But which budget categories should you use? That depends on the unique needs of your business. Here are a few common business expense categories to help you get started.
What are some common small business budget categories?
It might be hard to believe, but the IRS doesn’t have a definitive list of every deductible business expense. Instead, the agency offers this general guideline: to be deductible, business expenses must be both “ordinary and necessary.” Ordinary expenses are costs that are common and accepted in your industry. Necessary expenses are helpful and appropriate for your business.
This makes sense because different kinds of businesses will have different expenses and different budget categories. For example, an online boutique will likely spend a large portion of its budget on inventory, social media marketing, and shipping products to customers. On the other hand, a mobile dog groomer might spend money outfitting a van, paying for fuel and oil changes, and replenishing supplies such as shampoo and dog treats. The business budget of a startup will likely look even different, with fewer raw materials and more expensive website hosting.
To help you get started building your budget categories, here are 20 expense categories that most businesses deal with.
Advertising and marketing
To promote your business and attract new clients, you may order business cards, maintain a website and buy social media ads. These types of advertising and marketing expenses are tax-deductible as long as they have a business purpose.
Bank and credit card merchant fees
Any fees you pay for a business bank account, business credit card, or to accept credit card payments from customers are deductible business expenses.
Normally, you can deduct 50% of the cost of business meals, whether you’re wining and dining potential clients or buying pizza for your team while they’re working late.
In 2021 and 2022, business meals are temporarily 100% deductible. This temporary boost is part of an effort by Congress to help the restaurant industry recover from the COVID-19 pandemic. The food and beverage must be provided by a restaurant to qualify. Dine-in, take-out, and delivery meals all count, as long as they have a legitimate business purpose.
Computer hardware and software
If you buy or lease computer hardware or software to use in your business, you may be able to deduct those costs.
How you deduct these costs depends on how much they cost. You can write off computers, peripheral devices and software programs under $2,500 in the year you purchase them. For items that cost more, you may have to use the Section 179 deduction.
Many small businesses hire independent contractors to help with business tasks on an as-needed basis. So whether you hire a virtual assistant to manage your email and book appointments or a graphic designer to design your logo, their fees are fully tax-deductible.
When you purchase furniture, equipment, and other long-term assets for your business, you’re generally required to write off the cost over their useful life. This gradual write-off is known as depreciation, and it’s a deductible business expense.
The dues you pay to networking organizations, such as professional and trade organizations or your local chamber of commerce, are deductible business expenses.
You can’t deduct dues to any organization whose main purpose is to provide entertainment facilities for members, such as country clubs, athletic clubs, or gym memberships.
Education and training
You can deduct education and training expenses for yourself and your employees if the expenses help you maintain or improve skills for your business. This can include in-person or virtual classes and self-study programs.
Insurance is a cost of doing business for most small business owners. You can deduct the cost of general liability, professional liability, commercial property, commercial car insurance, and workers compensation insurance. If you offer health insurance to employees, you can deduct those premiums as well. However, health care insurance for self-employed people is usually not deductible as a business expense — you claim it as an above-the-line deduction on your Form 1040 instead.
The interest you pay on business loans and business credit cards is a deductible business expense as long as you took on the debt for a business purpose.
The Tax Cuts and Jobs Act of 2017 limits business interest deductions, but that rule doesn’t apply to small businesses, which the IRS defines as any business with average annual gross receipts of $25 million or less.
Legal and professional fees
You can deduct the fees you pay to lawyers, accountants, and online bookkeeping services like Bench. If the fee includes both personal and business services, only the part related to the business is deductible.
If you own or rent an office for your business, any expenses related to maintaining the office are deductible. These expenses usually include cleaning supplies, maintenance, and repairs. However, don’t deduct expenses for a home office on your business return. You can claim expenses like your homeowners or renters insurance, HOA dues, and more with the home office deduction.
Postage and shipping
As long as what you’re mailing or shipping is business-related, you can deduct the cost of packaging supplies, postage, envelopes, and delivery services like FedEx or UPS.
Suppose you rent a designated office space, warehouse, or equipment for use in your business. In that case, you can deduct rental payments on your tax return. You can also deduct rental payments for a co-working space, as long as you’re not also claiming the home office deduction.
Salaries and wages
You can claim a tax deduction for the salaries, wages, commissions, bonuses, and other compensation paid to full- and part-time employees.
Any materials and supplies you buy to use in your business that aren’t inventory can be deducted as a business expense.
Taxes and licenses
Unfortunately, you can’t deduct the amounts you pay for federal income taxes, but you can deduct state income taxes, property taxes, sales taxes, excise taxes, and payroll taxes, as long as they have a business purpose.
You can also deduct the cost of business licenses, permits, and other registration fees.
Any business-related travel away from home is deductible. The costs you can deduct include airfare, baggage charges, lodging expenses, car rentals, ridesharing service and taxi fares, public transportation, parking fees, and tolls.
