If inventory is being valued at cost and the price level is steadily rising, which of the three costing methods (FIFO, LIFO, weighted-average) will yield the lowest annual income tax expense?

Question

Friedman

Business

31 March, 18:35

If inventory is being valued at cost and the price level is steadily rising, which of the three costing methods (FIFO, LIFO, weighted-average) will yield the lowest annual income tax expense?

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Answers (1)

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Abril Davila · Answer 1

LIFO

Explanation:

It will be the one that give higher Cost of goods sold. We also know that:

Cost of goods sold = Opening Inventory + Inventory Purchases - Closing Inventory

So this means the lower the closing inventory the higher the cost of goods sold and in time of price increases it will be more appropriate to use LIFO method which will reduce the Closing Inventory and this will increase the cost of goods sold and thus decrease in profit. This reduced profit means that the tax expense will also be lower in value.

Similarly the second attractive option will be the Weighted Average and the least attractive option would be FIFO costing method.