Question

The management of Svetlana Corp. is considering the effects of inventory-costing methods on its financial statements and its income tax expense. Assuming that the price the company pays for inventory is increasing, which method will:

a. Provide the highest net income, LIFO or FIFO?

b. Provide the highest ending inventory, LIFO or FIFO?

c. Result in the lowest income tax expense, LIFO or FIFO?

Answer 1

Under FIFO (First in, First out ) method, goods purchased first are assumed to be sold first.

Under FIFO, Cost of goods sold will comprise of units purchased earlier. As there are rising inventory prices, so Cost of goods sold will be lower as earlier units have been purchased at lower cost, resulting in higher net income.

Under LIFO (Last in, First out ) method, goods purchased last are assumed to be sold first.

Under LIFO, Cost of goods sold will comprise of units purchased later at higher cost, leading to higher cost of goods sold and lower net income. Lower net income will lead to lower taxes.

a. Provide the highest net income FIFO

b. Provide the highest ending inventory, FIFO

c. Result in the lowest income tax expense, LIFO