Sorry if you already know all this, but this is my understanding and my accountant has confirmed it is correct.
If you are a trader for tax purposes, you have 3 choices regarding valuing your shares which in turn affects your trading profit and tax thereon. You can value your shares at 1. cost price (purchase price), 2. at year end market price or 3. the lower of cost price and year end market price. This can differ from year to year and you can even use different methods within the same year for different items. The one proviso is that your opening shares valuation must be the same as the previous year's closing shares valuation.
So a simple example:
At year beginning (previous year end) you have the following shares:
Lot 1: 100 A bought at $10 and had a previous year end market price of $15
Lot 2: 200 A bought at $12 and had a previous year end market price of $15
Lot 3: 100 B bought at $20 and had a previous year end market price of $18
Lot 4: 100 B bought at $16 and had a previous year end market price of $18
If the previous year you valued your closing shares by method 3, the lower of cost price and year end market price, these 4 lots will be valued at $1,000, $2,400, $1,800 and $1,600 respectively.
Note that Lots 3 and 4 are the same share B, but using method 3, Lot 3 is valued @ it's market price (because that is lower than its cost price) and Lot 4 is valued at its cost price (because that is lower than the market price).
This intermixing, even within the same stock, is permitted so long as each Lot is uniquely identifiable (purchase date, quantity and cost).
So the previous year's value for closing shares is $6,800
If during the current year you bought 200 of share C at $10 which closed the year at $18 ( we will call this Lot 5) and sold Lot 4 at $22 per share (but B closed the year at $19). Your year end inventory might look like this (with the year end prices reflecting the current year - year end):
Lot 1: 100 A bought at $10 and had a year end market price of $20
Lot 2: 200 A bought at $12 and had a year end market price of $20
Lot 3: 100 B bought at $20 and had a year end market price of $19
Lot 5: 200 C bought at $10 and had a year end market price of $18
Your closing shares valued by each of the 3 methods is:
Method 1 Cost Price : $1,000, $2,400, $2,000 and $2,000 = $7,400
Method 2 Market Price: $2,000, $4,000, $1,900 and $3,600 = $11,500
Method 3 Lower of Cost and Market: $1,000, $2,400, $1,900 and $2,000 = $7,300
Your Sales for the Year are $2,200 (Lot 4 100 @ $22), your purchases for the year are $2,000 (Lot 5 200 @$10) and your opening stock value is $6,800 (this is always equal to the previous years closing stock value).
Since Trading Profit is calculated as Sales - (Opening Stock + Purchases - Closing Stock), depending on which closing stock valuation you choose for this year, your trading profit will be:
So if you want to minimise trading profit (and hence tax) for this year, choose method 3. However, as a previous poster implied, this just moves trading profit back to later years and eventually the actual profit on that lot will be defined by the sale price of that lot.
You can switch between methods to suit whatever trading profit makes more sense for you with the proviso that opening stock is always valued the same as the previous years closing stock.
Although I haven't shown it in the above example, when valuing year end stock you can even adopt a different method for each individual lot (say rather then method 3 for everything, I might decide to use method 3 for all stock except a particular one that I always want to value at market price, even if the market price is higher than the cost price). So long as your records can clearly identify that is what you did, that is OK. It certainly would make record keeping a lot more difficult if you want that type of granularity.
