Which of the following inventory valuation methods minimizes

Which of the following inventory valuation methods minimizes income tax expense during a period of rising inventory costs?

a first-in, first-out

b. last-in, first-out

c. weighted-average

d. specific identification

Solution

Answer: b) last-in, first-out (LIFO) inventory valuation method minimizes income tax expense during a period of rising inventory costs.

The Inventory valuation method uses directly affected the company \" Cost of good sold\", which is an expense. The higher the expenses lower the net income, and hence the lower income tax liability. In usually, the first-in, first-out (FIFO) inventory valuation method will produce a higher net income,hence a higher tax liability, than the LIFO method.

An example a ABC Company buys a pen on january 1 for $50. On June 1, it buys Same pen for $60, and on October1, it buys yet another same pen for $75. On November1, the company sells one of the pens. It bought the pens at three different prices,so what cost should its cost of goods sold.

FIFO method: under the FIFO method, the first item purchased is also the first one sold. hence the cost of goods sold would be $50.Since this is the lowest-cost item in the example, profits would be highest under FIFO. hence higher the profit, higher the income tax expense.

LIFO method: under the LIFO method, the last item purchased is also the first one sold. hence the cost of goods sold would be $75.Since this is the highest-cost item in the example, profits would be lowest under LIFO. hence lower the profit, lower the income tax expense.