FIFO assigns the oldest inventory costs to cost of goods sold first; LIFO assigns the newest costs first. When unit costs are rising, FIFO usually produces lower COGS, higher ending inventory, and higher profit than LIFO. These are cost-flow assumptions, so the accounting order does not have to match the physical order in which units leave the shelf.
A retailer sells identical desk lamps. During July, it has 450 lamps available: 120 units at $18.40, 180 units at $19.75, and 150 units at $21.10. It sells 320 lamps for $31 each. Total inventory cost available is $8,928, and 130 units remain.
Under FIFO, the 320 units sold come from the oldest layers: all 120 units at $18.40, all 180 at $19.75, and 20 at $21.10. The 130 units left are all from the newest $21.10 layer. Under LIFO, the sale uses all 150 units at $21.10 and 170 at $19.75. The remaining inventory contains 120 units at $18.40 and 10 at $19.75.
| Measure | FIFO | LIFO |
|---|---|---|
| Cost assigned from first layer | 120 × $18.40 = $2,208.00 | 150 × $21.10 = $3,165.00 |
| Cost assigned from second layer | 180 × $19.75 = $3,555.00 | 170 × $19.75 = $3,357.50 |
| Cost assigned from third layer | 20 × $21.10 = $422.00 | None |
| Cost of goods sold | $6,185.00 | $6,522.50 |
| Ending inventory | 130 × $21.10 = $2,743.00 | 120 × $18.40 + 10 × $19.75 = $2,405.50 |
| Check: COGS + ending inventory | $8,928.00 | $8,928.00 |
Sales revenue is $9,920 because 320 lamps sold for $31 each. FIFO gross profit is $3,735: $9,920 revenue less $6,185 COGS. LIFO gross profit is $3,397.50: $9,920 less $6,522.50. The $337.50 profit difference exactly matches the $337.50 difference in ending inventory. No extra economic value appeared under FIFO; the method simply kept the newer, higher costs on the balance sheet rather than expensing them this period.
If prices fall instead of rise, the direction reverses. LIFO would send the newer, lower costs to COGS, while FIFO would expense older, higher costs. If prices do not change, FIFO and LIFO produce the same amounts.
| Measure | FIFO | LIFO | Difference |
|---|---|---|---|
| Sales revenue | $9,920.00 | $9,920.00 | $0.00 |
| Cost of goods sold | $6,185.00 | $6,522.50 | $337.50 |
| Gross profit | $3,735.00 | $3,397.50 | $337.50 |
| Ending inventory | $2,743.00 | $2,405.50 | $337.50 |
FIFO is permitted under both U.S. GAAP and IFRS. LIFO is permitted under U.S. GAAP, and U.S. taxpayers can elect it under Internal Revenue Code section 472, but IFRS does not permit LIFO. IAS 2 identifies FIFO and weighted average as acceptable cost formulas for ordinarily interchangeable inventory. A multinational reporting under IFRS therefore cannot choose LIFO merely for a favorable inflation effect.
A U.S. business considering LIFO also faces tax and consistency rules that go beyond this classroom calculation. IRS Form 970 is used to elect LIFO, and the LIFO conformity rule generally links its tax use to its financial reporting use. Choosing or changing an inventory method is an accounting-policy decision, not a year-end switch made only after seeing which answer produces less tax.
FIFO often resembles the physical flow of food, medicine, and other items that can spoil. LIFO often does not. That does not make the LIFO calculation invalid where it is permitted: the labels describe which historical costs are assigned to COGS, not necessarily which serial-numbered unit a customer receives.
This distinction prevents a common exam mistake. If a problem says a company uses LIFO, start with the latest cost layer even when the warehouse rotates the oldest goods first. Unless the problem asks for specific identification, you are assigning costs, not tracing particular objects.
Under a periodic system, the method is applied to all units available and the ending count at the end of the period. Under a perpetual system, inventory and COGS are updated at each sale. FIFO generally gives the same total under either system because the oldest available layers are always relieved first. LIFO can give different periodic and perpetual results when purchases and sales alternate, because perpetual LIFO can use only the layers available on each sale date.
Before calculating, write either “periodic” or “perpetual” at the top of the page. For perpetual LIFO, rebuild the remaining layers after every sale. For periodic LIFO, wait until period-end and apply the total units sold against the latest layers for the period.
The first error is switching the ending-inventory logic. FIFO sends old costs to COGS, so new costs remain. LIFO sends new costs to COGS, so old costs remain. A useful check is that COGS plus ending inventory must equal total cost of goods available for sale.
The second error is saying FIFO always raises profit. That is true only when costs rise. State the price trend before predicting the direction.
The third error is subtracting COGS from the inventory cost pool to find revenue. Revenue comes from selling price and units sold. Inventory methods allocate product cost; they do not change sales revenue.
First total the units and dollars available before applying either method. Next calculate FIFO and LIFO from the same dataset, without changing selling price, units sold, or purchase costs between columns. Then reconcile each method separately. Only after both columns tie should you compare COGS, ending inventory, gross profit, and any income-tax implication.
A layer diagram makes the mechanics visible. Write the oldest purchase at the top and newest at the bottom. For FIFO COGS, consume from the top downward. For LIFO COGS, consume from the bottom upward. Whatever is not consumed becomes ending inventory. This prevents the common mistake of calculating COGS with one method and ending inventory independently with the other method's logic.
When explaining the result, connect the price trend to the layer that reaches expense. In the lamp example, newer units cost more, so LIFO expenses higher costs sooner. Do not stop at saying one method is conservative or produces a tax benefit. Those labels can fail when costs fall, inventory quantities change, or tax rules differ. State the actual chain: rising costs lead to newer high costs in LIFO COGS, which leads to lower gross profit in this period.
Also separate a temporary timing difference from a permanent economic difference. If all inventory is eventually sold and no new layers replace it, the costs retained under one method eventually reach expense. The methods mainly change when historical costs appear in COGS, although LIFO elections, liquidations, and tax rules can make the practical consequences more involved.
FIFO expenses the oldest costs and leaves the newest costs in inventory; LIFO does the reverse. Under rising prices, that makes FIFO COGS lower and profit and ending inventory higher, but the direction reverses when prices fall.
FIFO assigns the earliest inventory costs to COGS first, while LIFO assigns the latest costs first. The method changes COGS and ending inventory, not the number of units sold.
When purchase costs rise, FIFO normally gives higher profit because older, lower costs enter COGS. When costs fall, LIFO normally gives higher profit. With stable costs, the methods give the same profit.
IAS 2 permits specific identification where appropriate and FIFO or weighted average for ordinarily interchangeable inventory. LIFO is not one of the permitted IAS 2 cost formulas.
Yes, where LIFO is permitted. Inventory methods are cost-flow assumptions and do not have to match the physical movement of individual units.
Not always. If purchases and sales alternate, perpetual LIFO applies the newest cost available at each sale, while periodic LIFO applies the latest costs for the whole period at period-end.
Confirm that units sold plus units remaining equal units available, and that COGS plus ending inventory equals total cost of goods available for sale.
By the FinanceBrain Team · Last verified July 12, 2026 · How we produce and verify articles