Amortization refers to the process of systematically expensing the cost of an intangible asset over the useful life of that asset. Intangible assets include patents, copyrights and franchises. The accountant reports amortization expense on the company’s income statement, reducing the company’s net income. The accountant bases the annual amortization expense using an estimate for the asset’s useful life. Accumulated amortization reduces the net value of the intangible asset on the balance sheet.
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Identify the intangible assets to be amortized, using the company’s asset listing or itemized balance sheet. Intangible assets contain no physical properties. Yet these assets add value to the organization. Some intangible assets contain an estimated life, while others do not. Only amortize assets with a measurable, estimated life.
Determine your cost of the intangible assets. Add up the purchase price along with any legal fees to acquire the asset. Review purchase agreements and contracts to identify these costs.
Estimate the useful life of each intangible asset. Certain intangible assets have a specific lifespan. Patent lives exist in a legal sense for 20 years, but can be shorter if expected technological advances will make the patent obsolete. Copyrights exist for seventy years beyond the life of the creator.
Divide the total cost of the asset by the years of each asset’s useful life. This is the annual amortization expense.
Record the amortization expense in the accounting records. Create a journal entry at the end of the year to recognize the expense. Debit "amortization expense" and credit "accumulated amortization" for the annual amortization expense.
Some intangible assets, such as those with an indefinite life, are not amortized.