How Should I Prepare for Tax Season If My Business Carries Inventory?

If your business carries inventory, tax season requires more preparation than simply handing off bank statements to your CPA.

Inventory affects how your income is calculated, how expenses are deducted, and how accurately your financials reflect the health of your business. 

Without the right systems in place, it can also create surprises — unexpected tax bills, compliance issues, or hours of cleanup when deadlines are already tight.

Here’s how to prepare for tax season if your business sells physical products, and how to avoid common inventory-related tax mistakes.

Why Inventory Changes How You Prepare for Taxes

Inventory isn’t treated the same way as most business expenses. 

When you purchase products to sell, those costs usually aren’t deductible right away.

Instead, they become part of your cost of goods sold (COGS) and are deducted only when the inventory is sold.

That means inaccurate inventory tracking can:

• Overstate or understate your taxable income
• Delay deductions you expected to take
• Create inconsistencies that raise red flags during tax filing

In short, inventory connects your operations, bookkeeping, and tax liability more tightly than many founders realize.

Step 1: Make Sure Your Inventory Records Are Accurate

Before tax season begins, confirm that your inventory numbers are correct.

This includes:

• • Beginning inventory for the year
  • Purchases made throughout the year
  • Ending inventory on hand

If your counts are off, your COGS calculation will be wrong, and so will your taxable income.

Many small businesses discover too late that their inventory records live in multiple systems (spreadsheets, ecommerce platforms, POS tools) that don’t reconcile. 

Cleaning this up early saves significant time and stress later.

Step 2: Understand How Your Accounting Method Affects Inventory

Inventory is closely tied to your accounting method, typically cash or accrual accounting.

• • Cash method: Income and expenses are recorded when money changes hands. Some small businesses can use this method, but inventory often complicates it.
  • Accrual method: Income and expenses are recorded when they’re earned or incurred, regardless of payment timing. This method aligns more naturally with inventory tracking.

The IRS has specific rules around which businesses must use accrual accounting for inventory. Using the wrong method — or applying it inconsistently — can cause compliance issues.

This is one area where professional bookkeeping support can prevent costly corrections later.

Step 3: Review Your Cost of Goods Sold (COGS)

COGS includes more than just the cost of products. Depending on your business, it may also include:

• • Shipping and freight costs
  • Packaging materials
  • Direct labor related to production
  • Manufacturing or assembly costs

If these expenses aren’t categorized correctly, you may be underreporting COGS and overpaying in taxes.

Tax season is the time to review whether your COGS calculation truly reflects what it costs you to deliver your product.

Step 4: Identify Obsolete, Damaged, or Unsellable Inventory

Not all inventory holds its original value forever.

If you have:

• • Outdated products
  • Damaged goods
  • Inventory that can no longer be sold

You may be able to write down or remove that inventory, depending on your situation and accounting method.

This requires documentation and accurate records — another reason inventory management shouldn’t be an afterthought.

Step 5: Reconcile Inventory With Your Financial Statements

Your inventory numbers should match what’s reflected on your balance sheet and income statement.

Discrepancies between inventory records and financial statements can:

• • Delay tax filing
  • Create confusion for your CPA
  • Undermine confidence in your financial reports

Regular reconciliation throughout the year makes tax season far less disruptive.

Common Inventory Tax Mistakes to Avoid

Many business owners run into trouble by:

• Expensing inventory purchases immediately instead of tracking COGS
• Failing to count year-end inventory accurately
• Mixing personal and business purchases
• Relying on outdated or manual inventory tracking systems

These mistakes are rarely intentional, but they are costly.

When to Get Help With Inventory and Taxes

If inventory management feels overwhelming, that’s not a failure. It’s a signal.

Inventory accounting requires consistency, accuracy, and an understanding of tax implications. For many founders, it’s not the best use of their time or expertise.

Having dedicated bookkeeping support ensures:

• Clean, reliable inventory records
• Accurate financials for tax preparation
• Fewer surprises during tax season

This allows you to stay focused on growing the business while financial professionals handle the details behind the scenes.

Final Thought

Preparing for tax season when your business carries inventory isn’t just about compliance. It’s about clarity.

When your inventory is tracked correctly, your financials tell the true story of your business, your tax filing becomes smoother, and you gain confidence in the decisions you’re making year-round.

That’s the kind of foundation every growing business needs.

Ready to take the guesswork out of your business’s taxes?

BELAY's Small Business Tax Guide gives you practical strategies to simplify your approach, understand your tax picture, and feel confident in your business finances year-round.