This can lead to issues if you're audited. If you carry inventory, then report it as such regardless of your gross receipts. There are reasons for this that matter to *you*. If you report your inventory as an expense, then when you do something like remove some of that inventory for personal use, it can become a bookkeeping nightmare. If your inventory is volatile (goes bad, or expires) then when/if audited you will have a hard time proving your losses.
Play it safe, and report your inventory in COGS. It's not that hard, as I've been doing it for years.
Inventory is defined as those items or materials when assembled, become a material part of the product you sell. It does not including packaging. It's only those materials that become "a physical part of" the product you sell.
- Beginning of Year (BOY) Inventory - this is what *you* paid for the inventory in your physical possession on Jan 1 of the tax year. It does not matter in what year that inventory was purchased either. The amount entered here *MUST* match your End of Year (EOY) inventory from the previous year. So if 2016 is the first year you are reporting inventory, your BOY Inventory amount *must* be zero.
- End of Year (EOY) Inventory - this is what *you* paid for the inventory in your physical possession on Dec 31 of the tax year. It flat out does not matter in what year that inventory was purchased either.
- Cost of Purchases - What *you* paid for the inventory you actually sold in the tax year. This will include the cost of any "free samples" or the such that you may have given away and/or used for advertising purposes. If used for advertising, you can not claim the cost a second time in the advertising expenses section. That would be double-dipping.
- Purchases withdrawn for Personal Use - That inventory included in the BOY Inventory figure above, that you removed for your personal use, or the use of your family/friends.
- Labor Cost - what you paid an employee to do something such as assemble the product using the materials you paid for and reported the cost of in the BOY Inventory box.Generally if you're reporting labor cost, that means you either have employees to whom you will be issuing a W-2, or contractors to whom you may be issuing a 1099-MISC.
- Materials & Supplies. These are items used in the manufacture of your final product, yet may or may not become "a material part of" the final product. For example, sandpaper, glass cleaner, protective plastic sheets (like you have on a new computer when you purchase it, and have to peel it off when you unpack it.) The first two are "consumables" that are used to finish and clean your product. The last one is to keep the product from being scratched or tarnished before it's sold.
- Other cost ot Prepare for Sales - The key word is "prepare". Examples would be packing materials, shipping boxes, tape and the such.
After you've entered the above information, the next screen will give you your preliminary gross profit. Doesn't mean it's all taxable though. You have to finish the business section first, to see what the net taxable profit is.
