Conversely, a FIFO system will continually clear out old layers of costs, so that multiple costing layers do not have a chance to accumulate. Reduces taxes payable in periods of declining costs. Though it is very unusual to see declining inventory costs, it sometimes occurs in industries where there is either strong price competition among suppliers or else extremely high rates of innovation that in turn lead to cost reductions.
Less risk of outdated costs in inventory. In a supermarket, the shelves are stocked several rows deep with products. A shopper will walk by and pick products from the front row. If the stocking person is lazy, he will then add products to the front row locations from which products were just taken rather than shifting the oldest products to the front row and putting new ones in the back.
The concept is best illustrated with an example. In the next row of data, an additional 1, units were bought on June 4, , of which only units were used. There are several factors to consider before implementing a LIFO costing system. They are: m m m m m Many layers. Though this is not important when a computerized accounting system is used that will automatically track a large number of such layers, it can be burdensome if the cost layers are manually tracked.
Alters the inventory valuation. Reduces taxes payable in periods of rising costs. This is the principle reason why LIFO is used by most companies.
Requires consistent usage for all reporting. The result of this rule is that a company cannot report lower earnings for tax purposes and higher earnings for all other purposes by using an alternative inventory valuation method. Interferes with the implementation of just-in-time systems. This method computes a conversion price index for the year-end inventory in comparison to the base-year cost.
This index is computed separately for each company business unit. The conversion price index can be computed with the double-extension method. Under this approach, the total extended cost of the inventory at both base year prices and the most recent prices are calculated.
Then the total inventory cost at the most recent prices is divided by the total inventory cost at base year prices, resulting in a conversion price percentage, or index. The index represents the change in overall prices between the current year and the base year.
This index must be computed and retained for each year in which the LIFO method is used. Tax regulations require that any new item added to inventory, no matter how many years after the establishment of the base year, have a base-year cost included in the LIFO database for purposes of calculating the index.
This base-year cost is supposed to be the one in existence at the time of the base year, which may require considerable research to determine or estimate. Only if it is impossible to determine a base-year cost can the current cost of a new inventory item be used as the base-year cost. In the second year, ABC extends the total year-end inventory by both the base-year price and the currentyear price, as shown next.
The next step is to calculate the incremental amount of inventory added in year 2, determine its cost using base-year prices, and multiply this extended amount by our index of The incremental amount of inventory added is the year-end quantity of 7, units, less the beginning balance of 3, units, which is 3, units. In year 3, the amount of ending inventory has declined from the previous year, so no new layering calculation is required. Instead, ABC assumes that the entire reduction of 1, units during that year was taken from the year 2 inventory layer. In year 4, there is an increase in inventory, so ABC calculates the presence of a new layer using the next table.
This approach is designed to avoid the problem encountered during double-extension calculations, where one must determine the base-year cost of each new item added to inventory. However, tax regulations require that the link-chain method be used for tax reporting purposes only if it can be clearly demonstrated that all other dollar-value LIFO calculation methods are not applicable due to high rates of churn in the types of items included in inventory.
The link-chain method creates inventory layers by comparing year-end prices to prices at the beginning of each year, thereby avoiding the problems associated with comparisons to a base year that may be many years in the past. This results in a rolling cumulative index that is linked hence the name to the index derived in the preceding year. In brief, a link-chain calculation is derived by extending the cost of inventory at both beginning-ofyear and end-of-year prices to arrive at a pricing index within the current year; this index is multiplied by the ongoing cumulative index from the previous year to arrive at a new cumulative index that is used to price out the new inventory layer for the most recent year.
However, we have also noted the beginning inventory cost for each year and included the extended beginning inventory cost for each year, which facilitates calculations under the link-chain method.
bands.vinylextras.com/templars-quest-ghost-killer-templars-quest-chronicles.php This is the same percentage calculated for year 2 under the double-extension method, because the beginning-of-year price is the same as the base price used under the doubleextension method. This is less than the amount recorded in year 2, so there will be no inventory layer. Instead, we must reduce the inventory layer recorded for year 2. The primary differences between the two methods is the avoidance of a base-year cost determination for any new items subsequently added to inventory, for which a current cost is used instead.
The weighted-average costing method is a weighted average of the costs in inventory. The weighted average of all units in stock is determined, at which point all of the units in stock are accorded that weighted-average value. When parts are used from stock, they are all issued at the same 50 Inventory Accounting weighted-average cost. This system has no particular advantage in relation to income taxes, since it does not skew the recognition of income based on trends in either increasing or declining costs.
This makes it a good choice for those organizations that do not want to deal with tax planning. There is a maximum of 1 purchase per month, with usage reductions from stock also occurring in most months. Each of the columns show how the average cost is calculated after each purchase and usage transaction.
During the month in which the units were purchased, units were sent to production, leaving 50 units in stock. Next we proceed to the second row of the exhibit, where we have purchased another 1, units of BK on June 4, Only units are sent to production during the month, so we now have units in stock, of which are added from the most recent purchase.
The third row reveals an additional inventory purchase of units on July 11, , but more units are sent to production during that month than were bought, so the total number of units in inventory drops to column 5. Thus, reductions in inventory quantities under the average costing method require little calculation—just charge off the requisite number of units at the current average cost. These costs include the sales tax and ownership registration fees if any. Also, the cost of all freight, insurance, and duties required to bring the asset to the company can be included in the capitalized cost.
Further, the cost required to install the asset can be included. Installation costs include the cost to test and break in the asset, which can include the cost of test materials.
However, if the asset is acquired by taking on a payable, such as a stream of debt payments or taking over the payments that were initially to be made by the seller of the asset , the present value of all future payments yet to be made must also be rolled into the recorded asset cost. If the stream of future payments contains no stated interest rate, one must be imputed based on market rates when making the present value calculation. If the amount of the payable is not clearly evident at the time of purchase, it is also admissible to record the asset at its fair market value.
If an asset is purchased with company stock, assign a value to the assets acquired based on the fair market value of either the stock or the assets, whichever is more easily determinable.
Louis Motor Car Company issues shares of its stock to acquire a sheet metal bender. A year later, the company has taken itself private and chooses to issue another shares of its stock to acquire a router.
If a company obtains an asset through an exchange involving a dissimilar asset, it should record the incoming asset at the fair market value of the asset for which it was exchanged. However, if this fair value is not readily apparent, the fair value of the incoming asset can be used instead. If no fair market value is readily obtainable for either asset, the net book value of the relinquished asset can be used.
A company may trade in an existing asset for a new one, along with an additional payment that covers the incremental additional cost of the new asset over that of the old one being traded away. The additional payment portion of this transaction is called the boot. All other information remains the same.
If a group of assets are acquired through a single purchase transaction, the cost should be allocated amongst the assets in the group based on their proportional share of their total fair market values. There is no ready market for the machines. Dakota hires an appraiser to determine their value. Once an asset is put into use, the majority of expenditures related to it must be charged to expense. If an asset must be replaced that is part of a larger piece of equipment, remove the cost and associated accumulated depreciation for the asset to be replaced from the accounting records and recognize any gain or loss on its disposal.
In addition, the cost of the replacement asset should be capitalized and depreciated over the remaining term of the larger piece of equipment.