Can I switch from FIFO to LIFO mid-year, or do I have to wait until the next tax year?

You cannot switch to LIFO mid-year. The IRS requires that you make this election by filing Form 970 with your tax return for the year you want to begin using LIFO. This means if you want to start using LIFO in 2025, you must file the election with your 2025 tax return (due in 2026). However, once you make this election, it applies to the entire tax year. Planning ahead is crucial because missing this deadline means waiting another full year to implement LIFO.

What happens to my LIFO benefits if my business gets audited by the IRS?

During an IRS audit, agents will scrutinize your LIFO calculations and documentation more closely than other accounting methods. The key is maintaining detailed records of purchase dates, quantities, and costs for each inventory layer. If the IRS finds inconsistencies or inadequate documentation, they can disallow your LIFO election entirely, forcing you to recalculate taxes using FIFO for all examined years. This could result in significant back taxes, penalties, and interest. The best protection is working with a qualified accountant and maintaining meticulous inventory records from day one.

If I use LIFO and decide to sell my business, how does it affect the sale price and taxes?

When selling a business that uses LIFO, the built-up "LIFO reserve" (the difference between your LIFO inventory value and what it would be worth under FIFO) becomes a critical factor. Buyers often want to see the "real" inventory value, which means adjusting for this reserve. Additionally, if the sale results in liquidating your inventory, you'll face "LIFO recapture" – meaning all those years of tax savings get reversed in the year of sale. This can create a substantial tax hit that many business owners don't anticipate. Smart exit planning involves strategies to minimize this impact, such as gradually reducing inventory levels in the years leading up to a sale.