LO7–5 Calculate amortization of intangible assets.

What is amortization?

Amortization is just like depreciation, but for intangible assets instead of physical ones

• Patents, franchises, copyrights

ALLOCATION PROCESS —> not valuation processes

What types of assets are amortized?

Intangible assets with finite (limited) useful lives.

• Most intangible assets have finite useful life, meaning we can estimate how long they’ll provide benefits

  • Patents: Legal life = 20 yrs, but useful life could be shorter

  • Franchise: Contract might last 20 years

  • Copyright: Legal life is long, useful life might be shorter

What types of assets are NOT amortized?

Intangible assets with indefinite useful lives (lasts for an unknown amount of time), such as goodwill and most trademarks.

What three factors are needed to calculate amortization?

Useful life, residual value, and amortization method.

What is useful life based on?

Expected economic benefit, not just legal life

What is the usual amortization method?

Straight‑line.

What is the typical residual value for intangibles?

Usually zero, unless another entity will buy the asset at a known price.

What determines the useful life of an intangible asset?

The useful life of an intangible asset is determined by the period over which it is expected to generate economic benefits (cash flows) for the entity, limited by legal, regulatory, contractual, or economic factors.

Example of useful life shorter than legal life

A patent may have a 20‑year legal life but only an 8‑year useful life due to new technology.

How do companies usually record amortization?

Debit Amortization Expense

Credit the intangible asset directly.

Can companies use Accumulated Amortization?

Yes — it’s acceptable, but many companies reduce the asset directly.

Franchise cost = $800,000; useful life = 20 years. What is annual amortization?

800,000 / 20 = $40,000 per year

Patent cost = $72,000; useful life = 8 years. What is annual amortization?

$72,000 / 8 = $9,000 per year

Journal entry to amortize the franchise

Debit Amortization Expense $40,000

Credit Franchises $40,000

Journal entry to amortize the patent

Debit Amortization Expense $9,000

Credit Patents $9,000

Examples of intangibles with finite(limited) useful lives

Patents, copyrights, computer software, franchises, licenses (finite), royalty agreements, customer lists, domain names (finite).

Examples of intangibles with indefinite (unlimited) useful lives

Goodwill, trademarks (renewable indefinitely), domain names (indefinite), licenses (indefinite).

Why aren’t indefinite‑life intangibles amortized?

Because there is no foreseeable limit to the period they will generate cash flows.

Is goodwill amortized?

Back:

What happens instead of amortization for indefinite‑life intangibles?

They are tested for impairment when events suggest their value may have declined.

What is the “recoverable amount”?

The cash expected to be received from using the asset over its remaining life.