In inventory valuation, which statement is true about FIFO and LIFO?

In inventory valuation, which statement is true about FIFO and LIFO?

• A. FIFO always results in lower taxes than LIFO
• B. In rising prices, FIFO yields higher ending inventory and higher reported income
• C. LIFO results in higher ending inventory than FIFO in rising prices
• D. FIFO uses latest costs; LIFO uses earliest costs

Answer: (B)

When prices rise, the way you move costs between cost of goods sold and ending inventory changes both the reported ending inventory value and net income. FIFO assumes the oldest (lower) costs are used to price COGS, so the ending inventory is valued with the newer, higher costs. That means ending inventory appears higher, and COGS is lower, which raises gross profit and net income. LIFO, by contrast, uses the newest (higher) costs for COGS, pushing ending inventory down to the older, lower costs and reducing reported income. So the statement that FIFO yields higher ending inventory and higher reported income in rising prices is the correct one. A note on taxes: in rising prices, FIFO typically leads to higher taxable income (and higher taxes) than LIFO. The other options are inconsistent with how FIFO and LIFO allocate costs. FIFO uses oldest costs for COGS and leaves newer costs in ending inventory, not the opposite.

When prices rise, the way you move costs between cost of goods sold and ending inventory changes both the reported ending inventory value and net income. FIFO assumes the oldest (lower) costs are used to price COGS, so the ending inventory is valued with the newer, higher costs. That means ending inventory appears higher, and COGS is lower, which raises gross profit and net income. LIFO, by contrast, uses the newest (higher) costs for COGS, pushing ending inventory down to the older, lower costs and reducing reported income.

So the statement that FIFO yields higher ending inventory and higher reported income in rising prices is the correct one. A note on taxes: in rising prices, FIFO typically leads to higher taxable income (and higher taxes) than LIFO. The other options are inconsistent with how FIFO and LIFO allocate costs. FIFO uses oldest costs for COGS and leaves newer costs in ending inventory, not the opposite.