Strategy, Legal & Operations

FIFO vs. LIFO: Differences, formulas, and examples

FIFO and LIFO value your inventory in opposite ways, and the difference shows up directly in your profit, taxes, and balance sheet. Here’s how each method works, with formulas and worked examples.

Published September 16, 202610 min read Share

This article was originally published on April 9, 2025 but has been refreshed and re-published with new content in September 2026.

Tracking costs accurately is essential for effective inventory management and two of the most common inventory valuation methods are First In, First Out (FIFO) and Last In, First Out (LIFO).

Which method you choose affects several metrics, such as your Cost of Goods Sold (COGS), your taxable income, and how strong your balance sheet looks to lenders or investors.

But what are the key differences between FIFO and LIFO? How do you calculate each one, and which method fits your business?

Before you choose an approach, learn about both methods. Explore worked examples, a side-by-side comparison table, and a decision framework—plus discover how inventory management software can handle the calculations for you.

Key takeaways

• FIFO values inventory by selling or using your oldest stock first; LIFO values inventory by selling or using your newest stock first.
• The method you choose changes your COGS, your taxable income, and how strong your balance sheet looks.
• FIFO is permitted under both US Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS); LIFO is permitted under GAAP only.
• Weighted Average Cost (WAC) is a third option that smooths out price swings between FIFO and LIFO.
• Inventory management software can run all three calculations for you automatically, reducing manual errors.

Here’s what we’ll cover:

What is FIFO?

FIFIFO (First In, First Out) is an inventory valuation method where your business sells or uses the oldest stock first.

This approach mirrors the natural flow of inventory, making sure older products are used before they expire or become obsolete.

Advantages and disadvantages of FIFO

Choosing FIFO as your inventory valuation method can simplify your books and boost profits in some conditions, but it can also create tax and accuracy challenges in others.

Understanding the benefits and potential drawbacks will help you decide whether FIFO fits your inventory management strategy.

Advantages

• Good for record-keeping: FIFO constantly uses up the oldest inventory layers, reducing the need for extensive records. This makes it easier to monitor your inventory value and predict gross profit.
• Higher profits during inflation: since FIFO sells older, lower-cost inventory first, your profits typically appear higher when prices rise.
• Reflects actual inventory flow: this method follows the natural movement of stock, making it a good fit if your business sells perishable or time-sensitive products such as fresh food, cosmetics, or pharmaceuticals.
• Improves financial transparency: FIFO clarifies inventory costs and aligns well with financial reporting standards.

Disadvantages

• Higher taxes during inflation: increased profits result in a higher taxable income, which could lead to more significant tax liabilities for your business.
• Less accurate cost tracking in volatile markets: if inventory prices fluctuate frequently, using older costs for COGS may not reflect the true cost of replacement stock, potentially impacting pricing decisions.

What is LIFO?

LIFO (Last In, First Out) is the opposite of FIFO. It assumes that the newest inventory is sold first, while older stock remains on the books.

This method can significantly impact your business’s financial statements, especially during inflation.

The LIFO formula is:

LIFO cost of goods sold (COGS) = cost of newest inventory × units sold

Advantages and disadvantages of LIFO

LIFO can be a strategic choice for businesses looking to reduce taxable income during inflation, but it comes with regulatory restrictions and can weigh down how healthy your financials appear.

Here’s a breakdown of its pros and cons:

Advantages

• Higher COGS and lower taxable income during inflation: LIFO can help your business reduce tax liability by using newer, more expensive inventory first. This method can help keep tax costs lower. It’s often useful for retail companies that need to stay on top of trends and quickly sell fashionable items, and it’s also helpful for supermarkets dealing with fluctuating food prices.
• Improved cash flow: by lowering taxable income, your business may have more cash on hand.

Disadvantages

• Not permitted under IFRS: if you’re an international business, you may not be allowed to use LIFO for tax purposes.
• Lower inventory value on financial statements: since older, lower-cost inventory remains on the books, it can make your financial statements look weaker.

Calculating LIFO and FIFO: Examples

Understanding how FIFO and LIFO impact cost of goods sold is easier with real-world examples.

