Business expenses are just things your business spends money on to keep operating. They include things like:
- Computers and other equipment
- Phone, internet, and utility bills
- Marketing and advertising costs
- Bank and merchant fees
- Gas, car, and other transportation costs
- Postage and shipping
Keeping tabs on them helps you keep track of cash flow, takes the guesswork out of paying estimated taxes and claiming deductions, and can even help you understand what you need to do to increase your profitability.
You’ll also need to keep track of your business expenses if you ever approach a bank for a loan, want an investor to put money into your business, or get sued or audited.
Catching up on a backlog of improperly tracked expenses can take some time. But it’s also a fairly straightforward process, provided you follow these steps:
- Separate them from your personal expenses
- Decide who’s going to be recording expenses and how
- Decide on bookkeeping and accounting systems
- Make sure you’re categorizing them properly
- Hold onto your receipts
- Reconcile expenses with your bank accounts
- Make sure you aren’t missing out on potential deductions
- Make expense-tracking a habit
How to keep track of business expenses
Step 1: Separate them from your personal expenses
Tracking business expenses can be difficult when your business purchases come out of the same checking account you use to pay for movie tickets and eating out.
This almost guarantees that you’re going to have a bad time when tax season rolls around. It could mean a business expense gets buried and you miss out on an important deduction, or a personal expense ends up on your business tax return and you get fined by the IRS.
It could also mean your accountant spends less time doing their job—i.e., helping you save money on your tax bill—and more time housekeeping and sorting through your bank statements.
Finally, if you run a corporation or an LLC, mixing up your personal and business expenses can create liability problems. If there isn’t sufficient distance between your personal and business finances and your company ever declares bankruptcy or gets sued, you could personally be on the hook for its debts.
Step 2: Decide who’s going to be recording expenses and how
Bookkeeping is the process you use to track all of your business transactions, which include business income and expenses.
You have three options when it comes to bookkeeping. Which one you choose depends on who’s doing the bookkeeping:
Option #1: The completely DIY route
If you’re just starting out and don’t have many expenses to track, you can go the DIY route and use a spreadsheet or our handy Excel Income Statement template.
Option #2: Let a robot automate some of it for you
For something a bit more automated, you can use an expense tracking app or software like Mint, which will scan your credit card and bank account statements and upload them into an expense tracking system automatically.
Keep in mind that you’ll be doing more than just simple expense management if you choose this option. This is full-blown bookkeeping and accounting, and you’ll probably want to consult with an accountant to make sure you’re setting everything up properly.
Option #3: With the help of a professional bookkeeper
Finally, if you don’t have time for any of the above, you can hire a bookkeeper to do all of this for you through a service like Bench. (Skip to the ‘benefits of hiring a bookkeeper’ section below if that sounds like you.)
Step 3: Decide on bookkeeping and accounting systems
If you go the DIY route (option #1 above), two other decisions you might have to make are whether to:
- Use single or double-entry bookkeeping
- Record expenses on a cash or accrual basis
Single vs. double-entry
Double-entry is the more complex system, and if you’re just starting out, you probably won’t need to learn how to do it. Most accounting software today will automatically record your expenses in double-entry form, and if you ever hire a bookkeeper or accountant to help you with your books, that’s the system they’ll use too.
Cash vs. accrual
If you’re manually recording your transactions in a spreadsheet, you’ll also have to decide if you want to record those transactions on a cash or accrual basis.
You record transactions on a cash basis only once money has exchanged hands. Many small businesses opt for this system because it’s easy to maintain, doesn’t require you to track receivables or payables, and tells you exactly how much cash you have on hand at any given point in time.
Under the accrual method, you record expenses when you’re billed, in the form of accounts payable, rather than when money actually leaves your wallet or bank account.
Generally speaking, accrual accounting is better for larger, more established businesses. It gives you a more realistic idea of your business’ income and expenses, and provides a longer-term view of the business that cash accounting can’t provide.
Step 4: Make sure you’re categorizing them properly
If you’re using spreadsheets or expense tracking software to record your expenses, you might need to label, categorize, or otherwise tag those transactions to provide context for whoever has to retrieve them later.
Take a receipt from a business lunch at a restaurant, for example. If you plan on deducting it as a business meal with a client on your taxes, you should label it as such in your bookkeeping system.
