[Opinion] Is the Prohibition of “Lifo Method” Hurting India’s Precious Metals Sector?

CA Rakesh Kedia, Manish Pareek & Gautam Kamra – [2026] 183 taxmann.com 215 (Article)

An argument to relive LIFO and align inventory valuation with economic reality.

The current prohibition of LIFO (Last-In, First-Out) inventory valuation under AS-2 and ICDS-II creates severe financial hardships for gold and silver traders operating in highly volatile markets. LIFO was prohibited in India effective from the financial year 2016-17 when the Central Government notified ten Income Computation and Disclosure Standards (ICDS), with ICDS-II mandating that businesses use either FIFO (First-In, First-Out) or weighted average cost method for inventory valuation. This prohibition aimed to align Indian accounting practices with international standards and prevent potential tax manipulation, but it has created unintended hardships for commodity traders facing extreme price volatility. This article demonstrates how mandatory FIFO accounting forces businesses to pay excessive taxes on unrealised paper profits, depletes working capital, and ultimately threatens business viability during periods of rapid price appreciation. We argue that LIFO should be permitted as an inventory valuation method for commodity trading businesses dealing with precious metals.

1. The Cash Flow Crisis – A Real-World Example

Consider a gold trader who purchased inventory at the following prices:

• 1 gram @ Rs. 5,450 (opening stock from January 2024)
• 1 gram @ Rs. 14,380 (recent purchase in January 2026)

Now, gold prices rise to Rs. 14,500 per gram. The trader sells 1 gram of gold.

1.1 Under FIFO (Current Mandatory Method)

• Sale – Rs. 14,500
• COGS – Rs. 5,450 (oldest inventory)
• Gross Profit – Rs. 9,050
• Tax @ 30% – Rs. 2,715
• Cash remaining after tax – Rs. 11,785
• Closing stock – 1 gram valued at Rs. 14,380

The Problem – To replace the 1 gram sold, the trader needs Rs. 14,500 (current market price). But after paying Rs. 2,715 in taxes, only Rs. 11,785 remains. The trader is short by Rs. 2,715 and cannot replenish inventory at current prices!

This forces the trader to either borrow funds (incurring interest costs) or reduce inventory levels, both of which harm business operations. In a highly competitive market with thin margins, this cash drain can be devastating.

1.2 Under LIFO (Proposed Solution)

• Sale – Rs. 14,500
• COGS – Rs. 14,380 (most recent inventory)
• Gross Profit – Rs. 120
• Tax @ 30% – Rs. 36
• Cash remaining after tax – Rs. 14,464
• Closing stock – 1 gram valued at Rs. 5,450

The Solution – With Rs. 14,464 in hand, the trader is much closer to the Rs. 14,500 needed to replace inventory. LIFO saves Rs. 2,679 in taxes compared to FIFO (Rs. 2,715 – Rs. 36), which significantly improves working capital and business sustainability. The trader can continue operations without borrowing or depleting inventory. Under FIFO, the trader retains only 81.3% of the sale proceeds after tax (Rs. 11,785 out of Rs. 14,500), making it difficult to fully replenish inventory. Under LIFO, the trader retains 99.8% of proceeds (Rs. 14,464 out of Rs. 14,500), enabling near-complete inventory replenishment.

2. The ‘Paper Profits’ Problem – When Prices Fluctuate

FIFO forces businesses to pay taxes on paper profits that do not reflect economic reality. This becomes especially problematic when prices fluctuate:

Scenario – Price Surge Followed by Correction

Year 1 (Price at Rs. 14,500):

• Under FIFO – Trader pays tax on Rs. 9,050 profit (Rs. 2,715 in taxes)
• Under LIFO – Trader pays tax on Rs. 120 profit (Rs. 36 in taxes)
• Remaining inventory under FIFO – 1 gram valued at Rs. 14,380
• Remaining inventory under LIFO – 1 gram valued at Rs. 5,450

Year 2 (Price crashes to Rs. 6,000):

• Under FIFO – Remaining 1 gram is sold at Rs. 6,000

1. 1. Loss – Rs. 6,000 – Rs. 14,380 = Rs. 8,380 loss
   2. Net position – Paid Rs. 2,715 tax in Year 1, have Rs. 8,380 loss to carry forward

• Under LIFO – Remaining 1 gram is sold at Rs. 6,000

1. 1. Profit – Rs. 6,000 – Rs. 5,450 = Rs. 550 profit
   2. Tax – Rs. 165 (30% of Rs. 550)
   3. Net Position – Total tax over 2 years – Rs. 36 + Rs. 165 = Rs. 201

The FIFO trader paid Rs. 2,715 in taxes in Year 1 on profits that largely evaporated when prices crashed. Even with a Rs. 8,380 loss to carry forward, if the business closes or cannot generate sufficient future profits, that Rs. 2,715 is permanently lost.

The LIFO trader paid only Rs. 201 total over both years, accurately reflecting the real economic gain. LIFO matches current costs with current revenues, avoiding tax on temporary price spikes.

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