What Does Freight In Mean in Accounting?

“Freight in” is a common term in business operations, referring to the costs associated with getting goods to a company’s location. Understanding its proper accounting treatment is foundational for accurate financial reporting and for businesses to manage their expenses effectively. This concept directly influences a company’s financial statements, making its correct classification and recording crucial for assessing profitability and inventory valuation.

Defining Freight In

“Freight in” refers to the transportation costs incurred by a business to bring inventory, raw materials, or other goods to its premises. These costs are directly tied to the acquisition of goods intended for resale or for use in the production process.

Examples of “freight in” include the shipping fees charged by a supplier for delivering purchased inventory, customs duties or tariffs on imported goods, and insurance costs incurred while goods are in transit to the buyer’s location. It is important to consider the direction of the goods and who pays the costs to accurately categorize them as freight in.

Accounting Treatment of Freight In

The accounting treatment of “freight in” is distinct because these costs are not immediately expensed but are instead capitalized. Capitalization means that the freight-in costs are added to the cost of the inventory purchased. This treatment aligns with the historical cost principle, a fundamental accounting principle stating that assets should be recorded at their original cost, which includes all costs necessary to bring the asset to its intended use.

By capitalizing “freight in,” these costs directly increase the value of the inventory asset on the balance sheet. This means that the expense is deferred until the goods are sold. For example, if a business purchases 100 units of an item at $10 each and incurs $50 in freight in for the entire shipment, the cost per unit becomes $10.50 ($1,000 cost + $50 freight in, divided by 100 units). This higher per-unit cost then remains with the inventory until it is sold.

Generally Accepted Accounting Principles (GAAP) allow for the capitalization of freight costs directly attributable to acquiring inventory. This practice is also consistent with the matching principle, which aims to match expenses with the revenues they help generate in the same accounting period.

Impact on Financial Reporting

The accounting treatment of “freight in” significantly impacts a company’s financial statements, particularly the income statement and the balance sheet. On the balance sheet, capitalized “freight in” increases the reported value of inventory, leading to a higher inventory asset balance. This higher valuation remains until the inventory is sold.

When the inventory that includes capitalized “freight in” is sold, these costs are then recognized as part of the Cost of Goods Sold (COGS) on the income statement. A higher COGS directly reduces a company’s gross profit, which is calculated as sales revenue minus COGS. Consequently, higher “freight in” costs result in a lower reported gross profit.

This deferred expense recognition ensures that the costs of acquiring inventory are properly matched against the revenue generated from its sale, aligning with accrual accounting principles.

Freight Out and Other Shipping Costs

“Freight out” represents the costs incurred by a business to ship finished goods to its customers. Unlike “freight in,” which is capitalized into inventory, “freight out” is typically treated as a selling expense or an operating expense on the income statement. This distinction reflects that “freight out” is a cost associated with the sale and delivery process, rather than the acquisition of inventory itself.

For instance, when a company pays to deliver a product to a customer, that shipping fee is recorded as a “freight out” expense, reducing the company’s profit margin directly in the period it occurs. This expense is usually reported separately from COGS, often under distribution costs or selling expenses. Other shipping-related costs, such as delivery expenses for general office supplies not intended for resale, would typically be categorized as general and administrative expenses.