What is Inventory? (And Why It Matters) for Handmade Businesses

INVENTORY! That one accounting word that can instantly send makers into confusion, frustration … and sometimes mild panic.
👉 Relax, inventory is simply your supply stash — with dollar signs attached.

If you run a handmade, creative, or craft business, inventory is one of the most important — and most misunderstood — bookkeeping topics you’ll deal with. So let’s slow this down, clear up the confusion, and make it actually make sense.

(This post was originally released on 1/4/2020 and has been updated and revised to give you better definitions. It’s also Part 1 of the Inventory + COGS for Handmade Businesses: Start Here (Your January Reset) Roundup.)

Why Inventory Matters (More Than You Think)

For most handmade businesses, materials and supplies are the biggest ongoing expense. Yarn, fabric, beads, clay, paper, notions — it all adds up fast.

Here’s the part that surprises a lot of makers:
👉 You usually cannot deduct materials and supplies in the year you buy them.
👉 You deduct them in the year you sell the finished item they’re used in.

YES — you read that right. It’s not a typo.

That’s because materials don’t become an expense right away. Until they’re used in something that actually sells, they’re considered inventory, which is an asset, not an expense.

This is where inventory starts to feel like a bookkeeping black hole:

• You spent the money
• You’ll need to track it carefully
• But you don’t get to deduct it yet

Instead, inventory lives on your Balance Sheet. It only moves to Cost of Goods Sold (COGS) on your Profit & Loss report after the item sells — and only for the materials used in that specific item.

Annoying? Sometimes.
Important? Absolutely.

So … What Is Inventory?

In a handmade business, inventory generally includes the cost of three things:

1️⃣ Finished Items
If you’ve made it, stored it, and plan to sell it — it’s inventory.
That includes items sitting on the shelves, in bins, in totes, or lovingly stacked in a closet “just for now”.

2️⃣Work in Progress (WIPS)
Those half-finished projects? Still inventory.
Even if they’re currently in timeout, waiting for motivation to strike.
The materials used in unfinished items still count as inventory until the item is completed and sold.

3️⃣ Materials & Supplies
Any materials you keep on hand that will become part of a finished product:

• yarn, fabric
• beads, findings, clay
• stuffing, batting

If it physically becomes part of what you sell, it’s probably inventory.

Who Actually Needs to Track Inventory?

Not every creative business has the same inventory rules — and this is where nuance matters.

• Makers selling finished items
  You track inventory for tax purposes and business clarity
• Custom-order makers who keep supplies on hand
  You still might want to track inventory because materials are purchased before the sale.
• Designers selling digital products (patterns, templates, downloads)
• Service-based creatives (tech editors, coaches, etc.)
  No inventory for tax purposes — though some people still track supplies for internal insight.

Bottom line:
If you buy materials before you sell a product, inventory likely applies to you.

How Do You Track Inventory?

(👉 I’ll be delving deeper about how to track inventory in another post that I’m updating — but for now….)

Inventory tracking requires details — there’s no way around that. You need a system that tracks:

• what you bought
• how much you bought
• what you paid
• when it’s used
• and when the finished item sells

This means:

• keeping receipts
• updating your records regularly
• and not relying on memory (because maker brains have better things to remember)

Some people use spreadsheets.
Some people use bookkeeping software.

What matters most is that your system is:

• consistent
• accurate
• and something you’ll actually keep up with

👉 Coming Up Next….

I’ll be talking about How Inventory Works (and WHY It Matters) in Your Handmade Business with topics like these:

• how inventory flows through your bookkeeping system
• how come your tax pro might say “just expense your yarn”
• what the IRS expects you to track (and report)
• what a good inventory system actually tracks
• and, tips for getting started with inventory tracking

Stay tuned!