Is buying inventory an expense?

Not when purchased. Inventory is recorded as an asset on the balance sheet at cost; it becomes an expense — cost of goods sold on the P&L — only when the goods sell. This timing rule is why a big stocking purchase drains cash without reducing profit, and why inventory businesses generally cannot use pure cash-basis expense timing for goods.

How do I record inventory shrinkage?

When a physical count shows less inventory than the books, debit cost of goods sold (or a dedicated shrinkage expense account) and credit inventory for the difference. The entry recognizes that goods left the building without producing revenue — through damage, theft, or count error — and restores the balance sheet to what is actually on the shelf.

How often should a small business count inventory?

A full physical count at least annually, at year-end, with cycle counts of high-value or fast-moving items quarterly or monthly. Perpetual inventory systems drift from reality continuously; the count is what re-anchors the balance sheet, and the size of the adjustment tells you how much to trust the system between counts.

Inventory's journey across the financial statements

Inventory takes a three-stop journey through the statements. Bought: it lands on the balance sheet as an asset, at cost — no expense yet, though the cash is gone. Sold: its cost moves to the P&L as cost of goods sold, matched against the revenue it produced. And on the cash flow statement, any growth in the inventory balance appears as a subtraction — cash spent on goods not yet expensed. Understanding the journey explains two chronic small-business confusions: why a stocking-up month shows fine profit and terrible cash, and why the year-end count changes the P&L.

The journey, entry by entry

Buy $10,000 of goods on account:

Journal entry — Purchasing inventory

Account	Debit	Credit
Inventory	10,000
Accounts payable		10,000

An asset and a liability rise. The P&L is untouched — profit is identical before and after the purchase.

Sell goods that cost $6,000 for $9,500; two entries move together:

Journal entry — Recording the sale and relieving inventory

Account	Debit	Credit
Cash	9,500
Sales revenue		9,500
Cost of goods sold	6,000
Inventory		6,000

Revenue and its matched cost hit the P&L in the same period; gross profit on the transaction is 3,500.

The matching is the point: COGS lands in the period of the sale, not the purchase, so gross margin means something. This timing rule is also the tax rule — businesses with inventories generally must account for goods this way, per Publication 538 — and it is why "I bought a lot of stock in December" does not produce a December deduction. (Where the COGS boundary sits more broadly is covered in COGS vs. operating expenses; the cash-side consequences are worked through in the cash flow statement.)

Shrinkage: when the count disagrees with the books

Perpetual inventory records drift from physical reality — breakage, theft, miscounts, unrecorded samples. The physical count is the correction. If the books say $24,000 and the shelves say $22,700:

Journal entry — Booking shrinkage after the physical count

Account	Debit	Credit
Inventory shrinkage (COGS section)	1,300
Inventory		1,300

Goods left without revenue. Posting shrinkage to its own account inside COGS keeps the loss visible instead of blending it into ordinary cost.

Use a dedicated shrinkage account rather than burying the adjustment in COGS proper: a shrinkage line running at 0.5% of sales is a cost of doing business; one running at 4% is an investigation. Track it as a percentage each count.

The reader's checklist

Watch the inventory balance against sales. Inventory growing faster than revenue means cash is silting up on the shelves — the working-capital trap quantified in working capital basics.
Count on a schedule. Full count annually at minimum; cycle counts for the top-value items quarterly. Keep the count sheets — they are the substantiation behind the balance-sheet figure, part of the records standard in Publication 583.
Trend the shrinkage percentage. The number matters less than its direction.
Value consistently. Cost method choices (specific identification, FIFO, average) change both the balance sheet and margin; pick one, apply it every period, and change only deliberately at a year boundary.