Inventory Valuation under NFRS: FIFO vs. Weighted Average in Tally

For trading and manufacturing businesses operating in Nepal, inventory is consistently the largest current asset on the balance sheet. Valuing this inventory accurately is not just a theoretical accounting exercise—it directly dictates your Cost of Goods Sold (COGS), your gross profit margin, and ultimately, your corporate income tax liability.

Under the Nepal Financial Reporting Standards (NFRS - specifically NAS 2), the rules governing inventory valuation are strict and unforgiving. Configuring your ERP systems (like Tally Prime or SAP) to automatically comply with these standards is essential for surviving statutory audits by ICAN-certified firms and ensuring flawless tax compliance with the IRD.

Understanding NAS 2: The Core Rule of Valuation

The absolute golden rule of NAS 2 is that inventory must be valued at the lower of cost and net realizable value (NRV).

1. Determining the 'Cost'

The cost of inventory is not just the invoice price. It must include:

• All costs of purchase (the basic price).
• Non-refundable import taxes (Customs Duty and Excise Duty).
• Freight-in and transit insurance.
• Other directly attributable costs incurred in bringing the items to their current warehouse location and condition.

What is Excluded? Trade discounts, rebates, and refundable import VAT must be strictly deducted from the cost.

2. Determining Net Realizable Value (NRV)

NRV is the estimated selling price in the ordinary course of business, minus the estimated costs of completion and the estimated costs necessary to make the sale (e.g., specific sales commissions or delivery fees). If a product becomes obsolete, damaged, or market prices crash, its NRV may fall below its original cost. In this scenario, NAS 2 requires you to immediately write down the inventory value to the NRV, recognizing the loss in your current Profit & Loss statement.

The Banned Method: Goodbye LIFO

In older accounting regimes, the LIFO (Last-In, First-Out) method was heavily utilized by businesses during inflationary periods to artificially inflate COGS and lower taxable income.

NFRS outright prohibits the use of LIFO. Nepali businesses must apply either the FIFO (First-In, First-Out) or the Weighted Average Cost (WAC) method.

FIFO vs. Weighted Average (WAC)

Choosing between these two permitted methods fundamentally alters your financial reporting.

Configuring Valuation in Tally Prime

Tally Prime allows you to set inventory valuation methods gracefully at the individual stock item level or the entire stock group level.

1. Navigate to Gateway of Tally > Alter > Stock Item.
2. Select the specific inventory item.
3. Press F12 (Configure) and enable Provide Costing Method.
4. Under the Costing Method dropdown, select Avg. Price (for WAC) or FIFO.
5. Save the master ledger. Tally will automatically recalculate closing stock values retroactively for all generated financial reports.

Common Audit Red Flags in Nepal

When ICAN-certified auditors inspect your trial balance, they hunt for three specific inventory violations:

1. Including Refundable VAT in Cost: Auditors frequently flag cases where inexperienced accountants capitalize the 13% import VAT into the inventory value instead of claiming it as an input tax credit. This artificially inflates inventory assets.
2. Failing to Account for Freight-In: Transport costs from border checkpoints (Birgunj/Bhairahawa) to Kathmandu warehouses are often expensed immediately in the P&L as "transportation charges." NAS 2 requires these costs to be allocated to the specific cost of the imported goods.
3. Lack of Physical Verification Sheets: Auditor firms require signed physical stock takes at the fiscal year-end (Ashadh end) to reconcile the ERP ledger counts with the actual physical warehouse inventory.

Automate Your Inventory Compliance

If your business is struggling with accurate costing, negative stock balances in Tally, or audit flags related to NAS 2 compliance, it is time to optimize your ERP architecture. Contact my consulting firm today for a comprehensive review of your inventory ledgers and automated costing setups.