Form 1125-A is used by business return filers (Form 1065, 1120 and 1120-S) to calculate and then deduct the cost of goods sold by a corporation or partnership. This calculation must be separately reported on the return as set forth below. Specifically, business entities that produce or purchase items for sale with the intent to create income are required to accurately report the cost of the items or goods that are sold. To meet this reporting requirement, these business entities must maintain certain accounting and inventory records. Business entities such as personal service companies (doctors, lawyers, painters, carpenters, etc.) do not engage in the production or sale of items or businesses that engage solely in investment or rental activities typically would not report cost of goods sold or file a Form 1125-A with their tax return.
The cost of goods sold calculation basically occurs by adding to the beginning inventory amount, all purchased materials or products for re-sale and any direct labor or other direct expense that were incurred in the manufacture, production or acquisition of the products being offered for sale by the entity. From this subtotal, (which is the Cost of Goods Available for Sale) the ending inventory amount is subtracted to create the Cost of Goods Sold. Accordingly, to reflect taxable income correctly, inventories at the beginning and at the end of each tax year must be computed by the entity and an inventory value determined. Moreover, this inventory value includes all finished or partly finished goods, raw materials and/or supplies which the business has acquired for sale or will become physically part of the merchandise intended for sale. See Regulation Section 1.471-1 for a complete definition of the items to be included in inventory.
To input Cost of Goods Sold (Form 1125-A) in TaxSlayer Pro, from the Main Menu of a Tax Return (Form 1165, Form 1120 or Form 1120-S) select:
- Income Menu
- Cost of Goods Sold (Form 1125-A)
- Enter the appropriate amounts on the Form 1125-A Entry Menu.
To assist in the entry of the amounts on the Form 1125-A Entry Menu, each line of this menu is described below:
1. Inventory at Beginning of the Year - This amount is the calculated dollar amount for the inventory of all finished or partly finished goods, raw materials and/or supplies which were acquired for sale or were physically part of the merchandise intended for sale at the beginning of the tax year. The amount entered here should correspond to the ending inventory that was reported on the previous year's Form 1125-A for this entity. If last year's return was done in TaxSlayer Pro, the ending inventory amount from the prior year return will pull forward to the current year as the Inventory at the Beginning of the Year. If the amount that the taxpayer reports is different from what was reported as the ending inventory on the prior year tax return, a Preparer Note should be submitted with the return explaining the difference. This beginning inventory amount will be reported on Form 1125-A, Line 1 and will also transfer to Schedule L- Balance Sheets per Books, Line 3b of the entities tax return.
2. Purchases - Enter the amount of all purchases for raw materials and merchandise for re-sale that were made by the business during the tax year. This amount should not include any amount for purchases or products that were consumed by any owner of the business for personal consumption. If any purchase (or product) was consumed by an owner, it should be reported by the entity as a distribution to that owner and not included in the cost of goods sold calculation. The amount entered for purchases will be reported on Form 1125-A, Line 2.
3. Cost of Labor - Typically, labor costs are only an element of cost of goods sold in a manufacturing or mining business. These direct labor costs are the wages that are paid to employees who spend their time working directly on the product being manufactured (or mined) for sale. Retailer and other merchandisers do not usually have direct labor costs that can be charged to cost of goods sold, even though they may have the other elements of cost of goods sold. This amount will be reported on Form 1125-A, Line 3
4. Additional Section 263A Costs - In this entry menu, the user enters indirect costs that are not capitalized under IRC Code Section 263A. Such costs involve certain purchasing costs indirectly associated with the production or procurement of the items being sold by the business. Examples of such items would be warehousing fees, processing fees, repacking and assembly costs and support payroll costs, all of which were incurred in connection with the production of the product. These 263A Costs are itemized on an attached schedule to this Form 1125-A, which will go electronically with the return. Upon entry to this section, the user will be prompted to enter a 'New' item for each Section 263A Cost and then enter the 'Description' of the cost item and the 'Amount'. This will be repeated for each Section 263A Cost.
