Inventory valuation (FIFO and average cost)

BDC says inventory is often one of the most valuable assets a business owns, so how it is counted and priced at closing matters. For a business that is not an adventure or concern in the nature of trade, section 10(1) of the Income Tax Act values inventory at year-end at the cost at which the taxpayer acquired the property or its fair market value at year-end, whichever is lower, or in a prescribed manner, subject to the other rules in section 10.

Cost methods

The CRA’s archived bulletin IT-473R discusses first in, first out (FIFO) and average cost as ways to determine cost. It says the last in, first out method and the base stock method are not accepted for income tax purposes as methods of determining cost. The CRA also says that once you choose a method of inventory valuation, you have to continue to use the same method in later years; section 10(2.1) of the Act sets that rule, subject to its own exceptions.

What to ask in a sale

• Which basis the agreement uses for the closing count, since the tax method is a separate question
• Who counts the stock and when
• How damaged or slow-moving items are treated

See how inventory is valued in a business sale and inventory turnover. This entry covers the federal tax rule; provincial income tax is not covered here.