While converting COGS to FIFO type, why do we subtract the change in LIFO reserve and not the LIFO reserve itself? I know that in inflationary environment COGS in FIFO would be less than COGS in LIFO and we have to subtract. However, I don’t get why we need to subtract the change instead of the value itself.
LIFO reserve itself is added to the inventory under LIFO in order to get the inventory under FIFO.
The change in LIFO reserve is added to the COGS under FIFO in order to get the COGS under LIFO.
So we can conclude:
Inventory under LIFO < Inventory under FIFO
COGS under LIFO > COGS under FIFO
Since inventory is an accumulated account (Balance sheet) and the LIFO reserve is the accumulated difference between inventory under FIFO and LIFO, then in order to calculate inventory under FIFO you add the LIFO reserve to the inventory under LIFO.
COGS is a flow, is the cost of goods sold in a certain period (a day, a month, a year), so you can’t add an accumulated account to a flow account right? Easy to remember: Income Statement accounts are flows, so need to add the variation, not the stock.
Hope this helps!
The LIFO reserve is the accumulation of many years of differences between FIFO inventory and LIFO inventory (equivalently, the accumulation of many years of differences between LIFO COGS and FIFO COGS).
Because the balance sheet is a presentation of the accumulation of many years of corporate activity, the adjustment of inventory on the balance sheet has to be the accumulation of many years of differences: the entire LIFO reserve.
Because the income statement is the presentation of only one year of corporate activity, the adjustment of COGS on the income statement has to be only that year’s difference: the change in the LIFO reserve.