What is lifo?

LIFO, which stands for “last in, first out,” is an inventory accounting method used by many companies across multiple industries in the U.S. to determine both book income and tax liability. LIFO is used to mitigate the damage of inflation and maintain supply chains. The most recent cost of inventory is deducted when sold, so when prices are rising LIFO more closely matches the cost of goods sold with replacement inventory. 

LIFO is NOT a tax loophole, as some have claimed. It is a legitimate, Congress-passed tax accounting method accepted by accountants, tax lawyers, the IRS, the SEC, and Congress since the 1930s.

If the business utilizes inventory that can go up and down in price on a consistent basis, LIFO accounting helps balance out that dynamic to ensure the business is getting an accurate measure of performance. LIFO only provides tax deferral if inventory costs are rising and inventory is replenished. If inventory costs do not rise or inventory is not replenished, a taxpayer has to repay the LIFO benefit through a recapture tax.

Once a company elects to use LIFO, it requires IRS approval to change its accounting method. Taxpayers may not pick and choose between LIFO and FIFO at a moment’s notice in order to get the best tax outcome. So, once a business decides to use the LIFO method, that business also assumes the ongoing risk of increased tax costs if fluctuating inventory costs go down.

In previous years, some in Congress have suggested repealing LIFO as a way of increasing revenue to pay for new spending or deficit reduction. Abolishing the LIFO accounting method would discriminatorily and retroactively increase taxes for hundreds of thousands of American businesses that have fluctuating inventory costs. The detrimental impact of LIFO repeal would reverberate across the economy, as this misguided tax hike could force thousands of small businesses to shut down completely.