# LIFO vs. FIFO: Inventory Accounting Methods Compared Published: 2026-03-26 Author: Warren Team URL: https://www.heywarren.com/blog/lifo-versus-fifo --- LIFO (Last-In, First-Out) and FIFO (First-In, First-Out) are the two primary inventory costing methods used to determine the [cost of goods sold (COGS)](/blog/cost-of-goods-sold-computation) and the value of ending inventory on the balance sheet. The choice between them doesn't affect physical inventory — the same goods move through the warehouse regardless — but it dramatically affects reported profitability, taxes, and the accuracy of the balance sheet. FIFO is required under [IFRS](https://www.ifrs.org/) and is the global default; LIFO is permitted only under US GAAP and used primarily for its tax advantages in inflationary environments. Understanding both methods is essential for comparing companies across jurisdictions and analysing what reported earnings actually reflect. ## How FIFO Works Under FIFO, the cost of the **oldest** inventory units is matched against revenue first. The inventory that arrives first is assumed to leave first — which matches the physical flow for most perishable goods (groceries, pharmaceuticals, etc.). **FIFO example** (rising prices): - Beginning inventory: 100 units at $10 = $1,000 - Purchase 1: 100 units at $12 = $1,200 - Purchase 2: 100 units at $14 = $1,400 - Units sold: 200 Under FIFO, COGS = 100 × $10 + 100 × $12 = **$2,200** Ending inventory: 100 units at $14 = **$1,400** The ending inventory on the balance sheet reflects the most recent (highest) purchase prices — making it current and economically meaningful. ## How LIFO Works Under LIFO, the cost of the **newest** inventory units is matched against revenue first. The most recently purchased goods are assumed sold first — rarely reflecting actual physical flow, but producing a higher COGS in rising-price environments. ![Under rising prices, LIFO produces $400 more COGS than FIFO from identical inventory, lowering taxable income.](data:image/svg+xml,%3Csvg%20xmlns%3D%22http%3A%2F%2Fwww.w3.org%2F2000%2Fsvg%22%20viewBox%3D%220%200%20800%20210%22%20width%3D%22800%22%20height%3D%22210%22%20role%3D%22img%22%3E%3Ctitle%3EComparison%3C%2Ftitle%3E%3Crect%20width%3D%22100%25%22%20height%3D%22100%25%22%20fill%3D%22%23f8fafc%22%2F%3E%3Ctext%20x%3D%22230%22%20y%3D%2257.5%22%20text-anchor%3D%22end%22%20font-family%3D%22system-ui%2C-apple-system%2Csans-serif%22%20font-size%3D%2214%22%20font-weight%3D%22600%22%20fill%3D%22%230f172a%22%3EFIFO%20COGS%3C%2Ftext%3E%3Crect%20x%3D%22240%22%20y%3D%2225%22%20width%3D%22380.7692307692308%22%20height%3D%2255%22%20rx%3D%226%22%20fill%3D%22%232563eb%22%2F%3E%3Ctext%20x%3D%22632.7692307692307%22%20y%3D%2257.5%22%20font-family%3D%22system-ui%2C-apple-system%2Csans-serif%22%20font-size%3D%2214%22%20font-weight%3D%22700%22%20fill%3D%22%232563eb%22%3E%242.2K%3C%2Ftext%3E%3Ctext%20x%3D%22230%22%20y%3D%22152.5%22%20text-anchor%3D%22end%22%20font-family%3D%22system-ui%2C-apple-system%2Csans-serif%22%20font-size%3D%2214%22%20font-weight%3D%22600%22%20fill%3D%22%230f172a%22%3ELIFO%20COGS%3C%2Ftext%3E%3Crect%20x%3D%22240%22%20y%3D%22120%22%20width%3D%22450%22%20height%3D%2255%22%20rx%3D%226%22%20fill%3D%22%237c3aed%22%2F%3E%3Ctext%20x%3D%22702%22%20y%3D%22152.5%22%20font-family%3D%22system-ui%2C-apple-system%2Csans-serif%22%20font-size%3D%2214%22%20font-weight%3D%22700%22%20fill%3D%22%237c3aed%22%3E%242.6K%3C%2Ftext%3E%3C%2Fsvg%3E) *Under rising prices, LIFO produces $400 more COGS than FIFO from identical inventory, lowering taxable income.