FIFO vs LIFO: Which Inventory Valuation Method Is Right for Your Business

If you hold inventory, the way you value it changes your reported profit, your tax bill, and your balance sheet. Two methods dominate: FIFO (First In, First Out) and LIFO (Last In, First Out). They're not just accounting jargon — they have real financial consequences for your business.

What FIFO and LIFO Actually Mean

FIFO assumes that the oldest inventory you bought is sold first. When you sell a product, the cost of goods sold (COGS) is calculated using the price you paid for the earliest batch.

LIFO assumes the newest inventory is sold first. The COGS reflects the most recent purchase price.

Neither method has anything to do with how you physically move products. FIFO warehouses physically ship oldest stock first, but the accounting method is separate. You can use FIFO accounting while using LIFO physical rotation, or vice versa.

How Each Method Affects Your Numbers

Example: A Simple Scenario

You buy 100 units at €10 each, then 100 more at €15 each. You sell 100 units at €25 each.

FIFO:

• COGS = 100 × €10 = €1,000
• Revenue = 100 × €25 = €2,500
• Gross profit = €1,500
• Ending inventory = 100 × €15 = €1,500

LIFO:

• COGS = 100 × €15 = €1,500
• Revenue = 100 × €25 = €2,500
• Gross profit = €1,000
• Ending inventory = 100 × €10 = €1,000

The difference is €500 in profit — and potentially hundreds in taxes.

When Prices Are Rising (Inflation)

FIFO shows higher profit and higher taxes. LIFO shows lower profit and lower taxes. This is why many businesses with rising costs prefer LIFO — it defers tax liability.

When Prices Are Falling (Deflation)

The opposite happens. FIFO shows lower profit, LIFO shows higher profit. Periods of deflation make FIFO attractive for tax purposes.

Which One Should You Choose?

Choose FIFO If:

• You're a small business in most countries outside the US (LIFO is not permitted under IFRS, which governs accounting in Europe, Australia, and most of Asia)
• You want your balance sheet to show higher inventory value (useful for loans and investor reporting)
• Your inventory costs are stable or falling
• Physical product rotation matters (perishable goods, fashion, electronics)

Choose LIFO If:

• You're a US-based business (US GAAP permits LIFO)
• Your costs are rising and you want to reduce taxable income
• You're willing to show lower inventory value on your balance sheet
• Physical stock rotation isn't a constraint

Important: Jurisdiction Matters

FIFO is the default method under IFRS (International Financial Reporting Standards), which is used in over 140 countries. If your business is in the EU, UK, Australia, or most of Asia, LIFO is not an option unless you report under US GAAP separately.

For most small businesses outside the US, the choice is simple: use FIFO. It's standard, accepted, and aligns with physical inventory flow.

How to Track Inventory for FIFO

FIFO requires tracking costs by batch. When you receive inventory at a new price, it creates a new cost layer. When you sell, the system pulls from the oldest layer first.

This is manageable with a spreadsheet for 20 SKUs, but becomes complex at scale. Inventory management software can track cost layers automatically and calculate COGS correctly for every sale.

What About Average Cost?

There's a third option: weighted average cost. Instead of tracking individual batches, you calculate the average cost across all units. Every sale uses the same COGS until your next purchase updates the average.

Average cost is simpler than FIFO and LIFO, and is acceptable under both IFRS and US GAAP. It smooths out profit fluctuations but doesn't give you the tax advantages of LIFO or the balance sheet benefits of FIFO.

For most small businesses, the choice comes down to FIFO vs average cost. LIFO is only relevant for US-based companies with rising costs and the ability to report under US GAAP.

Fluxventory handles FIFO cost tracking automatically — it logs every purchase batch by price, calculates COGS per sale, and gives you real-time visibility into your inventory value. Start free at fluxventory.com/register.