If you still have questions about how you should be recording COGS, consider the following questions. You’ll have your Profit and Loss Statement, Balance Sheet, and Cash Flow Statement ready for analysis each month so you and your business partners can make better business decisions. If ending inventory is lower, your COGS will be higher and your net income lower.

Step-by-Step Guide: How to Record a COGS Journal Entry

• If you don’t account for your cost of goods sold, your books and financial statements will be inaccurate.
• If your business is service oriented and does not sell physical goods, you would calculate cost of sales (COS) or cost of revenue (COR) instead of COGS.
• You might need to make adjustments for purchase discounts, freight charges, sales tax, or returns and allowances.
• The basic costs of good sold journal entry for inventory purchases involves a debit and a credit.
• You would then use the system’s records to determine your ending balance.

Under the perpetual inventory system, we can make the journal entry to record the cost of goods sold by debiting the cost of goods sold account and crediting the inventory account. As the cost of goods sold is a debit account, debiting it will increase the cost of goods sold and reduce the company’s profits. The inventory account is of a debit nature, and crediting it will decrease the value of closing inventory. The cost of goods sold is also increased by incurring costs on direct labor. Yes, your cost of goods sold should be included on your income statement for the reporting period.

Direct Costs

It will consist of debits made to your COGS expense account and credits made to both your purchases account and inventory account. It is useful to note that, unlike the periodic inventory system, we do not have the purchases account under the perpetual inventory system. When we purchase the inventory, the purchased amount will go directly to the inventory account. Similarly, when we make the sale, the inventory is immediately recorded as a decrease (credit) in the amount of its cost as it transfers to the cost of goods sold (debit) on the income statement.

Recognition of cost of goods sold and derecognition of finished goods (Inventories) should also be consistent with the recognition of sales. If it is not consistent, then the cost of goods sold and revenues will be recognized in the financial statements in a different period. And it is not in compliance with the matching principle, resulting in the over or understated profit during the period. Hence, under this perpetual inventory system, the company does not need to physically count the inventory to know how much the inventory remains in the accounting record as it is updated perpetually.

During the period, the company spends an additional $10,000 on new inventory, and it ends the period with an ending inventory value of $35,000. For another example, assuming that we still use the periodic inventory system and we still have the beginning inventory of $50,000 on the previous year’s balance sheet. And during the current year, we still have a total purchase of $200,000.

On the other hand, if the ending inventory is more than the beginning inventory, it means the inventory has increased instead. Hence, we need to debit the inventory account as in the journal entry above. For example, on January 31, we makes a $1,500 sale of merchandise inventory in cash to one of our customers. The original cost of merchandise goods was $1,000 in the inventory balance on the balance sheet.

Step 3: Calculate Ending Inventory

Collect information ahead of time, such as your beginning inventory balance, purchased inventory costs, overhead costs (e.g., delivery fees), and ending inventory count. Once any of the above methods complete the inventory valuation, it should be recorded by a proper journal entry. Once the inventory is issued to the production department, the cost of goods sold is debited while the inventory account is credited.

It can either be listed in the statement’s expenses section—along with indirect costs like SG&A expenses, operating expenses and overhead costs—or in the revenue section, depending on your preferences. When listed in the revenue section, it allows you to calculate gross margin before diving into expenses. In this journal entry, the cost of goods sold increases by $1,000 while the inventory balance is reduced by $1,000.

You would then use the system’s records to determine your ending balance. Direct labor means a debit to an account specific to Work in Process when production is ongoing, or COGS when production is complete. Your company’s cost of goods sold is a critical piece of information that can inform everything from your budget and inventory strategies to how you price your product and everything in between. Knowing this, it’s important that you are confident in your calculations—and that you can perform them quickly when the time comes. Below, we briefly review what COGS is and how you should be recording it in a COGS journal entry.

Without knowing the reporting period, it’ll be impossible to perform the calculations that you need to in order to find your COGS. And the ending inventory is $10,000 ($50,000 – $40,000) less than the beginning inventory. This means that the inventory balance decreased by $10,000 compared to the previous year. COGS are costs directly related to the production or purchase of goods or services sold. Operating Expenses are costs incurred in running the business, but not directly tied to product production or sale. COGS are costs directly related to the production and sale of goods or services.

Make sure you accurately classify direct costs, which are traceable to products, versus indirect costs, which are allocated to products. Make any necessary adjustments to COGS for returns, allowances, and damaged goods. You must make sure that each costs of good sold journal entry aligns with all your other financial reports.

Monthly COGS reporting gives you the most detailed view of business performance. Cash and credit purchases require a debit to Inventory and a credit to either Cash or Accounts Payable. Let’s assume you sold goods worth $5,000 for a sales price of $10,000.

Yes, you can adjust for inventory count discrepancies, COGS calculations or journal entries, a change in inventory valuation method, etc. This costs of good sold journal entry is basically a physical count of all inventory items. You would value each item using its cost, which is usually based on the purchase price. When a physical count is impractical or time-consuming, you can do an estimate of inventory based on calculations and assumptions. The figure for the cost of goods sold only includes the costs for the items sold during the period and not the finished goods that are not still sold or billed by customers.

First in, the first out method values inventory at the earliest value of inventory. The cost of goods sold is measured according to the prior inventory purchased rather than the recent one. If your business is service oriented and does not sell physical goods, you would calculate cost of sales (COS) or cost of revenue (COR) instead of COGS. As a brief refresher, your COGS is how much it costs to produce your goods or services. COGS is your beginning inventory plus purchases during the period, minus your ending inventory. When prices are going up, FIFO (First-In, First-Out) results in lower COGS and higher net income.

Recording a COGS journal entry is a relatively straightforward process. We use the perpetual inventory system how to record cost of goods sold journal entry in our company to manage the merchandise goods. These examples cover different scenarios involving the Cost of Goods Sold, helping you understand how to record this critical accounting entry in various situations. We take monthly bookkeeping off your plate and deliver you your financial statements by the 15th or 20th of each month.