startup Expenses
You may be able to deduct up to $5000 in startup expenses (or more if your startup costs exceed $50,000)—like marketing and employee training—if you've just launched a new venture (IRS Publication 535, page 27).
Medical or Dental Expenses
Self-employed individuals can deduct certain medical care expenses.
Retirement Contributions
Certain IRA and 401k contributions can be taken as tax deductions.
Why Is Categorizing Business Expenses Important?
Being consistent in how you categorize your tax-deductible business expenses makes tax filing easier and helps ensure compliance. Knowing which tax deductions you're entitled to—and how much you're spending to operate your company—will prepare you for accurate tax filing and wise financial decisions.
Having accurate reports at your fingertips will also allow you to gather insights you can use to create financial statements. This is crucial for companies looking for investors or going through an audit as it adds transparency to your profitability and cash flow reports.
How to Categorize Expenses in Your Small Business
You can categorize business expenses in three easy steps:
1. Establish Categories Relevant to Your Specific Business
Businesses in different industries will have different categories. For example, a floristry business will establish a dedicated category for shipping. A software-as-a-service (SaaS) company might have a category covering digital services. Use your financial statement to identify the essential business expense categories for your business.
2. Review Your Accounts Regularly
Make it a habit to frequently check your financial accounts. This will encourage you to stay on top of your expenditure and make swift changes where necessary. Reconciling your bank statements is made much easier using accounting software like QuickBooks which facilitates efficient payroll, time-tracking, and other bookkeeping and accounting processes.
3. Use Your Assigned Categories for All Transactions
Once you have a list of categories for your business's expenses, assign anything tax-deductible to its corresponding category. Make sure the expenses you assign are business-related to keep your business and personal finances separate. File all of the relevant receipts in physical and digital folders that correspond to your chosen categories.
Deduct as Much as You Can with Business Expense Categories
Taking advantage of all the tax deductions available to you is a commonsense way to claim what is rightfully yours by law. Businesses with meticulous records will find claiming all their deductions much easier and more time-efficient come tax season.
Businesses that work with a tax professional will also find the process of claiming deductions much smoother and potentially reduce their tax liability further. Get professional help to ensure no tax deduction passes you by this tax season.
