FIFO, LIFO and average cost: inventory costing explained with an example

Techardent Labs · 3 November 2026 · 4 min read

Quick answer: The costing method decides what value is given to goods you sell and to the stock you still hold. FIFO uses the oldest purchase rates first, LIFO the newest, and average cost a running weighted average. In TallyBook you set it per item in Stock Item Creation → Costing method; the default is Avg Cost.

When you buy the same item at different prices, a question appears the moment you sell some: which price did the sold units cost? The answer changes your gross profit and the value of closing stock in the Balance Sheet. That rule is the costing method.

The methods in TallyBook

Method	Cost of goods sold uses	Closing stock is valued at
Avg Cost (default)	The running weighted average at the time of sale	The remaining average
FIFO	Oldest units first	The most recent purchases
LIFO	Newest units first	The oldest purchases
Last Purchase Cost	The latest purchase rate at the time of sale	Quantity × latest purchase rate
Std Cost	The Standard cost you enter on the item	Quantity × standard cost

A worked example

One item, "Notebook", in April:

Date	Entry	Quantity	Rate	Value
1 Apr	Opening stock	100	₹10	₹1,000
5 Apr	Purchase	100	₹12	₹1,200
10 Apr	Sale	150
15 Apr	Purchase	100	₹13	₹1,300
30 Apr	Closing stock	150		?

Total cost of goods available is ₹3,500. Here is how each method splits it on 10 April, when 200 units are in stock:

FIFO: the 150 sold come from the oldest layers: 100 × ₹10 + 50 × ₹12 = ₹1,600. Left: 50 × ₹12 + 100 × ₹13 = ₹1,900.
LIFO: the newest layer goes first: 100 × ₹12 + 50 × ₹10 = ₹1,700. Left: 50 × ₹10 + 100 × ₹13 = ₹1,800.
Avg Cost: average on the sale date is ₹2,200 ÷ 200 = ₹11, so 150 × ₹11 = ₹1,650. Left: 50 × ₹11 + ₹1,300 = ₹1,850.
Last Purchase Cost: the latest rate on the sale date is ₹12, so 150 × ₹12 = ₹1,800. Closing: 150 × ₹13 = ₹1,950.
Std Cost at, say, ₹11.50: sale 150 × ₹11.50 = ₹1,725; closing also ₹1,725.

FIFO, LIFO and average cost always add back to ₹3,500 (sold + closing). Last purchase and standard cost are valuation shortcuts, so their two figures do not add back to the actual cost. In a period of rising prices, FIFO shows the highest closing stock and the highest profit, LIFO the lowest.

Which one should you use?

For financial statements, the Indian accounting standard on inventories (AS 2, and Ind AS 2 for companies that follow Ind AS) allows FIFO or weighted average cost; LIFO is not accepted there. Many small traders use average cost because it smooths price swings. Treat LIFO, last purchase and standard cost as analysis or internal costing tools, and confirm the method for your books with your CA.

How to set it in TallyBook

Press F11 and set Maintain inventory to Yes.
Gateway → Create → Stock Item (or Alter → Stock Item).
Fill Name, Under (stock group), Units and, with GST on, HSN/SAC and GST rate.
In Costing method choose Avg Cost, FIFO, LIFO, Last Purchase Cost or Std Cost. For Std Cost, also fill Standard cost.
Enter the opening Quantity, Rate and Value, then press Ctrl+A.

TallyBook Stock Item Creation screen with costing method, units, HSN and opening balance fields — Stock Item Creation. The costing method is chosen per item.

Values appear in the Stock Summary (Gateway → S) and flow into closing stock in Profit & Loss and the Balance Sheet. TallyBook works the value out from the item's movements each time, so if you change an item's method later, its past figures are restated too. Decide before you close a year.

TallyBook Stock Summary listing items with quantity, rate and closing value — Stock Summary with closing value per item.

Frequently asked questions

What is the default costing method in TallyBook?

Avg Cost, a running weighted average worked out at each sale.

Can different items use different methods?

Yes. The method is set on each stock item.

Is LIFO allowed in India?

Indian accounting standards on inventory allow FIFO or weighted average for financial statements, not LIFO. Use LIFO only for internal analysis and confirm with your CA.

What happens if I change the method mid-year?

TallyBook recalculates that item's values from its movements, so earlier periods change as well. Agree the method before finalising accounts.

Try TallyBook free. Download TallyBook for Windows, Mac or Linux. No registration and no licence fee. Coming from Tally? Start with Switching from Tally to TallyBook and read TallyPrime vs TallyBook.
Related: Item GST invoices · Choosing accounting software

TallyBook is an independent product made by Techardent Labs and is not affiliated with, endorsed by or connected to Tally Solutions Pvt. Ltd. TallyPrime and Tally are trademarks of their owner. Tax rules change often; confirm current rates, limits and due dates on the official portals or with your Chartered Accountant.