Form 1125-A works out and deducts cost of goods sold for a business that files Form 1120, 1120-C, 1120-F, 1120-S or 1065. It takes opening inventory, adds purchases, labor and other costs, subtracts closing inventory, and the result goes on page 1, line 2 of the return. Any of those entities reporting a cost of goods sold deduction has to complete it and attach it.
This is based on Form 1125-A and its instructions (Rev. November 2024), the current revision as of October 2026.
Who attaches Form 1125-A
The list is short: filers of Form 1120, 1120-C, 1120-F, Form 1120-S and Form 1065 that report a cost of goods sold deduction. Form 1040 isn't on it, so a sole proprietor filing a personal return won't attach Form 1125-A; it only shows up once the business files as a corporation or partnership.
The calculation, line by line
| Line | What goes in it |
|---|---|
| 1 | Inventory at the start of the year (refigured under the new method if you're changing accounting method) |
| 2 | Purchases, reduced by items withdrawn for personal use |
| 3 | Cost of labor |
| 4 | Additional section 263A costs, with a schedule attached |
| 5 | Other costs, with a statement listing them |
| 6 | Total of lines 1 to 5 |
| 7 | Inventory at the end of the year |
| 8 | Cost of goods sold: line 6 minus line 7, carried to the return |
For a partnership, the cost of items partners take for personal use isn't just removed from purchases; the instructions say it's shown on Schedule K and the K-1s as distributions to partners.
Line 9: how you value closing inventory
Line 9a asks which valuation methods you used. The traditional choices are cost, lower of cost or market, or another method you specify and explain. Under lower of cost or market, market for normal goods means the current bid price on the valuation date for the volume you usually buy.
Goods that can't be sold at normal prices, because of damage, imperfections, shopwear, change of style, odd or broken lots or similar causes, can be valued below cost at the bona fide selling price minus the direct cost of selling them, but not below scrap value. Tick line 9b if you wrote down subnormal goods. The selling price has to be an actual offer made within 30 days after the inventory date.
The small business boxes added for 2024 onward
This is the change many returns still miss. For tax years beginning after 31 December 2023, a small business taxpayer using an alternative inventory method ticks one of three newer boxes instead of the traditional ones:
- 9a(iv): treating inventory as non-incidental materials and supplies
- 9a(v): following its applicable financial statement (AFS method)
- 9a(vi): following the method in its own books and records if it has no applicable financial statement (non-AFS method)
A small business taxpayer also isn't required to capitalize costs under section 263A, which is why line 4 is often blank for smaller companies. The definitions sit in sections 448(c) and 471(c) and the instructions for your own return.
What section 263A costs mean on line 4
The uniform capitalization rules in section 263A generally make a business include certain costs in inventory rather than deducting them straight away. They apply to producing real or tangible personal property held for sale, to property bought for resale, and to producing property for use in the business. If you elected the simplified resale method, the extra costs on line 4 are generally ones like these:
- off-site storage or warehousing
- purchasing
- handling, such as processing, assembling, repackaging and transporting
- general and administrative costs, which the instructions call mixed service costs
Cooperatives have their own line 5 rules too: per-unit retain allocations paid in the year go on line 5 with a statement listing how they were paid.
LIFO, section 263A and method changes
- Line 9c: tick it in the first year you adopt LIFO and attach Form 970 or an equivalent statement.
- Line 9d: enter closing inventory under LIFO and the closing LIFO reserve, shown in parentheses if it's negative.
- Line 9e: answer Yes if the section 263A rules apply to property you produce or buy for resale.
- Line 9f: answer Yes, with an explanation, if quantities, costs or valuations changed between opening and closing inventory.
If you switch to LIFO and had to write the opening inventory up to cost in the year of the election, the instructions say to report that write-up as other income, spread evenly over 3 years starting with the election year. And an entity using LIFO that elects S corporation status, or moves LIFO inventory into an S corporation, may face extra tax on the LIFO recapture amount.
Any inventory method, once set, can't be switched in a later year without asking for a change in accounting method on Form 3115.
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The verdict
Form 1125-A is simple arithmetic wrapped around one judgment call: how you value closing inventory. Get line 7 right, tick the box that matches your real method, and if you're a small business using the newer methods, use 9a(iv) to 9a(vi) rather than forcing yourself into cost or lower of cost or market. Changing the method later means Form 3115, so choose it with your accountant before the first return.
Differences between book and tax cost of goods show up in the reconciliation, which is covered in the book-to-tax reconciliation guide.
Frequently asked questions
What is Form 1125-A?
It's the IRS form used to figure and deduct cost of goods sold for certain entities.
Who needs to file Form 1125-A?
Filers of Form 1120, 1120-C, 1120-F, 1120-S or 1065 that report a deduction for cost of goods sold.
Where does Form 1125-A line 8 go?
Filers of Form 1120, 1120-C, 1120-S and 1065 enter it on page 1, line 2; Form 1120-F filers enter it on Section II, line 2.
What are boxes 9a(iv) to 9a(vi) on Form 1125-A?
They're for small business taxpayers using an alternative inventory method, for tax years beginning after 31 December 2023.
Can I change my inventory method on Form 1125-A?
Not freely. Any method, once established, can't be changed in a later year without requesting a change in accounting method.
Do I need inventories on Form 1125-A?
Generally yes, at the beginning and end of each tax year if producing, buying or selling merchandise is an income-producing factor, and you generally must use an accrual method for those purchases and sales, unless the small business exception applies.
What is the LIFO reserve on Form 1125-A line 9d?
It's the FIFO value of the LIFO inventory on hand at the end of the year minus its LIFO value. If it's negative, put it in parentheses.
