LIFO Accounting FAQs

Your LIFO Accounting questions, answered.

Frequently Asked Questions for
LIFO Accounting

What is LIFO?

LIFO stands for “Last-In, First-Out.” It’s an inventory cost flow assumption and identification method that assumes the most recently purchased items are sold first.

What are the requirements for LIFO?

In order to use LIFO, a company must formally elect to do so through filing Form 970 – Application to Use LIFO Inventory Method. Should a company wish to make any changes to the accounting method, they must do so on Form 3115 – Application for Change in Accounting Method. The company is also required to use LIFO for financial reporting purposes, the “LIFO conformity requirement.”

Why use LIFO?

LIFO can potentially reduce income taxes during periods of inflation by lowering reported cost of goods sold (COGS), leading to higher taxable income. It can also simplify record-keeping for certain industries.

Who uses LIFO?

Any company affected by inflation and with a substantial inventory may use LIFO. Manufacturers, retailers, and wholesalers all use LIFO. Various industries such as oil & gas, chemical, metal, lumber, hardware, grocery, and building supplies all use LIFO.

What happens when inventory quantities fluctuate?

When inventory levels fail to increase faster than cumulative inflation, older inventory layers are removed, effectively paying back the LIFO reserve attributable to those layers.

How does LIFO affect financial statements?

LIFO can lower reported COGS and net income during inflation, potentially decreasing tax liability. Conversely, in deflationary periods, it can artificially inflate COGS and decrease net income.