What expense category is Food Spoilage and Waste?

In the restaurant industry, not every ingredient purchased makes it to a customer's plate. Food spoilage, accidental waste, and food used for kitchen training are unavoidable costs of doing business. Managing and accounting for this shrinkage is essential for controlling your food cost percentage and for accurate tax reporting.

A common and critical accounting error is to ignore these costs or miscategorize them. The IRS has specific rules for handling food that is removed from inventory without being sold. 

It's not a simple, single-line expense but an adjustment within your Cost of Goods Sold (COGS). This guide will clarify how to account for these costs to ensure your financial reporting is accurate and compliant.

Food Spoilage and Waste Category

Losses from food spoilage and waste are not deducted as a separate line-item expense (like Spoilage Expense). Instead, the loss is automatically accounted for through the correct calculation of your Cost of Goods Sold (COGS) on Schedule C (Form 1040), Part III.

The fundamental principle, outlined in IRS Publication 334, is that businesses must value their inventory at the beginning and end of each tax year. When food is spoiled or wasted, it is no longer in your inventory at the end of the year. 

This lower ending inventory value results in a higher COGS, which in turn lowers your gross profit and taxable income for the year.

Important Considerations While Classifying Food Spoilage and Waste

To correctly account for these losses, you must distinguish between different types of unsalable food and maintain accurate inventory records.

The Cost of Goods Sold Formula

The IRS requires you to use a specific formula to calculate your COGS for the year: 

(Beginning Inventory) + (Purchases) - (Ending Inventory) = Cost of Goods Sold

When food spoils and is thrown out, it is not included in your physical count for Ending Inventory. By correctly valuing your ending inventory, the cost of the spoiled food is automatically included in your COGS.

Food Used for Staff Meals or Training

It is critical to separate food that is spoiled from food that is used for other business purposes.

• Spoilage: This food is worthless and simply removed from the inventory count.
• Staff Meals: Food used for employee meals must be accounted for separately. Its cost should be removed from your COGS calculation and reclassified as a Meal Expense, which is generally subject to the 50% deduction limit as detailed in IRS Publication 463.
• Training Food: Food used for training new kitchen staff should also be removed from your COGS calculation and reclassified as a supply or training expense, which is 100% deductible.

Donating Spoiled or Obsolete Food

If you donate food that is approaching its expiration date to a qualified charity, IRS Publication 526 provides a special rule. You may be able to claim an enhanced deduction for the donation. However, you must remove the cost of the donated food from your Cost of Goods Sold.

Tax Implications and Recordkeeping

Your gross profit is calculated by subtracting your total COGS from your gross receipts. Therefore, accurate inventory management is essential for correct tax reporting.

How to Report the Costs

For a sole proprietor filing a Schedule C (Form 1040), the cost of spoiled and wasted food is included in the Cost of Goods Sold calculation in Part III. It is not listed as a separate line item.

What Records to Keep

You must have documentary evidence to substantiate all your costs. While you don't need a receipt for every spoiled tomato, you must maintain:

• Invoices from all food and beverage suppliers for your purchases.
• Detailed inventory sheets from your physical counts at the beginning and end of the year.
• It is also a best practice to maintain a "waste sheet" to track items that are spoiled or wasted between inventory counts. This helps you manage your food cost percentage more effectively.

How Fyle Can Automate Expense Tracking for Food Purchases

Fyle helps you capture and organize the high volume of supplier invoices for your restaurant, providing the clear and compliant purchase records needed for your COGS calculation.

• Capture All Supplier Invoices: Forward or attach your food and beverage vendors' invoices directly to Fyle for automatic and accurate data capture.
• Track by Food Category: Code purchases to specific categories (e.g., Produce, Meat, Dairy) for detailed cost analysis.
• Create a Clear Audit Trail: Fyle keeps all supplier invoices and proofs of payment in one place for easy substantiation of your purchases.
• Automate Your Accounting: Sync categorized food purchase data directly to the correct purchases or COGS sub-accounts in your accounting software.