What Are Tracking Categories in Xero?

Tracking categories in Xero let you tag transactions with extra labels so you can report on different parts of your business separately. Think of them as a second layer of categorisation on top of your chart of accounts.

The most common uses: tracking income and expenses by department, by location, by project, or by cost centre. You get one P&L for the whole business, but you can also break it down by each tracking category to see which department is profitable or which office costs the most to run.

How Tracking Categories Work

Xero gives you up to two tracking categories. Each category has a name (e.g. “Department” or “Location”) and a list of options within it (e.g. “Sales”, “Marketing”, “Operations”).

When you create an invoice, bill, or manual journal, you assign the relevant tracking option to each line item. Later, when you run reports, you can filter or group by tracking category to see the breakdown.

For example, a company with offices in Manchester and London might set up:

  • Tracking Category 1: Location (options: Manchester, London)
  • Tracking Category 2: Department (options: Sales, Marketing, Operations, Finance)

Every transaction gets tagged with both a location and a department. At month-end, you can run a P&L by location to compare Manchester vs London, or by department to see where your costs are concentrated.

Setting Up Tracking Categories Step by Step

  1. Go to Accounting > Advanced > Tracking Categories
  2. Click Add Tracking Category
  3. Enter the category name (e.g. “Department”)
  4. Add your options: click Add Option for each one (e.g. “Sales”, “Marketing”, “Operations”)
  5. Click Save

Repeat for your second tracking category if you need one. Remember, Xero limits you to two – so choose them carefully. If you need more granularity than two categories can provide, you might want to look at Xero Projects instead.

When to Use Tracking Categories vs Xero Projects

This is a common question. Here’s the simple answer:

  • Use tracking categories when you want to see your existing reports (P&L, balance sheet) broken down by department, location, or cost centre. Tracking categories work across all transaction types.
  • Use Xero Projects when you need to track time, costs, and profitability for specific client projects or jobs. Projects are better for service businesses that bill by the hour or need to quote on individual pieces of work.

Many businesses use both. A marketing agency might use tracking categories for department reporting (Creative vs Account Management) and Xero Projects for individual client campaigns.

Using Tracking Categories for Department Reporting

Department-level reporting is the most popular use case. Set up “Department” as a tracking category with one option per department. Then assign every transaction to the right department.

Practical tips:

  • Be consistent – if you don’t tag every transaction, your department reports will be incomplete. Make it a habit to assign tracking categories when entering transactions, not retrospectively.
  • Set a default – for overhead costs that apply to the whole business (like office rent), you can either split them across departments using a manual journal or assign them to a “Head Office” or “Shared” option.
  • Use bank rules – set up bank rules that automatically assign tracking categories to recurring transactions. If your Manchester office rent always comes from the same payee, create a rule that tags it as “Manchester” automatically.

Using Tracking Categories for Multi-Location Businesses

If you operate from multiple sites, locations as a tracking category gives you a clear view of each site’s financial performance. This is especially valuable for:

  • Retail businesses with multiple shops – see which store is most profitable
  • Professional services with regional offices – compare overhead costs per office
  • Property businesses with multiple rental properties – track income and expenses per property
  • Construction companies working across different sites – monitor costs per project location

For landlords specifically, tracking categories are the recommended way to separate income and expenses by property in Xero. This becomes essential under Making Tax Digital for Income Tax, where you need clear records for each income source.

Running Reports with Tracking Categories

Once your transactions are tagged, the reporting is straightforward:

  1. Go to Accounting > Reports
  2. Select the report you want (Profit and Loss is most common)
  3. Click Compare by Tracking Category and select your category
  4. Xero generates a side-by-side P&L showing each option as a column

You can also filter by tracking category on the Balance Sheet, Aged Receivables, Aged Payables, and Budget Variance reports. This gives you a complete financial picture for each department or location.

For management reporting, the tracking category comparison on the P&L is usually the most valuable output. You can export it to PDF or Excel and share it with department heads or business partners who need to see their area’s performance.

Common Tracking Category Mistakes

  • Too many options – if you have 20 tracking options, your reports become unwieldy. Aim for 5-10 options per category. If you need more granularity, consider whether Xero Projects is a better fit.
  • Inconsistent tagging – the biggest problem by far. If half your transactions aren’t tagged, your department reports are meaningless. Use bank rules, set defaults where possible, and review untagged transactions weekly.
  • Using tracking categories for one-off analysis – if you only need to see a breakdown once, running a manual report might be easier than setting up a permanent tracking category. Tracking categories work best for ongoing, recurring reporting needs.
  • Forgetting payroll – don’t forget to assign tracking categories to payroll journals. Staff costs are usually the biggest expense, and if they’re not tagged to departments, your department P&L is misleading.

How JacRox Can Help

Getting tracking categories right from the start means your reports are useful from day one. We set up your categories, configure bank rules to auto-tag transactions, and build the management reports you actually need.

Want department-level or location-level reporting in Xero? Get in touch and we’ll configure it for you.

Related guides: Xero reporting guide | Job costing in Xero | Inventory management in Xero

Not sure where to start? our Xero team can walk you through it.