* **LIFO example** (same data): - Units sold: 200 — using most recent purchases first Under LIFO, COGS = 100 × $14 + 100 × $12 = **$2,600** Ending inventory: 100 units at $10 = **$1,000** (stale, outdated cost) The ending inventory on the balance sheet reflects old, low-cost layers that may be 20+ years outdated in a company that consistently uses LIFO — a major balance sheet distortion. ## LIFO vs. FIFO: Impact Comparison | Metric | FIFO (Rising Prices) | LIFO (Rising Prices) | |---|---|---| | COGS | Lower | Higher | | Gross profit | Higher | Lower | | Net income (pre-tax) | Higher | Lower | | Income taxes | Higher | Lower | | Ending inventory (balance sheet) | Higher (current cost) | Lower (stale cost) | | Working capital | Higher | Lower | | Cash taxes paid | Higher | Lower | ![FIFO ending inventory reflects current market prices; LIFO ending inventory carries stale, outdated costs.](data:image/svg+xml,%3Csvg%20xmlns%3D%22http%3A%2F%2Fwww.w3.org%2F2000%2Fsvg%22%20viewBox%3D%220%200%20800%20210%22%20width%3D%22800%22%20height%3D%22210%22%20role%3D%22img%22%3E%3Ctitle%3EComparison%3C%2Ftitle%3E%3Crect%20width%3D%22100%25%22%20height%3D%22100%25%22%20fill%3D%22%23f8fafc%22%2F%3E%3Ctext%20x%3D%22230%22%20y%3D%2257.5%22%20text-anchor%3D%22end%22%20font-family%3D%22system-ui%2C-apple-system%2Csans-serif%22%20font-size%3D%2214%22%20font-weight%3D%22600%22%20fill%3D%22%230f172a%22%3EFIFO%20Inventory%3C%2Ftext%3E%3Crect%20x%3D%22240%22%20y%3D%2225%22%20width%3D%22450%22%20height%3D%2255%22%20rx%3D%226%22%20fill%3D%22%232563eb%22%2F%3E%3Ctext%20x%3D%22702%22%20y%3D%2257.5%22%20font-family%3D%22system-ui%2C-apple-system%2Csans-serif%22%20font-size%3D%2214%22%20font-weight%3D%22700%22%20fill%3D%22%232563eb%22%3E%241.4K%3C%2Ftext%3E%3Ctext%20x%3D%22230%22%20y%3D%22152.5%22%20text-anchor%3D%22end%22%20font-family%3D%22system-ui%2C-apple-system%2Csans-serif%22%20font-size%3D%2214%22%20font-weight%3D%22600%22%20fill%3D%22%230f172a%22%3ELIFO%20Inventory%3C%2Ftext%3E%3Crect%20x%3D%22240%22%20y%3D%22120%22%20width%3D%22321.42857142857144%22%20height%3D%2255%22%20rx%3D%226%22%20fill%3D%22%237c3aed%22%2F%3E%3Ctext%20x%3D%22573.4285714285714%22%20y%3D%22152.5%22%20font-family%3D%22system-ui%2C-apple-system%2Csans-serif%22%20font-size%3D%2214%22%20font-weight%3D%22700%22%20fill%3D%22%237c3aed%22%3E%241.0K%3C%2Ftext%3E%3C%2Fsvg%3E) *FIFO ending inventory reflects current market prices; LIFO ending inventory carries stale, outdated costs.* **In falling-price environments**, the effects reverse: LIFO produces lower COGS, higher income, and higher taxes than FIFO. ## The Tax Advantage of LIFO The primary reason US companies use LIFO is the **tax deferral benefit**. In an inflationary environment: - LIFO produces higher COGS → lower taxable income → lower taxes paid now - The tax savings can be substantial for commodity-intensive businesses (oil refiners, retailers, manufacturers) **LIFO tax example**: If LIFO COGS is $400,000 higher than FIFO COGS, and the tax rate is 25%, the company defers $100,000 in taxes that year. Over decades of rising prices, the cumulative deferred tax liability (the "LIFO reserve" × tax rate) can reach hundreds of