Let’s take a look at how each method is applied to the same inventory purchases and sales, leading to different financial outcomes.

Example of calculating FIFO COGS

Imagine you’re the inventory manager of a clothing retailer’s warehouse.

Your business purchases inventory in the following order:

• January: 100 units at $10 each
• February: 100 units at $12 each

Later, in March, a total of 120 units are sold.

Using the FIFO inventory method formula, the oldest stock is sold first:

• The first 100 units from the January purchase are sold at $10 each.
• The remaining 20 units come from the February purchase at $12 each.

COGS = (100 × 10) + (20 × 12)

COGS = 1,000 + 240 = 1,240

Therefore, the cost of goods sold under FIFO is $1,240.

Example of calculating LIFO COGS

Again, imagine your business buys inventory on the following dates:

• January: 100 units at $10
• February: 100 units at $12

Later, in March, your business sells 120 units.

Under the LIFO inventory method formula, the most recent stock is sold first:

• The first 100 units from the February purchase are sold at $12 each.
• The remaining 20 units come from the January purchase at $10 each.

COGS = (100 × 12) + (20 × 10)

COGS = 1,200 + 200 = 1,400

Your cost of goods sold under LIFO is $1,400, which is higher than FIFO’s $1,240.

This example highlights how LIFO results in higher costs and lower reported profits, particularly during periods of rising prices, making it a common choice for businesses looking to reduce taxable income.

Weighted Average Cost (WAC) example

Weighted average cost is a third inventory valuation method that assigns the same average cost to every unit, rather than tracking specific purchase layers like FIFO and LIFO do.

Using the same purchase data (200 units bought, 120 units sold), weighted average cost blends the two purchase prices into a single per-unit cost:

Average cost per unit = (100 × 10 + 100 × 12) ÷ 200 = 2,200 ÷ 200 = $11

COGS = 120 × 11 = $1,320

Weighted average cost lands between FIFO’s $1,240 and LIFO’s $1,400, which is the method’s main appeal: it smooths out the swing between the other two methods rather than sitting at either extreme.

FIFO vs. LIFO: Key differences

FIFO and LIFO both assign a cost to each unit sold, but they pull from opposite ends of your inventory (first in or last in).

This means different profit and tax outcomes during inflation (FIFO produces lower COGS and higher profits, LIFO the reverse), and it also affects how complex your reporting gets and how your balance sheet looks.

Complexity of fluctuation reporting

Using FIFO, the cost of goods usually stays stable, making it easier to track inventory and costs.

Prices can change with inflation or deflation, but the inventory layers generally reflect recent prices.

With LIFO, inventory layers can build up over time, making average costs harder to track and reporting more complex.

These layers make price changes harder to isolate, since adjusting one layer can affect the reported cost of everything sold after it.

Balance sheet impact

FIFO values ending inventory at the most recent purchase costs, making financial statements appear stronger.

LIFO, on the other hand, values inventory at older, lower costs, which can make your balance sheet look weaker, even if the business is performing the same.

Regulatory compliance

FIFO is permitted under both IFRS and GAAP rules, making it a widely accepted inventory valuation method.

LIFO is not allowed under IFRS but can be used under GAAP, making it a viable option if your business is based in the United States.

FIFO versus LIFO versus weighted average cost at a glance

Factor	FIFO	LIFO	Weighted average cost
Cost flow assumption	Oldest inventory sold first	Newest inventory sold first	Costs blended across all units
COGS during inflation	Lower	Higher	Between FIFO and LIFO
Reported profit during inflation	Higher	Lower	Between FIFO and LIFO
Ending inventory value	Higher (recent costs)	Lower (older costs)	Between FIFO and LIFO
Permitted under IFRS	Yes	No	Yes
Permitted under GAAP	Yes	Yes	Yes
Best fit	Perishable or time-sensitive stock	Reducing taxable income where allowed	Businesses wanting stable, predictable costs

Choosing between FIFO and LIFO depends on your business goals, tax strategy, and financial reporting needs.

If reducing taxable income is a priority for your financial strategy, LIFO may be beneficial, but for a more transparent and widely accepted method, FIFO is often the preferred choice.

