January arrives, and with it a form most makers meet for the first time with a sinking feeling: Schedule C, the form where a sole trader — that is, someone running a business in their own name — reports what the business made and spent.
You do not need to become a tax expert. You need to know where your numbers go, and what to hand the person who prepares your taxes so they are not guessing. This guide covers the part that matters most to a maker: Part III, the cost of goods sold section.
Why Part III exists
The tax office knows makers and shops hold materials. You buy wax in October that becomes candles sold in February. If you simply deducted every purchase in the year you bought it, your costs would land in the wrong year — too high one year, too low the next.
Part III fixes that by counting inventory — the materials and finished pieces you hold — at the start and the end of the year. In plain words, the maths says: what you started with, plus what you bought, minus what you still have left, equals what actually went into the things you sold. That final amount is your cost of goods sold for the year.
The lines, one by one
Part III works through these lines:
- Beginning inventory. The value of the materials and finished stock you held on the first day of the year. If this is your first year, that is zero — you started with nothing.
- Purchases. What you paid during the year for materials and products that go into what you sell.
- Cost of labor. Labor you paid other people to help make the products. Read that carefully: this is not your own labor. Your own time never appears here — a sole trader cannot pay themselves as a cost of making goods. If you paid a helper, that belongs; your own hours do not.
- Materials and supplies. The smaller making supplies used up in production that are not part of the main purchases line — the bits and pieces that go into making but are tracked separately in your records.
- Ending inventory. The value of the materials and finished stock still on your shelves on the last day of the year. This is subtracted, because you bought it but have not sold it yet. Its cost belongs to next year, when those pieces sell.
These lines, along with any other costs in that part of the form, add and subtract down to a total cost of goods sold figure at the bottom of Part III, on line 42.
Where COGS lands
The line 42 total does not stay in Part III. It is carried to line 4 of Schedule C, near the top of the form, where it is subtracted from your gross receipts — the total you took in — to reach your gross profit.
That is the moment your materials tracking touches your tax bill. Every material cost you can show, correctly placed in the right year, lowers the gross profit the rest of the form works from. Every cost you lost, guessed, or put in the wrong year does the opposite or creates a question you cannot answer.
Other business costs — postage, packaging, Etsy fees, your stall or show fees if you sell in person — live elsewhere on the form, in the expenses part, not in Part III. Part III is only about the stuff that becomes the product, and keeping that boundary clean is exactly what a preparer wants to see.
What to hand a preparer
Walk in, or send, these things:
- Your total sales for the year, and your Etsy statements, so the income side can be checked.
- A worksheet showing beginning inventory, your materials purchases during the year, materials and supplies, any labor you paid others, and your ending inventory count and value.
- The list behind the worksheet: the purchases, dated, with amounts, so any figure can be traced back to a real receipt.
- A short note of how you value inventory — for example, materials at their weighted-average cost — so the same method is used year after year.
The ending inventory is the piece most makers miss. Count what is actually on the shelves on the last day of the year — materials and finished, unsold pieces — and value it the same way you value your materials all year. A made-up round number here quietly corrupts both this year's form and next year's, because this year's ending inventory becomes next year's beginning inventory.
Getting the numbers without a January scramble
None of this is hard in July. It is brutal in January if purchases live in a shoebox and inventory was never counted. The whole secret is boring: record materials when you buy them, keep the cost per product current, and count your shelves at year end. Then the worksheet a preparer needs is a printout, not a rescue mission.
If you want your per-product costs and materials purchases kept in one place through the year, the free pricing calculator on mykeptmoney.com is a place to start checking what each product really leaves you after fees.
Where refunds fit
Money you gave back to buyers is not income, and on the form it does not hide inside your costs: the worksheet carries a line for returns and allowances, taken off your receipts before anything else. One catch sellers miss — when Etsy credits a fee back on a refunded order, only part of the fee stack comes back; the listing fee and the Offsite Ads fee on that order are gone for good. Count both sides: the money returned, and the fees that never returned with it.
Cost tracking is not tax advice. This tool organizes your own numbers; it does not prepare or file your taxes. Show the worksheet to your tax preparer.