How to categorize expenses related to cleaning of products for sale?

BusinessLady · ‎April 24, 2022

Hi all,

I am a vintage clothing reseller using the modified cash basis of accounting to track my inventory assets and relevant COGS.

However, I’m confused about expenses related to cleaning my inventory. I spend a lot of money on dry cleaning (or hand washing with expensive detergents) my products before they are suitable for sale.

My instinct is that this is a direct cost of goods sold as it is not an operating expense, and it directly increases the value of my inventory. So I set up an inventory asset account for “cleaning and repair” to account for professional cleaning and other direct cleaning that goes into my products (or tailor repairs), and the relevant COGS account. However this is not a tangible asset, and I was advised to rather treat it like an operating expense and deduct it upon paying for it.

Any thoughts about the best way to categorize the costs associated with cleaning my vintage clothing inventory?

Thank you much!
Carly

Rainflurry · ‎April 24, 2022

@BusinessLady

Since you are most likely what the IRS classifies as a 'small business taxpayer', you are not required to capitalize the cost to prep your inventory for sale and can expense it immediately.

However, I would classify it as COGS when you incur the expense. That way, your P&L will more accurately reflect your COGS vs. your business expenses. If you were not a small business taxpayer, you would be required to capitalize it into inventory and then expense it to COGS when sold. Since you are not required to capitalize it, logically, it makes sense to book it as COGS when incurred. The bottom line is, either way, it has the same impact on your net income.

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katherinejoyceO · ‎April 24, 2022

Hello there, @BusinessLady.

Thanks for asking the Community today. Typically, inventory COGSwill be impacted when you sell inventory items on invoices or sales receipts.

After maning a sale, you'll see the inventory transaction credits the Inventory Asset account and debits the COGS accounts.

The best way of categorizing this transaction is to consult your accountant. They can guide you better to make sure your books are correct.

I've got you with some articles that can guide you in managing your account:

Get back to his post if you have more concerns. I'm always around to guide you.

Stoic7PS · ‎April 24, 2022

You're right that it would not count as COGS. I would categorize it under "professional services", since you're paying another professional for services directly related to your product.

Rainflurry · ‎April 24, 2022

@BusinessLady

Since you are most likely what the IRS classifies as a 'small business taxpayer', you are not required to capitalize the cost to prep your inventory for sale and can expense it immediately.

However, I would classify it as COGS when you incur the expense. That way, your P&L will more accurately reflect your COGS vs. your business expenses. If you were not a small business taxpayer, you would be required to capitalize it into inventory and then expense it to COGS when sold. Since you are not required to capitalize it, logically, it makes sense to book it as COGS when incurred. The bottom line is, either way, it has the same impact on your net income.

Stoic7PS · ‎April 29, 2022

Can you expand on why the dry-cleaning service would be categorized as cost of goods sold?

Based on my understanding, the COGS would be the cost of the products themselves, not necessarily the cost of additional services the owner has performed or had performed on the product to prepare them for sale.

Rainflurry · ‎April 29, 2022

@Stoic7PS

I'm not saying your opinion is wrong. I'm just of the opinion that the costs necessary to bring items into sellable condition would most accurately be categorized as COGS. The OP stated that the cleaning of the products was necessary to bring them into suitable condition for resale. Therefore, I think this is exactly the sort of costs the IRS is referring to on lines 37 and 39 of Sch. C, and lines 4-5 of Form 1125-A.

If the OP had not purchased those items for resale, she would not have incurred those costs. Therefore, IMO the costs can be directly attributed to that inventory item and are most accurately attributed to COGS. Either way, whether it's categorized as COGS or a cleaning expense, business income will be clearly reflected and, from the IRS's perspective, that's the critical part. Just my $.02.

BusinessLady · ‎August 03, 2022

Thanks @Rainflurry , @Stoic7PS and @katherinejoyceO for your great suggestions!

@Rainflurry I believe your solution to be the most practical- I would like for my own expense-tracking purposes to count cleaning costs as COGS since they directly increase the value of my inventory, however being a small business, I would like to expense them right away (rather than allocate them to assets). So the calling them COGS might just be semantics, but it makes sense that my P&L bottom line will be the same.

Thank you all for your insight!

-@businesslady

AlcaeusF · ‎August 16, 2022

Hello Rainflurry,

I have reviewed the solution you’ve shared and it's correct and accurate. Thank you for sharing your inputs to help address the issue.

We love to see members supporting one another! Have a great day.

Betty91 · ‎December 20, 2022

Is dry cleaning a tax deductible for reselling clothing? I’m about to start using the service for my business next year and need to know before I start categorizing it. Thanks!

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How to categorize expenses related to cleaning of products for sale?