 Most of this information can be found at the tax guide for small business for individuals who use Schedule C, Publication 334, Tax Year 2022. You can find on the IRS website, irs.gov, irs.gov. Looking at the income tax formula, we're focused on line one income. Remember, in the first half of the income tax formula is in essence an income statement. However, it's just an outline, just a scaffolding, other forms and schedules flowing into it. The Schedule C being one of them, the Schedule C for business income in essence, an income statement in and of itself, business income minus business expenses, the net then rolling in from Schedule C to line one income of the income formula here. This is page one of the form 1040. The Schedule C would flow into the Schedule 1, flowing into line eight of the form 1040 as we see. The Schedule C is up top profit or loss from business. We could see it's an income statement in essence, income and expense categories. So now we want to talk about figuring cost of goods sold on Schedule C lines. And so the cost of goods sold note would only be something that would be relevant if you're dealing with inventory. So as a general rule, if you're service business, you won't have inventory, not typically going to have to deal with cost of goods sold. Cost of goods sold is going to be the expense related to the consumption of inventory in order to generate revenue. So remember that in essence, the expenses, what expenses are things that we're consuming under the matching principle, we would like to match them up in the same period that they were consumed in order to generate the revenue. If you sell inventory and that's your primary form of revenue generation, the cost of goods sold is typically going to be the biggest and most important expense. And therefore a lot of focus will be on the cost of goods sold and we'll have another kind of subtotal calculation generally, which will be gross profit income minus the cost of goods sold gives us the gross profit. So from an accounting standpoint, you can think about different methods you might use to basically track the inventory and record the cost of goods sold. But whatever method you use, if you're putting the inventory on the books as an asset, you are basically doing an accrual type of thing. Then you might track the inventory using a periodic system or a perpetual system. A periodic system would be one in which you record the purchases and then periodically you count the inventory at the end of the day, week or month, and you make an adjustment to record the decrease in the inventory and the related cost of goods sold. A perpetual inventory system would be one in which you're recording the decrease in the inventory every time you make a sale because you have more, you usually need more sophisticated accounting software that's going to be making that transaction recording that transaction with every sale. You might be using flow assumptions like a first and first out, last and first out, weighted average kind of flow assumptions for the inventory. For the income taxes, we're going to have a schedule, a schedule C and then the cost of goods sold schedule you'll have to deal with, which is in essence a cost of goods sold calculation that you might be familiar with using like a periodic inventory type of system, which is in essence beginning inventory, which should match the ending inventory on the prior year tax return. If you have the business in the prior year plus purchases minus ending inventory gives us the bottom line, the cost of goods sold. Okay, so if we're going to figure the cost of goods sold, figure your cost of goods sold by by filling outlines 35 through 42 of schedule C. These lines are reproduced below and are explained in the discussion that follows. So we've got line 35 inventory at the beginning of the year, if different from last year's closing inventory, attach explanation. In other words, this line should be the same as last year's basically ending inventory, which would be here on the prior year return because obviously the end of last year is going to be the same as this year. Now, oftentimes when you're trying to account for things from period to period, this is this beginning balance rollovers are one of the one of the areas where people have issues with. So you might have to go back and kind of figure out why there's a difference between beginning inventory in some cases. But then you've got the purchase purchases less cost of items withdrawn for personal use, cost of labor, do not include any amounts paid to yourself, materials and other supplies, other costs, and then you're adding them up. Notice that if you're just buying and selling inventory, then you're a merchandising company out more and the inventory's a little bit easier because you're just going to have purchases, just purchases of what you bought the inventory than you sold it. But if you are making inventory, you might be using a process cost system or job cost system, then you've got to deal with the materials and the supplies and the working process and all that kind of stuff within your inventory. And that gets a little bit more complicated. But the general formula, beginning inventory plus the purchases or what was produced, right? And then that gives you your inventory at the end of the year, ending inventory, and then you're going to subtract these two out. That's what you sold cost a good sold. So in other words, beginning inventory plus what you purchased gives you the amount of inventory that could have been sold throughout the year, the available inventory that was there to sell. And then if we count the inventory at the end of the year, the stuff that has not yet been sold, the difference between what could have been sold and what has not been sold would be the cost of goods sold, the expense related to the things that we sold, which would be part of the income statement as one of the major expense for a company that deals with inventory. So note that sometimes if you're using your own bookkeeping system, this number is going to be something that should be known because you got it from the prior your tax return. And then your inventory at the end of the year should be known because that'll be in the accounting software. And then your cost to get sold might be known if you're using accounting software and you already have an income statement, which means you could use algebra to ancient Egyptian algebra, get to the unknown, which would be the purchases, right? And then it gets a little bit more difficult sometimes if you have a construction or job cost type of system or process cost type of system, a manufacturing company instead of just buying and selling inventory. Okay, that said, let's dive into some of these lines in more detail. Line 35 inventory at beginning of the year. So if you are a merchant, beginning inventory is the cost of merchandise on hand at the beginning of the year that you will sell to customers. So if you are a manufacturer or producer, it includes the total cost of raw materials, working process, finished goods. Those are the three buckets, by the way, when you're producing inventory, you're buying inventory, it's raw material, then you're producing the or you're working on it, then it's working process. When you're done working on it ready to sell it, it's finished good inventory. So and materials and supplies used in manufacturing the goods. So you can see inventories in chapter two for more detail on that. So opening inventory will usually be identical to the closing inventory of the year before. You want to make sure to double check that because that's something if it's not that way, and you don't tell the the iris why it's different that you might the iris might question that that could be a red flag as they say. So you must explain any difference in the schedule attached to your return.