Expenses in accounting: What they are and best practices

In accounting, expenses are the costs of doing business, from salaries and rent to utilities and raw materials. Accurate expense tracking is crucial for financial reporting, tax compliance, and profitability analysis. How crucial? Ramp reported that it prevented $2.5 billion in out-of-policy spend in 2024, and all of that might have gone to waste without proper tracking.

Effective expense management helps control costs, optimize cash flow, and improve decision-making. Understanding the fundamentals and best practices is worth every business owner’s time.

What are expenses in accounting?

Expenses in accounting are the costs your business incurs to generate revenue, and you usually organize them by function, timing, and financial impact. Categories include:

How expenses fit into financial statements

Expenses play a big role in a company’s financial statements, affecting profitability and decision-making. They primarily appear in these places:

• Income statement: Expenses reduce total revenue to determine net income. The income statement categorizes expenses into operating and non-operating costs to show profitability.
• Balance sheet: While expenses themselves do not appear directly on the balance sheet, unpaid expenses such as accounts payable show up as liabilities, affecting financial position‍
• Cash flow statement: The cash flow statement tracks when expenses are paid, impacting cash flow from operating activities

Accrual vs. cash basis accounting

When tracking expenses, it's essential to understand the two primary accounting methods: Accrual and cash basis. These methods influence how and when you record expenses in financial statements:

Accrual

Accrual basis accounting recognizes expenses when you incur them rather than when you pay for them. If you order supplies in one accounting period but pay for them later, you’ll record the corresponding debit to an expense account when you receive or use them, not when you settle the invoice.

This gives you a clearer view of your company’s financial health by aligning revenues with corresponding expenses within the same time frame.

Cash

In cash-based accounting, you record expenses in an expense account only when you pay for them. For example, if you purchase supplies on credit in one period but pay in the next, you record that expense when you pay. Smaller businesses often use this method because it’s simple. However, while it’s more straightforward, it may not reflect your financial condition as accurately as the accrual method.

Fixed vs. variable expenses

Fixed and variable costs play a significant role in analyzing expenses, budgeting, forecasting, and overall financial planning. Understanding the difference helps you make informed decisions, manage cash flow, and maintain profitability, especially when scaling operations.

• Fixed expenses: These costs remain constant regardless of the business's level of production or sales. They are predictable and occur regularly, making them easier to plan for. Common examples include rent, insurance premiums, and salaries for permanent employees.
  
  
• Variable expenses: Unlike fixed costs, variable expenses fluctuate with the volume of production or sales. As business activity increases or decreases, these expenses rise or fall accordingly. Examples include raw materials, commissions for sales teams, and utility costs based on usage.

Capital expenditures vs. operating expenses

Distinguishing between capital expenditures (CapEx) and operating expenses (OpEx) helps your business optimize tax benefits and manage cash flow. Both involve spending, but they serve different purposes and affect your financial statements in different ways.

• Capital expenditures (CapEx): These are long-term investments in assets that provide value over multiple years. CapEx includes purchases such as property and equipment. These expenses are capitalized, meaning their cost is spread over time through depreciation or amortization.‍
• Operating expenses (OpEx): These are the day-to-day costs required to run your business, such as rent, utilities, salaries, and office supplies. Unlike CapEx, OpEx is fully deducted from revenue in the period incurred, which directly affects net income.

Common mistakes in expense management

Effective expense management is crucial for maintaining financial health, yet businesses often make costly mistakes. Here are some common pitfalls to avoid:

Best practices for expense tracking and management

Expense tracking and management best practices help your business avoid common mistakes and take better control over spending. Here are some ways to improve your process:

• Use automated expense tracking tools: Accounting software and expense management tools reduce human errors, streamline reporting, and provide real-time insights into spending patterns
• Establish clear expense policies: Create well-defined policies that outline acceptable business expenses, reimbursement procedures, and spending limits. Ensure all employees understand and adhere to these guidelines to maintain consistency.
• Categorize expenses properly: Accurate categorization of expenses improves financial reporting and helps highlight opportunities to reduce costs
• Require real-time expense logging: Encourage employees to log expenses immediately using mobile apps or software. Delayed entries can lead to missing receipts and reporting errors.
• Conduct regular expense audits: Review expenses periodically to detect discrepancies or unauthorized transactions. Internal audits help ensure compliance and prevent fraud.
• Implement approval workflows: Set up a structured approval process for expenses to ensure that purchases align with budget constraints and company policies
• Monitor expense trends and set budgets: Regularly analyze spending trends to identify patterns, manage budgets, and prevent overspending

Bring it all together with Ramp

Tracking expenses by hand and reconciling them with your accounting system can be time-consuming and error-prone. Without seamless integration, businesses risk inefficiencies, inaccurate data, and lost opportunities to optimize spending.

Ramp automates expense tracking and seamlessly integrates with top accounting systems such as QuickBooks, NetSuite, and Xero. With real-time syncing, auto-categorization, and AI-driven insights, you get a complete view of your company’s financial health without the manual work.

Ramp helps you cut costs by identifying savings opportunities and enforcing smart spending controls. It also ensures accurate reporting, faster approvals, and improved cash flow visibility—all in one place.

Ready to take control of your business expenses? Get Ramp.