Choosing the right inventory valuation methods is a critical accounting decision that directly impacts your cost of goods sold (COGS), net income, and tax liability. For small businesses, the two most common methods are First-In, First-Out (FIFO) and Last-In, First-Out (LIFO).
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FIFO (First-In, First-Out): Assumes the oldest inventory items are sold first. In times of rising costs, this results in a lower COGS and a higher net income, which is generally preferred by investors.
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LIFO (Last-In, First-Out): Assumes the newest inventory items are sold first. In times of rising costs, this results in a higher COGS and a lower net income, which can lead to tax savings.
While LIFO is popular in the US for tax purposes, many international accounting standards (like IFRS) prohibit its use. Your choice between FIFO vs LIFO should be guided by your accountant and the specific regulations in your region. Regardless of the method, a robust inventory system is essential for accurately tracking the cost flow of your goods.