millions for large companies. The [IRS](https://www.irs.gov/) requires the **LIFO conformity rule**: if a company uses LIFO for taxes, it must also use LIFO for financial reporting — it cannot report higher profits under FIFO to shareholders while reporting lower profits under LIFO to the IRS. ## The LIFO Reserve: Adjusting for Comparability Companies using LIFO are required to disclose the **LIFO reserve** — the cumulative difference between what inventory would be worth under FIFO vs. current LIFO carrying value. **LIFO reserve formula**: LIFO Reserve = FIFO Inventory Value − LIFO Inventory Value Analysts adjust LIFO-reporting companies to FIFO for comparability: - Add the LIFO reserve to inventory (balance sheet) - Subtract the change in LIFO reserve from COGS (income statement) - Reduce equity by the tax-adjusted LIFO reserve This is essential when comparing a US company using LIFO with international peers using FIFO — the unadjusted comparison overstates the LIFO company's COGS and understates its inventory. ## LIFO Liquidation: A Hidden Earnings Booster When a LIFO-using company sells more inventory than it purchases, it dips into old low-cost layers — a **LIFO liquidation**. This produces artificially low COGS (since you're matching old cheap inventory against current revenues), inflating reported profits. LIFO liquidations are common during recessions (when companies draw down inventory) or when companies switch away from LIFO. Analysts watch for LIFO liquidation disclosures because they inflate earnings without reflecting genuine operational improvement. ## IFRS: LIFO Prohibited Under IFRS (used by 140+ countries), LIFO is **prohibited**. IAS 2 requires either FIFO or weighted average cost. This creates a comparability problem for multinational analysis: - US companies can use LIFO (and many large ones do: ExxonMobil, GM, Caterpillar) - Non-US companies cannot - Direct P&L comparison without LIFO adjustment is misleading ![LIFO is permitted only under US GAAP; IFRS requires FIFO or weighted average cost.](data:image/svg+xml,%3Csvg%20xmlns%3D%22http%3A%2F%2Fwww.w3.org%2F2000%2Fsvg%22%20viewBox%3D%220%200%20600%20211%22%20width%3D%22600%22%20height%3D%22211%22%20role%3D%22img%22%3E%3Ctitle%3EHierarchy%3C%2Ftitle%3E%3Crect%20width%3D%22100%25%22%20height%3D%22100%25%22%20fill%3D%22%23f8fafc%22%2F%3E%3Crect%20x%3D%22220%22%20y%3D%2220%22%20width%3D%22160%22%20height%3D%2258%22%20rx%3D%228%22%20fill%3D%22%232563eb%22%2F%3E%3Ctext%20x%3D%22300%22%20y%3D%2254%22%20text-anchor%3D%22middle%22%20font-family%3D%22system-ui%2C-apple-system%2Csans-serif%22%20font-size%3D%2214%22%20font-weight%3D%22700%22%20fill%3D%22white%22%3EInventory%20Methods%3C%2Ftext%3E%3Cpath%20d%3D%22M%20300%2078%20L%20300%20105.5%20L%20210%20105.5%20L%20210%20133%22%20stroke%3D%22%23cbd5e1%22%20stroke-width%3D%222%22%20fill%3D%22none%22%2F%3E%3Crect%20x%3D%22130%22%20y%3D%22133%22%20width%3D%22160%22%20height%3D%2258%22%20rx%3D%228%22%20fill%3D%22white%22%20stroke%3D%22%230891b2%22%20stroke-width%3D%222%22%2F%3E%3Ctext%20x%3D%22210%22%20y%3D%22158%22%20text-anchor%3D%22middle%22%20font-family%3D%22system-ui%2C-apple-system%2Csans-serif%22%20font-size%3D%2213%22%20font-weight%3D%22600%22%20fill%3D%22%230f172a%22%3EUS%20GAAP%3C%2Ftext%3E%3Ctext%20x%3D%22210%22%20y%3D%22176%22%20text-anchor%3D%22middle%22%20font-family%3D%22system-ui%2C-apple-