Question

Why is COGS more expensive for LIFO? What do they mean when they say they assign the latest Cost of goods purchased to cost of goods sold? Why is it expensed differently

Answer 1

COGS refers to the cost of goods which are sold. LIFO last in last out is the method of valuing inventory and finding the cost of goods sold. Let us understand LIFO with the help of an example

Suppose, Following details are available on purchases and 500 units are sold

Date               Purchase (Units)      Unit Price

01-Jan              300                              4

31-Mar              200                              6

30-Sept             100                              7

Now for LIFO valuation we would sell the inventory which has been purchased at the latest that is first we would sell 100 units purchase on 30-Sept at cost of $ 7, than we would sell 200 at cost of $ 6 and than 200 units at cost of 4, this will make our cost of Goods sold as (100*7 + 200*6 + 200*4) = $ 2700, the cost of goods sold would have been (300*4) + (200*6) = $ 2400 if we would have sold the inventory which was available earlier first and than the remaining would be treated as inventory. This happens because generally the goods purchased earlier are cheaper than goods purchased later due to inflation and other factors, hence LIFO method is expensive for calculating Cost Of Goods Sold.

This method will lead to payment of lower income tax due to higher costs if the prices of the commodities keep on increasing.