How to Categorize Expenses

In the world of e-commerce, every dollar matters. Meticulously tracking and categorizing expenses is essential for gaining insights into your financial outflows and making informed business decisions. You can achieve better financial clarity by understanding how to classify expenses into fixed and variable categories. Although this process might seem cumbersome, effective expense organization will yield significant benefits over time.

This comprehensive guide will help you identify and track the essential expenses for your e-commerce business. Additionally, we’ll share tips on the best ways to categorize these costs, allowing you to analyze spending patterns and manage budgets more efficiently. With a robust expense tracking system in place, you’ll gain the financial visibility needed to propel your business toward success

Fixed vs Variable Expenses

How to categorize expenses? When categorizing expenses in e-commerce, one of the most fundamental distinctions to make is between fixed and variable expenses. This will help you understand how your costs scale as your business grows.

Fixed expenses stay the same regardless of sales or output volume. For example, rent for your warehouse or office space is usually a fixed cost, as is the salary you pay yourself or your employees. You have to pay these expenses even if you don’t make any sales in a given month.

Variable expenses are costs that fluctuate based on the volume of sales or output. For example, the fees you pay for payment processing are variable because they increase as you process more transactions. The classification of expenses includes shipping costs, which are also variable since you ship more products with a higher sales volume.

Some common fixed costs in e-commerce include:

  • Rent
  • Salaries & benefits
  • Office Supplies
  • Software subscriptions
  • Insurance

Some variable expenses include:

  • Cost of goods sold
  • Merchant processing fees
  • Shipping & fulfillment
  • Marketing expenses like ads
  • Packaging materials

Knowing how to categorize expenses between fixed and variable expenses allows you to predict how your total costs will change as sales grow or decline. This helps with budgeting and making sure the business model is profitable. 

Direct vs. Indirect Expenses

When classifying expenses in e-commerce, it’s essential to understand how to categorize expenses with direct and indirect costs.

Direct expenses are costs directly attributed to producing or acquiring a specific product or service. Some examples of direct expenses for an e-commerce business include:

  • Product costs – What you pay suppliers for inventory
  • Shipping costs – What you pay for shipping products to customers
  • Payment processing fees – Fees for processing customer payments
  • Packaging costs – Materials to package products for shipping

Indirect expenses are costs not directly tied to a specific product or service. Indirect expenses are often called “overhead costs” and support the business’s general operations. Some examples of indirect expenses include:

  • Rent – Costs for warehouse or office space
  • Utilities – Electricity, gas, water, etc.
  • Insurance – Property, liability, etc.
  • Accounting fees – Fees paid to an accountant or bookkeeper
  • Office supplies – General supplies like paper, pens, computers, etc.

The critical difference is that direct expenses can be traced back to a specific product/service, while indirect expenses are more general operational costs. Knowing how to categorize expenses will provide valuable insights into the profitability of particular products and the overall health of your e-commerce business.

Cost of Goods Sold (COGS)

Cost of Goods Sold (COGS) refers to the direct costs of producing a company’s goods or services. It includes all expenses directly tied to production, such as:

  • Raw materials – the components or ingredients needed to manufacture a product. For example, fabric for clothing, wood for furniture, ingredients for food products, etc.
  • Direct labor – the wages paid to employees directly involved in making the products. This includes factory workers, production supervisors, etc.
  • Manufacturing overhead – other production costs like electricity, equipment rental, factory maintenance, insurance on production facilities, etc.

COGS does not include how to categorize expenses like administrative costs, marketing, or distribution. It only covers those expenses directly tied to creating the product itself.

Some common examples of COGS for e-commerce businesses:

  • Online retailer – the wholesale cost of the merchandise, import duties, freight, and warehouse costs for stored inventory.
  • Software as a Service (SaaS) – server usage, data fees, software licenses, and technical support for running the platform.
  • Subscription box – the products included packaging, shipping materials, and production labor.
  • Online course creator – video production costs, course author fees, and course software.

Accurately classification of expenses is direct production costs as COGS is critical for e-commerce accounting and determining profit margins.

One-Time vs Recurring Expenses

Understanding how to categorize expenses in e-commerce, it’s important to distinguish between one-time and recurring expenses. One-time expenses are costs that you pay only once. These are typically startup costs when launching an e-commerce business. Examples include:

One-time expenses are costs that you pay only once. These are typically startup costs when launching an e-commerce business. Examples include:

  • Domain registration and website development
  • Incorporation fees
  • Purchase of equipment and tools
  • Office furniture
  • Custom branding assets (logo, branding guidelines, etc.)

Recurring expenses are costs you pay on an ongoing basis to run your e-commerce operations. These include:

  • Hosting, domain renewal, and other web maintenance fees
  • Subscription fees for tools and software
  • Rent and utilities
  • Payroll
  • Inventory purchases
  • Shipping supplies
  • Marketing and advertising spend

Understanding how to categorize expenses is crucial for effective budgeting. One-time costs, such as fixed setup expenses, differ from recurring costs, which are variable operating expenses that fluctuate monthly. 

Keeping these categories distinct enables accurate projections of future cash flow needs as your business expands. Analyzing one-time versus recurring expenses offers valuable insights into the overhead necessary to sustain and scale your e-commerce venture.

Logistics & Fulfillment Expenses

Logistics and fulfillment costs are essential expenses for any e-commerce business. The classification of expenses includes all the costs of storing inventory, packing, shipping orders, and delivering products to customers.

Some common examples of logistics and fulfillment expenses include:

  • Warehousing and storage costs include renting warehouse space and storage facilities to hold your inventory. The more inventory you stock, the higher these costs will be.
  • Fulfillment fees – Many e-commerce sellers outsource order fulfillment to third-party logistics (3PL) providers. These companies charge fees to pick, pack, and ship your customer orders for you.
  • Packaging supplies – All the materials needed to package products for shipment, such as boxes, bubble wrap, tape, and labels.
  • Shipping supplies – Packing slips, return labels, and other shipping-related supplies.
  • Postage and shipping fees – The actual costs carriers pay to deliver packages. Shipping rates vary by carrier, delivery speed, and package weight.
  • Delivery personnel – If you handle fulfillment in-house, the labor costs of employees involved in fulfillment.
  • Returns processing – Fees related to receiving, processing, and reshipping customer returns. An allowance for returned/defective inventory may also be budgeted.
  • Inventory management software – Tools to efficiently manage and track inventory across multiple locations and sales channels.

The classification of how to categorize expenses is essential to maintaining profit margins in e-commerce. Evaluate different 3PL providers, negotiate shipping contracts, optimize packaging, and minimize returns to keep these expenses in check. 

Suggested Read:

What is an Expense Tracking System

Let itilite Handle Your Company’s Expenses

This classification of expenses can help organizations stay up to date on every expense incurred and maintain financial records, improving the company’s overall growth. However, manually classifying expenses can be time-consuming and tedious, impacting productivity. This is why you need robust expense management software to help you with such tasks.

itilite SaaS-based expense management software helps you seamlessly classify expenses and create expense reports. With itilite, you can streamline expense management for your business by automating expense reporting. The software lets your employees scan and submit their receipts on the go and automatically creates an expense report. 

Schedule a demo now to learn more about how automated expense management works.