Page 35 - Small Business Taxes

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with making the saleable product, but that is a necessary Line 42 Cost of Goods Sold
part of the manufacturing process.
When you subtract your closing inventory (inventory at the
Other labor. Other labor costs not properly chargeable end of the year) from the cost of goods available for sale,
to the cost of goods sold can be deducted as selling or the remainder is your cost of goods sold during the tax
administrative expenses. Generally, the only kinds of la- year.
bor costs properly chargeable to your cost of goods sold
are the direct or indirect labor costs and certain other
costs treated as overhead expenses properly charged to
the manufacturing process, as discussed later under
Line 39, Other Costs. 7.
Line 38 Materials and Supplies

Materials and supplies, such as hardware and chemicals, Figuring Gross Profit
used in manufacturing goods are charged to cost of
goods sold. Those that are not used in the manufacturing
process are treated as deferred charges. You deduct Introduction
them as a business expense when you use them. Busi- After you have figured the gross receipts from your busi-
ness expenses are discussed in chapter 8. ness (chapter 5) and the cost of goods sold (chapter 6),

Line 39 Other Costs you are ready to figure your gross profit. You must deter-
mine gross profit before you can deduct any business ex-
Examples of other costs incurred in a manufacturing or penses. These expenses are discussed in chapter 8.
mining process that you charge to your cost of goods sold Businesses that sell products. Figure your gross profit
are as follows. by first figuring your net receipts. Figure net receipts
Containers. Containers and packages that are an inte- (line 3) on Schedule C by subtracting any returns and al-
lowances (line 2) from gross receipts (line 1). Returns and
gral part of the product manufactured are a part of your allowances include cash or credit refunds you make to
cost of goods sold. If they are not an integral part of the customers, rebates, and other allowances off the actual
manufactured product, their costs are shipping or selling sales price.
expenses. Next, subtract the cost of goods sold (line 4) from net
Freight-in. Freight-in, express-in, and cartage-in on raw receipts (line 3). The result is the gross profit from your
materials, supplies you use in production, and merchan- business.
dise you purchase for sale are all part of cost of goods Businesses that sell services. You do not have to fig-
sold. ure the cost of goods sold if the sale of merchandise is not
Overhead expenses. Overhead expenses include ex- an income-producing factor for your business. Your gross
penses such as rent, heat, light, power, insurance, depre- profit is the same as your net receipts (gross receipts mi-
ciation, taxes, maintenance, labor, and supervision. The nus any refunds, rebates, or other allowances). Most pro-
overhead expenses you have as direct and necessary ex- fessions and businesses that sell services rather than
penses of the manufacturing operation are included in products can figure gross profit directly from net receipts
your cost of goods sold. in this way.
Line 40 Add Lines 35 Through 39 Illustration. This illustration of the gross profit section of
the income statement of a retail business shows how
gross profit is figured.
The total of lines 35 through 39 equals the cost of the
goods available for sale during the year. Income Statement Year Ended December

Line 41 Inventory at End of Year 31, 2022
Gross receipts . . . . . . . . . . . . . . . . . . . . . . . . . . . . $400,000
Subtract the value of your closing inventory (including, as Minus: Returns and allowances . . . . . . . . . . . . . . . . . 14,940
appropriate, the allocable parts of the cost of raw materi- Net receipts . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $385,060
als and supplies, direct labor, and overhead expenses) Minus: Cost of goods sold . . . . . . . . . . . . . . . . . . . . 288,140
from line 40. Inventory at the end of the year is also known Gross profit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $96,920
as closing or ending inventory. Your ending inventory will
usually become the beginning inventory of your next tax The cost of goods sold for this business is figured as
year. follows.

Chapter 7 Figuring Gross Profit Page 29