If your trip combines business and personal travel, you must allocate the expenses between business and personal days. For example, suppose you fly to New York City for a five-day business conference and tack two extra days on the end of your trip for sightseeing. In that case, your transportation costs to and from New York are fully deductible. However, you can deduct hotel charges only for the days you’re attending the conference. The extra hotel nights while sightseeing aren’t deductible.
Any utilities you pay for your dedicated office space or warehouse are tax-deductible. This includes electricity, natural gas, water, sewer, and your business cell phone. However, don’t deduct utilities for your home office as a business expense. Those are also part of the home office deduction.
You can deduct the expenses for a vehicle you use in your business. If the car or truck is used only for business, all expenses are deductible. If you use it for both business and personal trips, you can deduct only the business portion.
Further reading: What Are The IRS Mileage Rates?
When and how to categorize your business expenses
Now that you’ve reviewed the list of budget categories, let’s cover some best practices for categorizing and tracking your expenses.
Stay on top of your bookkeeping. Don’t wait until the end of the month or year to track your actual expenses and compare them to your monthly budget. Budgets are much more useful when they’re up-to-date, and you can rely on them to make decisions, plan for cash surpluses and shortfalls, and track your progress towards goals.
Keep it simple. Group categories of like expenses together into budget categories rather than tracking detailed expenses individually. For example, you don’t need to track copier paper, printer ink, and staples separately—group them into office supplies expense. Too much detail makes the budgeting process more time-consuming and prone to error.
Build in flexibility. Your small business budget isn’t set in stone—you need some flexibility to respond to changing market conditions and take advantage of unexpected opportunities. Build that flexibility into your budget by revisiting your budget regularly throughout the year. If you’re in danger of going over budget in one category, you can reduce your spending in another category to ensure you stay on track for your overall financial goals. Make sure that you have extra money in your business emergency fund so you can absorb any unexpected costs or changes in your spending habits.
Major types of business expense categories
In addition to tracking the common budgeting categories mentioned above, you may want to categorize expenses into three major categories: fixed, variable, and periodic.
Fixed expenses are recurring expenses that don’t change from month to month, regardless of sales or production volume. Some common examples include rent or mortgage payments. Fixed costs are easiest to budget for because they’re predictable and regular.
Variable expenses are recurring expenses that change depending on how many goods you produce or services you provide to customers. Common examples of variable costs include direct materials and labor, shipping costs, and commissions paid to salespeople. Variable costs are tougher to budget for than fixed expenses because they can fluctuate daily. That’s why many small businesses budget for variable costs using an annual average plus a buffer of 5% to 10% to cover any increases in the cost of materials and labor.
Periodic expenses usually occur in predictable amounts, but they don’t come up every month. Some examples include a semi-annual property tax bill or a website hosting fee you pay annually. Since periodic expenses don’t fluctuate, they’re easy to budget for. However, they’re also easy to miss because you don’t pay them every month.
Further Reading: Fixed vs. Variable Costs (With Industry Examples)
What small business expenses can’t you write off?
Some perfectly legitimate business expenses are not deductible on your tax return. Examples of non-deductible expenses include:
Clothing for work. You can’t deduct the cost of clothing that is suitable for everyday wear. However, you can deduct uniforms and safety equipment, such as hard hats, work gloves, and safety boots.
Commuting to and from work. While you can claim a deduction for the business use of your vehicle, the IRS doesn’t consider the miles you drive commuting between home and business to be business miles. They’re personal miles and not deductible.
Country club dues. You may network with clients on the golf course, but the dues you pay aren’t deductible. However, if you take clients out to lunch at your club, the cost of the meal is deductible as a business meal.
Entertainment costs. Businesses used to be allowed a 50% deduction for business entertainment expenses, such as tickets to a theater or sporting event to entertain clients or vendors. However, those costs aren’t deductible for 2018 and beyond.
Fines and penalties. Government-imposed fines and penalties typically aren’t deductible, regardless of the amount.
Gifts over $25. If you give gifts to clients or vendors, your deduction is capped at $25 per person.
Political contributions and lobbying expenses. Contributions to particular or candidates or political parties and lobbying expenses intended to influence legislation aren’t deductible. However, you can deduct contributions to non-partisan “get out the vote” initiatives.
Bad debt for cash-basis taxpayers. To deduct bad debts, you must have previously included the amount in your taxable income. Cash-basis taxpayers don’t include accounts receivable in their taxable income, so they can’t write off uncollectible receivables.
How Bench can help
Creating a small business budget from scratch can be daunting. But starting with accurate historical financial statements makes the process a whole lot easier and more accurate. If you’re not caught up on your business bookkeeping or don’t have a consistent bookkeeping process, check out our free guide, Bookkeeping Basics for Entrepreneurs. We’ll walk you through everything you need to know to get started.
If you need a bit more help, get in touch with us. Real financial insights are built on accurate, consistent bookkeeping—and at Bench, bookkeeping is what we do best.