Amortization of Intangible Assets
In the context of intangible assets accounting, amortization is the process of charging the cost of an intangible asset as expense over its useful life. Amortization expense is the income statement line item which represents such periodic allocation of cost as expense. Amortization expense reduces the carrying amount of the intangible asset on balance sheet.
The process of amortization is the same as depreciation, which is periodic allocation of cost of tangible fixed assets (also called property, plant and equipment) over their useful lives. Amortization expense differs from depreciation expense in that it is related to intangible assets.
Amortization applies to only those intangible assets that have a finite useful life. It does not apply to intangible assets with infinite useful life, such as goodwill.
The formula used for calculating amortization expense for a particular period depends on the amortization method used. The most common amortization method is the straight-line method, which allocates the cost of intangible assets equally over its useful life.
|Amortization Expense Under Straight-line Method =||Cost of Intangible Asset|
Example & Journal Entries
When an intangible asset is amortized, the amortization expense appears on the income statement and results in a corresponding decrease in the carrying amount of the intangible asset. Intangible asset is presented on balance sheet net of the accumulated amortization balance, which is the sum of amortization expense charged on the asset since its acquisition.
AGC, Inc. is registered in a country that allows copyrights for 10 years, after which any intellectual property is considered public. It recently purchased a copyright from HJI, Inc. for a best-seller at a cost of $8 million. It entitles the company to claim royalty for the next 8 years.
If the company uses straight line method for amortization, amortization expense for each year equals $1,000,0000 (=$8,000,000/8). It is recorded as follows:
After the first year of purchase, the copyright shall appear on balance sheet of AGC as follows:
|Less: accumulated amortization||1,000,000|