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In addition to the actual cost of materials to produce inventory items, section 263A of the Internal Revenue Code requires manufacturers to include the cost of labor, energy consumption, equipment costs and any other expenses specific to the production of the inventory product. These are called direct costs.
To calculate the portion of direct costs to assign to each finished product, determine the total cost of direct expenses to produce all of the products in a given period or production run, then divide the cost by the number of items produced. Add the cost per item to the unit cost of the product. -
Manufactures are also required to include a portion of administrative and overhead costs to inventory. Administrative salaries and wages, rent, transportation costs, utilities, quality control, insurance, warehousing and marketing costs are all examples of indirect costs. You have to determine what portion of each of the indirect costs contribute indirectly to the production of inventory, then calculate the per-item cost as with direct costs and add that amount to the inventory items.
Merchants who purchase already-made inventory must also include shipping, storage and handling costs to the per-unit inventory costs. - When a a business purchases materials or ready-made inventory items and pays direct and indirect costs, the transactions are entered into the company books as debits to inventory and credits to cash. The inventory of finished goods are carried in the books as assets until they are sold. The sale transaction is recorded as a credit to Inventory, an asset account, and a debit to Cost of goods sold, an expense account.
