Managing Your Inventory: How to Mitigate Tax Risks

Volatility in the supply chain is a given in today’s pandemic-disrupted economy. From vodka distilleries transitioning to hand-sanitizer to a single cargo ship halting worldwide shipments, companies are consistently dealing with supply chain challenges and rethinking how they get the supplies to operate their businesses.

In this shifting economy, businesses are ordering higher levels of inventory and paying for it sooner. As inflation, labor costs and fuel prices continue to rise, organizations are willing to pay now to lock in today’s prices. And as the limited supply of raw materials and tight labor markets increase stock lead times, organizations are eager to bring in materials as soon as possible. While the “just-in-time” inventory has a time and place, many companies feel this economy is not.

Companies may be surprised that these inventory purchases may not be immediately deductible in this purchase-heavy environment. Unlike many other operating expenses that allow for immediate deductions, inventory purchases deduct when the stock sells. Rapid inventory turnover generally mutes this tax-timing issue for companies, though companies’ current long lead times and higher costs may present tax issues.

Businesses face a challenge – how can they meet customer needs by having inventory on hand while mitigating the tax effects of waiting to deduct prepaid inventory?

Inventory systems may not have seemed mission-critical in the past, but they are an essential tool in this new landscape. Properly implemented systems allow for more accurate inventory valuation at all times, which can be used to track expensing and inventory valuation. Such systems also provide on-demand company-wide inventory reporting while allowing for in-depth analytics to ultimately better service customers.

Companies large and small must make the most out of every dollar they earn. Because more of each dollar gets spent on inventory, they find new ways to increase efficiency in other departments. Whether through automation, software solutions or different optimization strategies, businesses that look towards innovation will improve customer outcomes. Even seemingly minor changes can have far-reaching effects on each company’s goals.

The CARES Act provided a range of opportunities for companies to receive government loans, grants and other incentives. While some of these programs have sunset, there are still options available for businesses to review their eligibility for the programs. In particular, the Research and Development Credit and the Employee Retention Tax Credit present opportunities for manufacturing businesses. In addition, all businesses should review their current inventory valuation methodology to ensure costs are accurately allocated between inventory and cost of goods sold. Over capitalizing costs into ending inventory can lead to a higher tax bill. Certain small business may be exempt from the tax capitalization requirements, thus lowering inventory costs in a challenging time.

Authors:

Conor Barnes | [email protected]
Kristen Collins | [email protected]