This provision does not apply to taxpayers whose three year average annual gross receipts ending with the preceding tax year are less than $10,000,000. See: IRC Code Section 263A for more information on the Uniformed Capitalization rules and how to calculate any applicable Section 263A costs. Any amount entered in this section will be listed on an attached schedule to the Form 1125-A and the total will be reported on Form 1125-A, Line 4.
5. Other Costs - In this section, other costs directly associated with the manufacturing or mining process are entered. Examples of such other costs would be the shipping costs of the raw materials, direct overhead or supplies directly used in the manufacturing process. This amount will be reported on Form 1125-A, Line 5.
6. Total - This amount is a calculated automatically by TaxSlayer Pro and is the sum of the above amounts. This total represents the Cost of Goods Available for Sale during the tax year. This amount will be reported on Form 1125-A, Line 6.
7. Inventory at End of Year - This is the inventory amount of all finished or partly finished goods, raw materials and/or supplies which were acquired for sale or were physically part of the merchandise intended for sale at the end of the tax year. This inventory amount will be reported on Form 1125-A, Line 7 and will be the beginning inventory amount reported on next year's return. This ending inventory amount will also transfer to Schedule L- Balance Sheets per Books, Line 3d of the entities tax return.
8. Cost of Goods Sold - This amount is automatically calculated by TaxSlayer Pro by subtracting the ending inventory amount from the Cost of Goods Available for sale. The Cost of Goods Sold will be reported on Form 1125-A, Line 8.
9. Method Used For Valuing Ending Inventory - In this menu the user must identify the methodology that was used to value the ending inventory. When the user enters this menu, they will receive three options, Cost, Lower of Cost or Market or Other. If Other is selected, the user must identify the approved method that was utilized to value the ending inventory. Taxpayers who use the Cash method of accounting are required to use the Cost method to value ending inventory. Taxpayers who use Accrual or other approved accounting method may select any applicable option. The answer to this question will be reported on Form 1125-A, Line 9a.
10. Writedown of subnormal goods - This question is defaulted to 'NO,' and for any entity using the Cost method of inventory valuation will not require any further response. However, for business entities that value their inventory in a method other than Cost, this question will only require an additional response only if they have marked down the valuation of the inventory. The answer to this question will be reported on Form 1125-A, Line 9b.
11. Was LIFO Inventory adopted this tax year for any goods? - The answer to this question will be reported on Form 1125-A, Line 9c and is set in the program to default to 'NO'. However, only if the taxpayer has adopted LIFO (Last In, First Out) this year as their method for valuating their inventory, the question should be answered 'YES', and Form 970 - Application to Use LIFO Inventory Method should be attached to the tax return. Form 970 is not created in TaxSlayer Pro, but a completed form can be attached as a PDF to an electronically filed tax return.
12. Amount of closing inventory computed under LIFO - For entities that use LIFO as the method to value inventory, they are required to enter the amount of their closing inventory in this section. The answer to this question will be reported on Form 1125-A, Line 9d. For entities that use Cost as the method of valuing their inventory, no entry is necessary.
13. Do the rules of section 263A apply? - This question is defaulted to 'NO' which for smaller businesses is correct. For any business entity whose three year average annual gross receipts ending with the preceding tax year are $10,000,000 or greater, such an entity may be subject to Section 263A and may need to change this answer to 'YES'. See: IRC Code Section 263A for more information on the Uniformed Capitalization rules and whether the taxpayer is subject to reporting under this section. The answer to this question will be reported on Form 1125-A, Line 9e.
14. Change in Determining Quantities, Cost, Valuations? - This question defaults to 'NO'. For business entities that have had a change in methodology in determining the quantities, cost or valuations during the year, the questions should be answered "YES." and a statement explaining the change should be completed. The answer to this question will be reported on Form 1125-A, Line 9f and a supporting statement will be attached to the return if the question is answered 'YES'.
NOTE: This is a guide on entering Form 1125-A - Cost of Goods Sold into the TaxSlayer Pro program. This is not intended as tax advice. For additional information refer to the Additional Information below.