Inventory/Cost of Goods Sold for 2021 is showing up as $0

[jhinboco]

My husband has a small home business manufacturing and selling skin care products.  As I was getting ready to do that part of our tax return I realized I didn't have an inventory amount for the end of 2021.  The inventory for 2020 was $320, which seemed low to me.  Turns out he didn't include all the inventory in his count at the end of 2020 (labels, product containers, materials for the manufacture of the products).  I had him do a full inventory for the end of 2021 and we calculated $884.  After entering that total for the end of 2021 and then entering the cost of goods, the total for 2021 is $0.  If my inventory at the end of current tax year is significantly more than the end of the previous year, will that cause my total to go to $0?  I'm using the cost method to value inventory.

[DianeW777 · Accepted solution]

No, your total does not go to zero.  First we need to tackle the inventory tax law for small business right now, based on the enactment of the Tax Cuts and Jobs Act (TCJA).

• According to TCJA, businesses with gross receipts below $26 million (for 2021) are considered eligible to use the cash method of accounting for their inventory.

My advice is to eliminate inventory/cost of goods (COGs) section and simply enter the purchases as materials or supplies expense.  What's happening in your scenario, I believe, is that you put the full inventory as the end of year amount. When you do that it's like this is sitting on the shelf because you didn't sell it yet.  You no longer have to do that and you can deduct your purchases for resale completely without holding anything out for inventory on December 31 each year.

Additional details you may find interesting.

• TCJA Comparison for Businesses: The law expands the number of small business taxpayers eligible to use the cash method of accounting and exempts these small businesses from certain accounting rules for inventories, cost capitalization and long-term contracts. As a result, more small business taxpayers can change to cash method accounting starting after Dec. 31, 2017. 
• Revenue Procedure 2018-40 provides further details.
  • (1) Description of change. This change applies to a small business taxpayer, as defined in section 15.18(5)(a) of this revenue procedure, that wants to change its § 471 method of accounting for inventory items to one of the following:
    • (a) treating inventory as non-incidental materials and supplies under § 1.162- 3; OR or
    • (b) conforming to the taxpayer’s method of accounting reflected in its applicable financial statements, as defined in § 451(b)(3), with respect to the taxable year, or if the taxpayer does not have an applicable financial statement for the taxable year, the books and records of the taxpayer prepared in accordance with the taxpayer’s accounting procedures.

The choice is yours. For this reason you can list your inventory as materials and supplies each year without carrying an ending inventory amount as long as you meet the gross receipts qualifier.  Under the revenue procedure, the gross receipts threshold in IRC Section 448(c) increases from $26 million for taxable years beginning in 2021 to $27 million for taxable years beginning in 2022.

[jhinboco]

Thanks for the detail.  I really appreciate the explanation you offered.  I'll make the adjustments and get the expenses in the proper field.  

[fcesarz]

I have a memorabilia business (sole proprietor).  I sell through ebay.  Can I use the cost method of accounting for FY 22 taxes (need to file by Oct).   Last year I used the accrual method.