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Understanding the Tax Treatment
of Inventory: The Role of LIFO
• Last-in, First-out (LIFO) and First-in, First-out (FIFO) are two methods of
inventory accounting used for both financial accounting and tax purposes.
• Both LIFO and FIFO rely on the accounting principle of deducting costs from
income when goods are sold.
• This principle often comes into conflict with the economic principle of
deducting costs when incurred, as inflation does not reduce the value of the
deduction in real terms.
• However, LIFO comes close to matching the economic ideal while still
remaining true to the accounting principle.
• Repealing LIFO would disincentivize inventory investment, hampering efforts
to make U.S. supply chains more resilient.
• Repealing LIFO would also reduce economic growth and penalize industries
that typically keep more inventory on hand.
Federal Policy Analyst
Federal Tax Economist
TAX FOUNDATION | 2
The tax treatment of inventories may be an obscure policy, but it is still significant. Repealing Last-In,
First-Out accounting appeared in many Obama administration budget proposals and was included in
the Dave Camp tax reform package in 2014. Today, thanks to several factors such as rising inflation,
high deficits, supply chain issues, and industry-specific concerns, LIFO has re-entered the policy
discussion. While repealing LIFO might seem like an inconsequential way to raise revenue, it would
penalize investment in inventory and move the ta