What expense category is Paper Goods and Disposables?

Paper Goods and Disposables

For restaurants, cafes, and any food service business with a takeout or delivery component, the cost of paper goods and disposables is a major, recurring expense. Items like takeout containers, disposable cutlery, napkins, and cups are essential for serving customers.

While these items are a necessary cost of doing business, a key accounting question is how to categorize them. Are they a general supply expense, or are they a direct cost of the product you sell? 

For many restaurants, treating these costs as part of the Cost of Goods Sold (COGS) is the most accurate method. This guide will explain this approach to ensure your financial reporting is accurate and compliant.

Paper Goods and Disposables (as COGS) Category

The costs of paper goods and disposables provided to customers with their food and beverage orders are best categorized as part of your Cost of Goods Sold (COGS).

IRS Publication 334 explains that COGS includes the cost of all merchandise you purchase for sale. In a modern food service business, the packaging and disposable items are an integral part of the final product delivered to the customer. 

Including these costs in your COGS calculation provides a more accurate picture of your gross profit per sale. These costs are included on Line 36, Purchases, within the COGS section of Schedule C.

Important Considerations While Classifying Paper Goods and Disposables (as COGS)

To correctly calculate your COGS, you must accurately track your inventory of these items and distinguish them from general overhead supplies.

Direct vs. Indirect Supplies

It is essential to separate the costs of items that go to the customer from those used for general operations.

• Direct Costs (Include in COGS): These are items that are directly provided to the customer as part of their purchase. This includes takeout containers, disposable cutlery, cups, lids, straws, and napkins provided with an order.
• Indirect Costs (Deduct as Supplies): These are general supplies used in the operation of the restaurant that are not tied to a specific sale. Examples include paper towels for the restrooms, cleaning supplies, and printer paper for the office. These are deducted separately as Supplies.

Inventory is Mandatory

IRS Publication 334 states that when the sale of merchandise is an income-producing factor, you must use inventory to reflect your income. If you include your paper goods and disposables in COGS, you must also include them in your physical inventory counts at the beginning and end of each tax year.

Impact on Gross Profit and Prime Cost

Including direct disposables in your COGS provides a more accurate calculation of your restaurant's prime cost (COGS + Labor Costs). This gives you a clearer understanding of your profitability on every item you sell, especially for takeout and delivery orders.

Tax Implications of Paper Goods and Disposables (as COGS)

Your gross profit is calculated by subtracting your total COGS from your gross receipts. Therefore, accurate tracking of these costs is essential for correct tax reporting.

How to Report COGS

For a sole proprietor filing a Schedule C (Form 1040), the Cost of Goods Sold is calculated in Part III of the form. The cost of paper goods and disposables purchased during the year is included on Line 36, Purchases, and their inventory values are reported on Line 35 and Line 41.

What Records to Keep

You must have documentary evidence to substantiate all your costs. Your records should include:

• Invoices from all your paper goods and disposable suppliers.
• Canceled checks or other proofs of payment.
• Detailed inventory sheets from your physical counts at the beginning and end of the year that include these items.

How Fyle Can Automate Expense Tracking for Restaurant Supplies

Fyle helps you capture and organize the high volume of supplier invoices for your restaurant, providing a clean and compliant record for your COGS calculation.

• Capture All Supplier Invoices: Forward or attach your paper goods and food vendors' invoices directly to Fyle for automatic and accurate data capture.
• Track by Location: Code purchases to specific restaurant locations or departments 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 purchase data directly to the correct purchases or COGS sub-accounts in your accounting software.