To minimize income tax in a period of decreasing inventory costs, which inventory costing method should a company use?

In a scenario where a company is experiencing decreasing inventory costs, using the FIFO (First-In, First-Out) method can minimize income tax liabilities. This is because FIFO assumes that the oldest inventory items are sold first. When costs are declining, the older inventory will have a higher cost compared to the newer, cheaper inventory. As a result, the cost of goods sold (COGS) reported on the income statement will be higher because it reflects these higher costs.

This higher COGS reduces the taxable income, leading to lower income taxes for the period. In contrast, methods like LIFO (Last-In, First-Out) or weighted average might result in a lower COGS in a declining cost environment since they would incorporate the lower-cost items in the expense calculation, potentially leading to higher taxable income and, consequently, a higher tax liability. Specific identification is typically used for unique items, making it less relevant in broad inventory management strategies involving cost minimization in taxation. Thus, FIFO is the most beneficial approach in this situation.