Inventory valuation method where newest stock is sold first
LIFO stands for Last In First Out, an inventory valuation method where the most recently purchased or manufactured goods are assumed to be sold or used first. Under LIFO, the cost of goods sold (COGS) is based on the price of the newest inventory, while the remaining stock is valued at older purchase prices. During periods of inflation, LIFO results in higher COGS and lower reported profits, which can reduce tax liability. However, it is important to note that LIFO is not permitted under Indian Accounting Standards (Ind AS) and IFRS for financial reporting purposes. Despite this restriction, understanding LIFO is valuable for Indian business owners who deal with international suppliers or global accounting practices. Some businesses use LIFO internally for management reporting and decision-making, even though they must use FIFO or weighted average for statutory filings.
You buy 50 bags of rice on 1st April at Rs. 2,000 per bag, and 50 more bags on 10th April at Rs. 2,200 per bag. On 15th April, you sell 30 bags. Using LIFO, the cost is calculated from the latest purchase: 30 x Rs. 2,200 = Rs. 66,000 as COGS. The remaining inventory is 20 bags at Rs. 2,200 + 50 bags at Rs. 2,000 = Rs. 1,44,000. Compare this to FIFO where COGS would be 30 x Rs. 2,000 = Rs. 60,000.
Cost of Goods Sold = Cost of Newest Inventory x Quantity SoldExample: If you bought 100 units at ₹50 on 1st March and 100 units at ₹60 on 15th March, then sell 80 units, LIFO COGS = 80 × ₹60 = ₹4,800. The remaining stock is 20 units at ₹60 + 100 units at ₹50 = ₹6,200.
Indian Accounting Standards (Ind AS 2) and IFRS prohibit LIFO because it does not reflect the actual physical flow of goods in most businesses and can distort balance sheet values. Indian businesses must use FIFO or weighted average for financial reporting and tax purposes.
Understanding LIFO helps if you deal with international clients or suppliers who use US GAAP (where LIFO is allowed). It also helps you understand how different valuation methods affect profit and tax calculations, making you a more informed business owner.
During inflation (rising prices), LIFO shows higher COGS (since newer, costlier stock is expensed first) and therefore lower profit. FIFO shows lower COGS and higher profit. For example, if prices are rising, LIFO would reduce your taxable income compared to FIFO.
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