Freight out can be included in cost of goods sold. Traditional practice reports outbound shipping as a selling expense below gross profit, but a practical expedient under ASC 606 lets you treat delivery as a fulfillment activity and present those costs inside cost of sales. PwC’s guidance goes further and suggests the cost-of-sales presentation may actually be the preferable one. The right answer for your business depends on the accounting policy you elect and whether you apply it consistently.1PwC Viewpoint. 10.4 Shipping and Handling Fees
Why the Old Rule Said No
Introductory accounting draws a hard line between product costs and period costs. Product costs attach to inventory and flow through cost of goods sold when the goods sell. Period costs hit the income statement in the period they’re incurred. Under that framework, freight out is a period cost because the delivery happens after production is complete and the goods are already sitting in the warehouse, ready to sell.
Following that logic, freight out lands below the gross profit line as a selling expense, grouped with sales commissions and advertising. The journal entry debits a delivery expense account and credits cash or accounts payable. Gross profit stays clean as a measure of production efficiency, untouched by distribution costs.
The reasoning is straightforward: freight in brings goods to a salable condition, so it’s a product cost; freight out moves already-salable goods to the customer, so it belongs to the selling function. That treatment still appears in most textbooks, and it is still a defensible policy. It is no longer the only one.
The ASC 606 Fulfillment Election
The textbook rule lost much of its force when FASB updated the revenue recognition standard. ASC 606-10-25-18B introduced a practical expedient that lets a company elect to treat shipping and handling activities occurring after the customer obtains control of the goods as fulfillment costs rather than as a separate promised service.2Financial Accounting Standards Board. Accounting Standards Update 2016-10 Revenue from Contracts with Customers (Topic 606) Under the election, outbound shipping becomes part of fulfilling the obligation to deliver the product, not a standalone service you are providing.
The presentation consequence is the part most readers care about. PwC’s guide states that when a company elects the fulfillment approach, “presentation in costs of revenue would also be appropriate,” and it adds that “it may be challenging to conclude that presentation of those costs outside of cost of sales is preferable.” Read together, those two statements mean cost of sales is on the table and, in PwC’s view, often the stronger spot for freight out.1PwC Viewpoint. 10.4 Shipping and Handling Fees
A few conditions come with the election. You must apply it consistently to similar types of transactions. If you recognize revenue for the related goods before the shipping actually occurs, you need to accrue the estimated shipping cost at the time of the sale. And the election is an accounting policy, which pulls in the disclosure rules at ASC 235-10-50-1 through 50-6; your financial statement notes should explain what you have chosen.
FOB Terms Decide Whether the Election Is Available
The shipping terms in your sales contracts control when the customer takes control, which in turn controls whether the ASC 606 fulfillment election is even in play for a given shipment.
Under an FOB shipping point agreement, the buyer takes ownership the moment the goods are loaded onto the carrier at the seller’s location.3Legal Information Institute. Uniform Commercial Code 2-319 – F.O.B. and F.A.S. Terms The customer has obtained control at the shipping point, so any carriage you pay for after that is a post-control activity. That is exactly the fact pattern the fulfillment election was written for.
Under an FOB destination agreement, the seller retains ownership and risk until the goods arrive at the buyer’s location and must “at his own expense and risk transport the goods to that place.”3Legal Information Institute. Uniform Commercial Code 2-319 – F.O.B. and F.A.S. Terms Control does not transfer until delivery, so the shipping is not a post-control activity at all. It is part of fulfilling your core obligation to transfer the goods, and the cost sits naturally in cost of revenue without needing the election.
Either way, outbound shipping can end up in cost of sales. The path there just differs depending on your terms.
What Changes on the Income Statement
The practical stake in this classification is gross profit. Gross profit equals revenue minus cost of goods sold. When freight out sits below gross profit as a selling expense, the gross margin reflects only production costs. When freight out sits inside cost of goods sold, gross margin reflects production and delivery costs, and the gross profit percentage comes out lower.
Net income does not change. The freight expense hits the income statement either way, so total profit is the same. What changes is where the expense appears and what the gross margin communicates to anyone reading the statements. A company that includes freight out in cost of goods sold will report a lower gross margin than an otherwise identical company that classifies it as an operating expense. Anyone benchmarking across an industry needs to know which approach each company uses.
Match the presentation on both sides. If your shipping costs sit in cost of sales, the related shipping revenue you bill customers should sit in the same revenue line. Splitting the two across different sections of the income statement produces a misleading margin picture.
Switching from Selling Expense to Cost of Sales
If you have been classifying freight out as an operating expense and want to move it into cost of sales under the fulfillment election, PwC considers that a change in accounting policy under ASC 250. You will need to assess whether the change is preferable and may need to apply it retrospectively to the prior periods presented in the financial statements.1PwC Viewpoint. 10.4 Shipping and Handling Fees Disclosure matters too. If you keep shipping costs outside cost of revenue, think about whether your notes should state the amounts and name the line items where the costs appear.
Document the rationale. Public company auditors will scrutinize whichever method you land on, and so will private company reviewers if the amounts are material.
A Note on Freight In and Inter-Warehouse Transfers
Freight in is a different question with a settled answer. Shipping charges a buyer pays to get raw materials or finished goods into its own warehouse are capitalized into inventory under ASC 330, which defines inventory cost as “the sum of applicable expenditures and charges directly or indirectly incurred to bring inventory to its existing condition and location.”4EisnerAmper. Are the Increases in Freight Costs Capitalizable in Accordance with U.S. GAAP? Those costs reach cost of goods sold only when the related goods sell. That treatment is not controversial and is not affected by the ASC 606 election discussed above.
The cost of moving inventory between your own warehouses sits in a genuine gray area. One view capitalizes transfer freight into inventory on the ASC 330 “condition and location” rationale. The other view expenses it as a logistics cost, on the theory that the goods were already in salable condition at the first warehouse. Either method is defensible. Pick one, apply it consistently, and remember that a later switch could itself trigger a change-in-policy analysis under ASC 250.
The short version: the old “freight out is always a selling expense” rule is no longer the whole picture. GAAP gives you a legitimate choice, current professional guidance leans toward cost of sales when the fulfillment election is made, and the only wrong answer is an inconsistent or undisclosed one.