Inventory Valuation Methods Impact on VAT

Inventory Valuation and VAT

Inventory Valuation and VAT

Would changing the inventory valuation method from First In First Out (FIFO) to Weighted Average (WA) or vice versa reduce my VAT payments?

VAT is computed on the amount paid to purchase or sell an item. So, in case a retailer purchases stock for 1,000 BD from a distributor, the VAT amount would be 50 BD on top of the 1,000 BD that is to be paid for the stock.

Subsequently, when the retailer sells the stock for 2,000 BD, he would have to collect 100 BD on top of the 2,000 BD as output tax. The retailer would then deduct the 50 BD paid to the distributor from the 100 BD collected from the customer and give the difference (50 BD) to the government.

Inventory valuation on the other hand has to do with calculating the value of stock that a company has on hand in order to identify the value of the assets in stock and accordingly the Cost of Goods Sold when a sale is done.

To clarify this, let’s take an example of an item that a reseller purchases at one time for 10 BD and another time for 9 BD and then sells the items for 20 BD.

 

Weighted Average Method

If the reseller buys 100 items for 1,000 BD at 10 BD a piece and then another 100 of the same item for a discounted price of 9 BD a piece for a total of 900 BD, the value of each stock item would be (1000 + 900)/200 = 9.5 BD if the reseller was following the Weighted Average inventory valuation method. Therefore, for each sale of this item, the reseller would have to record COGS of 9.5 BD.

The reseller would have paid 5% on each purchase, hence, he would have paid 50 BD on the first purchase and 45 BD on the second purchase totalling 95 BD.

The reseller would then sell each of the 200 items for 20 BD and collected 5% VAT on each sale totalling 200 BD for all the items (200 x 20 BD x 0.05 = 200 BD).

Finally, the reseller would deduct the 95 BD VAT that he paid to his distributor from the 200 BD VAT that he received from his customers and pay the difference (200 – 95 = 105 BD) to the government.

 

First In – First Out (FIFO) Method

If the same reseller is following the FIFO inventory valuation method, the reseller would have to track the sales of the items to make sure that for the first 100 items sold, a COGS of 10 BD is recorded, and then the next 100 items a COGS of 9 BD is recorded. However, the reseller would still have paid 50 BD VAT for his first purchase and 45 BD VAT for his second purchase. Moreover, the reseller would still have collected 5% VAT for each of the items sold. Assuming that the selling price was maintained at 20 BD per item, the total VAT that he would have collected for all 200 items would still be 200 BD.

Again, the reseller would have to deduct the 95 BD that he paid on his purchases from the 200 BD that he collected from his customers and pay the difference (105 BD) to the government.

As we can see from the preceding example, the inventory valuation method has nothing to do with the amount of VAT that is going to be paid. Inventory valuation methods are concerned with the value of stock and COGS while VAT impacts the selling/purchasing price of the goods.

 

Advantages of using Accounting Software

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Accounting SW

Accounting SW

Advantages of using Accounting Software

Updated accounting data has many advantages for any establishment, and these advantages will be more valuable if you manage it through an accounting software. Through it you will know what happens in your business, reports will be generated automatically and without losing effort or time in them.

Accounting software or accounting systems are designed to organize, control and simplify accounting tasks within a company, whether a small, medium or multinational company. The implementation of accounting software in your company allows you to unify and automate the accounting and commercial operation, and to manage resources more efficiently.

All this will cause you to improve a lot in the management and planning of the company’s financial and accounting resources.

Therefore, let us discuss about the benefits of using accounting software:

  1. Savings.

Generally, a software transforms the operative tasks into automatic tasks. This allows users to save a lot of their company’s resources such as time and people; for instances, a company will need fewer people and less time to accomplish a task, as accounting software streamlines each task that you had to do manually before.

Accounting software allows you to save a lot of time, not only with the updated operational functions, but also with the ease of generating statistics and quality reports. In addition, having everything automated reduces the possibility of errors.

  1. Improvement of business management

Accounting software facilitate the management and decision making of the company, by having the ‘management of income and expenses accounts’ feature, in which the data are unified and stored in one place. Moreover, the data will be provided to keep the business running smoothly, to take it on the right path.

  1. Simplification

Keeping up to date accounting and doing it properly has been a big headache for many workers. However, accounting software allow users to simply automate the work and streamline the daily tasks; users will have time to focus on important tasks and free up from unnecessary manual activities and the stress they bring.

  1. Availability

Having the information unified and centralized all in one Accounting software, allows users to have the data always available, and to access it at all times and without any limitation. As before employees had to always access from the same computer or depend on the report, nowadays employees work with information stored in the cloud, allowing them to manage the information from any place and at any time.

 

  1. Confidentiality and security

Accounting software in the cloud gives you the peace of mind you need. Your information is available 24/7, at your fingertips when and where you require it, stored in fully reliable and secure systems, away from any computer attack or any accident. You can monitor your accounting movements from your preferred mobile device: cell phone, tablet, laptop, etc. With your updated information you have transparency and facility to make decisions. The benefits of accounting software in the cloud are mainly:

  • have the information updated;
  • access the information you require on time;
  • Keep all information secure.

There is no better way to ensure compliance with accounting standards than to use a solid accounting system. H.A. Consultancies provides a full range of accounting systems that can accommodate for the needs of any small, medium, or large companies operating in Bahrain. Our accounting experts will be able to provide guidance in choosing the best accounting software to meet your needs and help setup the system and migrate accounting data error-free.