How do you calculate COGS for a business? Small shop struggling with inventory for taxes

Thanks for explaining! My product costs did change a bit during the year since my suppliers raised prices twice. Would that be a problem with the yearly average method? Also, do I need receipts for every single inventory purchase or will my credit card statements be enough for tax purposes?

If your costs increased multiple times during the year, you might want to calculate quarterly averages instead of one annual average. This gives you more accuracy without the headache of monthly tracking. This approach better reflects your actual costs as they changed through the year. For documentation, credit card statements are helpful but not sufficient alone. The IRS prefers actual invoices and receipts that clearly show what was purchased, quantities, and costs. If audited, you'd need to show these purchase records to substantiate your COGS deduction. I recommend organizing digital copies of all supplier invoices by quarter to support your calculations.

How does the system handle variations in product costs throughout the year? Like if I bought materials at different prices or had some items that were way more expensive than others?

Sounds interesting but kinda skeptical. Does it actually connect to Etsy directly or do you have to download all your transaction reports first? And how accurate was it compared to what you would've calculated manually?

The system handles cost variations really well! It can track price changes over time and calculate weighted averages for each product category. It's especially helpful if you have seasonal products or price fluctuations from suppliers. You don't connect it directly to Etsy - you download your Etsy CSV files and upload them to the platform. It was surprisingly accurate - I spot-checked about 50 transactions manually and it matched my calculations but did it way faster. It even flagged some supplier invoices I had accidentally counted twice in my spreadsheet.

Wait, you actually got through to a real IRS person? How long did it take with this service? Whenever I call about business tax questions I'm on hold for 2+ hours and usually give up.

This sounds like BS honestly. The IRS barely answers their phones and when they do, they give different answers depending on who you talk to. What makes you think they'll give you the right info about COGS when most of their phone reps aren't even accountants?

The service connected me with an IRS representative in about 45 minutes. They handle the waiting, and you only get called when an actual person is on the line ready to talk. It beats the 3+ hours I spent trying on my own multiple times. I understand the skepticism about IRS advice consistency. You're right that different agents sometimes give different answers. That's why I made sure to take detailed notes, got the agent's ID number, and asked specifically for the section of the tax code that covered my situation. The agent actually seemed knowledgeable about small business inventory methods and confirmed that my approach was acceptable.

Does your method work if you have hundreds of different products? I sell a ton of different items on my Etsy shop and this sounds really time-consuming to maintain.

You're right that it gets more complex with hundreds of products. I have about 65 products and it's manageable. For larger inventories, I'd recommend grouping similar products into categories with similar margin profiles. You could also look into inventory management software that integrates with Etsy. I've heard good things about Craftybase and Inventory Planner - both calculate COGS automatically and connect to sales platforms. Might be worth the investment if manual tracking is becoming too burdensome with your product volume.

That formula is correct, but the challenge is figuring out the ending inventory value when you haven't been tracking it throughout the year. You'd need to do a physical count and valuation of everything left, which can be a huge task if you have lots of products!