system%2Csans-serif%22%20font-size%3D%2210%22%20fill%3D%22%2364748b%22%3EFIFO%2C%20LIFO%2C%20Avg%20Cost%3C%2Ftext%3E%3Cpath%20d%3D%22M%20300%2078%20L%20300%20105.5%20L%20390%20105.5%20L%20390%20133%22%20stroke%3D%22%23cbd5e1%22%20stroke-width%3D%222%22%20fill%3D%22none%22%2F%3E%3Crect%20x%3D%22310%22%20y%3D%22133%22%20width%3D%22160%22%20height%3D%2258%22%20rx%3D%228%22%20fill%3D%22white%22%20stroke%3D%22%230891b2%22%20stroke-width%3D%222%22%2F%3E%3Ctext%20x%3D%22390%22%20y%3D%22158%22%20text-anchor%3D%22middle%22%20font-family%3D%22system-ui%2C-apple-system%2Csans-serif%22%20font-size%3D%2213%22%20font-weight%3D%22600%22%20fill%3D%22%230f172a%22%3EIFRS%3C%2Ftext%3E%3Ctext%20x%3D%22390%22%20y%3D%22176%22%20text-anchor%3D%22middle%22%20font-family%3D%22system-ui%2C-apple-system%2Csans-serif%22%20font-size%3D%2210%22%20fill%3D%22%2364748b%22%3EFIFO%2C%20Avg%20Cost%20only%3C%2Ftext%3E%3C%2Fsvg%3E) *LIFO is permitted only under US GAAP; IFRS requires FIFO or weighted average cost.* The [FASB](https://www.fasb.org/) has periodically considered eliminating LIFO for US GAAP convergence with IFRS, but the significant tax consequences (companies would owe large taxes on recognised LIFO reserves) have blocked any change. ## Which Method Should a Company Choose? **Choose FIFO if**: - Operating under IFRS (no choice) - Your inventory is perishable or turns quickly - You want the balance sheet to reflect current inventory costs - Tax minimisation is less of a priority than clean financial statements **Choose LIFO if**: - Operating under US GAAP with significant inventory - Rising input costs make the tax deferral valuable - Your investors understand and accept the balance sheet distortion - You are in a commodity-intensive industry where the tax savings are material ## Conclusion LIFO and FIFO produce materially different financial results from identical physical inventory flows. FIFO gives a more accurate balance sheet and is required under IFRS; LIFO can defer significant taxes in inflationary environments but creates a stale inventory value on the balance sheet. For anyone analysing companies with significant inventory — retailers, manufacturers, energy companies — adjusting for the LIFO/FIFO difference before comparing profitability and asset values is not optional; it's basic financial hygiene. For related accounting concepts, see our guides on [write-downs](/blog/writedown) and [contribution margin calculation](/blog/calculation-contribution-margin). Warren at [heywarren.com](https://heywarren.com) helps investors normalise earnings, adjust for accounting method differences, and build comparable financial models across international peer groups. --- ## Related Reading **More from Warren**: - [Write-Down vs. Write-Off: What They Mean and How They Affect Financial Statements](/blog/writedown) - [Contribution Margin: Formula, Calculation, and How to Use It](/blog/calculation-contribution-margin) - [Profit and Loss Statement: How to Read a P&L and What It Tells Investors](/blog/profit-and-loss-statement) **Authoritative sources**: - [FASB ASC 330 — Inventory](https://asc.fasb.org/330) - [IFRS — IAS 2 Inventories](https://www.ifrs.org/issued-standards/list-of-standards/ias-2-inventories/) - [IRS — LIFO Inventory Method](https://www.irs.gov/businesses/small-businesses-self-employed/last-in-first-out-lifo-inventory-method)