LIFO Reserve

CFAI Reading #17. Q#2 and Q#3. Page 39

In year 2008 LIFO reserve was 117 and during 2009 it was 155. So effectively there is increase in LIFO reserve.

Increase in LIFO reserve is treated as deduction for COGS calculation where as it is has been added for NI Calculation.

What I am getting increase or decrease does not matter it will be treated as per formula.

I think you’re suggesting it doesn’t matter if the LIFO reserve increases or decreases, you simply add it (negative or positive value) to COGS to convert to FIFO? If so, that is a correct statement (and actually how I keep it simple in my mind)

Yes I meant what you actually said. Thank you for confirmation.

Regards

S2000magician can you add any dimension?

COGS(LIFO) is greater than COGS(FIFO) in an inflationary environment

When converting from LIFO to FIFO, assuming rising prices:

COGS(FIFO) = COGS(LIFO) - (Change in LR during the year)

Net Income after tax under FIFO will be greater than LIFO net income after tax by: Change in LR during the year x (1 - Tax Rate)

Equity increases by: LIFO Reserve x (1 - Tax Rate)

Liabilities increase by: LIFO Reserve x (Tax Rate)

Current assets increase by: LIFO Reserve

Short term you’ll have an increase in liabilities (taxes payable). Long term you’ll have a decrease in cash when you pay those higher taxes.

This is the key point: if prices are rising, then ΔLR > 0, so COGS under FIFO is lower than COGS under LIFO; if prices are falling, then ΔLR < 0, so COGS under FIFO is higher than COGS under LIFO.

Thank you ro424 and S2000magician for discussion.

My pleasure.