Properly categorizing and recording your transactions helps your bookkeeper catch more deductions, make your life easier if you ever get audited, and generally makes looking through your financial records a much less painful experience.
How exactly you categorize will depend on your bookkeeping solution. If you’re doing your own bookkeeping, even if it’s just in a spreadsheet, it’s worth talking to a pro when you get started to make sure the expense categories and descriptions you’re using align with industry standards. (And also so they can read your books later.)
Thankfully, most accounting software today will do at least some of this categorizing work for you. If you’re using an online bookkeeping service like Bench, your bookkeeper will also do this work for you.
Further reading: How to Categorize Business Transactions
Step 5: Hold onto your receipts
Did you know that the IRS requires you to keep records and receipts for any expenses you claim on your taxes at least three years after filing the return?
A great way to avoid breaking this rule while also saving time on your bookkeeping is to digitize your receipts using a receipt-scanning mobile app like Shoeboxed or a cloud-based system like Dropbox, Evernote, or Google Drive. You might even consider investing in a dedicated business document scanner like the Kodak Alaris, which can scan and digitize paper receipts, invoices, letters, legal documents, and anything else you might want to store away for later.
If Bench does your bookkeeping, you have the option of uploading and storing as many digital receipts and documents as you’d like in the Bench platform.
Step 6: Reconcile expenses with your bank accounts
This involves looking at the expenses you’ve recorded in your bookkeeping system and making sure that they match up with the expenses on your bank statement.
Bank reconciliations are your first line of defense against any mistakes you might make when recording your expenses. Ideally, you should be doing them at least once a month. (Check out our user-friendly guide to bank reconciliations for a step-by-step guide.)
Step 7: Make sure you aren’t missing any of these popular small business expenses
The IRS’s golden rule on tax deductions is that they must be both ordinary (a common expense in your field) and necessary to your business.
For example, a $900 pen might not fall into the category of “necessary.” But if you’re a professional writer and you need to buy pens for work, you should probably be recording those expenses and deducting them on your taxes.
To make sure you aren’t forgetting anything, we’ve put together a large list of the most common types of business deductions, broken into 16 different expense types. (Click on any of the links below to skip ahead to a particular category.)
- Advertising and promotion
- Business meals
- Business insurance
- Business interest and bank fees
- Business use of your car
- Contract labour
- Home office
- Legal and professional fees
- Moving expenses
- Rent expense
- Salaries and benefits
- Telephone and internet expenses
- Travel expenses
Remember that even if an expense is ordinary and necessary, you may still not be able to deduct all of it on your taxes. The rules around the tax-deductible portion of the rent you pay for your home office, client entertainment, and R&D costs, for example, can get particularly complicated.
If you’re ever unsure about any of those, the IRS has a comprehensive guide to business deductions that you can consult.
Step 8: Make expense-tracking a habit
If you’re a busy small business owner with a million things to do, it’s easy to let bookkeeping fall by the wayside. One way to avoid that is to make it a habit.
Try setting aside and scheduling a ‘bookkeeping day’ once a month to stay on top of your transactions. Use that day to enter any missing transactions, reconcile bank statements, and review your financial statements from the last month.
The benefits of hiring a bookkeeper
If all of the above sounds overwhelming, you might consider hiring a bookkeeper.
Unless your business has dozens of employees or over a million dollars in annual revenue, however, it probably doesn’t make very much sense to hire a full-time, in-house bookkeeper.
That leaves you with three in-between options: hiring a freelance bookkeeper, working with a bookkeeping firm, or using a remote bookkeeping solution.
Hire a freelancer
Freelance bookkeepers tend to be inexpensive, and if you hire someone locally, the connection you build meeting with them in-person can add a layer of trust and confidence to your relationship you might not get elsewhere.
Go to a bookkeeping firm
Firms that specialize in bookkeeping are usually more expensive than independent freelancers, but they also usually have experienced bookkeepers on staff who have dealt with the same problems time and time again.
If you can spare the extra expense and don’t want to experiment with a freelancer, bookkeeping firms are a good bet.
Use a remote bookkeeping solution like Bench
Bench is an online bookkeeping service that caters specifically to business owners who might be struggling to catch up on crucial bookkeeping tasks like business expense tracking.
In addition to compiling all your business transactions for you, we’ll also give you simple software to produce financial statements, track expenses, and help make tax time a breeze.