Other factors to consider when choosing FIFO vs. LIFO

Most comparisons of FIFO vs. LIFO assume that prices are rising, since that’s the more common scenario, but a few other factors are worth weighing before you settle on a method.

Price direction can flip the calculus

Everything above assumes rising prices.

If your costs are trending down, the effects reverse: LIFO produces the lower COGS and higher reported profit, while FIFO produces the higher COGS and lower profit.

Deflation is less common but worth checking before assuming FIFO or LIFO will behave the way they typically do.

What you sell matters as much as pricing

Perishable or fast-moving stock (food, fashion, electronics) tends to suit FIFO regardless of price trend, since it mirrors how the stock actually leaves your shelves.

If you hold slower-moving stock, it’s also worth checking it against dead stock and obsolete inventory risk, since older layers can sit on the books far longer under LIFO than FIFO.

Pairing your valuation method with a just-in-time inventory management approach can help limit that.

Cash flow needs can outweigh the tax math

If freeing up cash for reinvestment matters more than minimizing reported profit, LIFO’s tax deferral during inflation can help, even if the balance sheet ends up looking weaker as a result.

Which method is best for your business?

There’s no single right answer here, as the best method for your business depends on what you’re optimizing for:

• Choose FIFO if you hold perishable or fast-moving stock, want higher reported profits, or need IFRS compliance.
• Choose LIFO if reducing taxable income during inflation is the priority and your local rules allow it. Just watch for dead stock risk.
• Choose weighted average cost if your stock is stable or slow-moving and predictable costs matter more than optimizing for either extreme.

Two things matter regardless of which you pick.

First, consistency. Switching methods partway through a reporting period can complicate Days Inventory Outstanding (DIO) calculations and other trend-based metrics, so most businesses stick with one method year over year.

Second, if you’re not sure where to start, running an ABC analysis on your inventory can help you see which stock actually drives your costs, which often makes the decision more obvious.

Strengthen your finances with inventory management software

Whether you run a small or growing business, the right inventory management software helps streamline operations by automating FIFO, LIFO, or weighted average cost calculations.

Built-in tools for tracking, valuing, and managing stock help make sure your team stays accurate and efficient at every stage of the inventory process.

You can also pair such tools with an order management system so the sales data driving your COGS calculations also stays accurate.

That’s because it’s your order volume and timing that actually determine which inventory layer gets used up under FIFO or LIFO.

With the right solution, you can:

• Track inventory costs with ease, monitoring stock movements and pricing in real time to maintain precise records.
• Generate real-time financial reports to gain insights into inventory costs, profitability, and trends to support better decision-making.
• Ensure tax compliance with automated calculations and reporting, helping you to meet regulatory requirements and reduce costly errors.

If your business manages inventory across multiple locations or a manufacturing operation, dedicated distribution and manufacturing capabilities can extend these calculations across your full supply chain, from raw materials to finished goods.

FAQs about LIFO and FIFO

Why is LIFO not allowed under IFRS?

The International Financial Reporting Standards (IFRS) board removed LIFO as an acceptable method because it can distort reported profits and inventory values during periods of changing prices, making it harder to compare financial statements across businesses and countries.

US GAAP still permits LIFO, so the rules that apply to your business depend on where you report and file taxes.

What are the main inventory valuation methods?

The three most common inventory valuation methods are FIFO, LIFO, and weighted average cost. Some businesses also use specific identification, which tracks the exact cost of each individual item rather than assuming a flow of costs. The latter is typically reserved for high-value or unique items, like vehicles or jewelry, rather than general stock.

What’s the difference between FEFO and FIFO or LIFO?

FEFO (First Expired, First Out) prioritizes stock by expiration date rather than purchase date. This matters for perishable goods like food or pharmaceuticals, where two batches bought on the same day might expire at different times.

FIFO and LIFO are based purely on when inventory was purchased, not when it expires, so FEFO is often used alongside FIFO rather than instead of it.

Browse more topics from this article

• Accounting 101
• Business intelligence
• Inventory management
• Productivity
• Stay competitive
• Supply chain management