Intangible assets are non-physical assets that provide economic benefits to a business. Unlike tangible assets such as machinery or buildings, intangible assets cannot be touched or seen, but they can be very valuable to a company. These assets often represent legal rights or competitive advantages and can be crucial for a company’s long-term success.
Key Characteristics of Intangible Assets:
- Intangible assets lack physical substance but hold significant value.
- They can be identified and separated from the business, either through legal or contractual rights.
- Intangible assets with finite useful lives are amortized over their useful life, similar to how tangible assets are depreciated. Intangible assets with indefinite useful lives are not amortized but are tested for impairment annually.T
- They provide future economic benefits to the business, such as revenue generation, cost savings, or competitive advantages
Examples of Intangible Assets
| Patents | Exclusive rights granted for an invention, allowing the holder to exclude others from making, using, or selling the invention for a specified period. |
| Trademarks | Rights to a recognizable sign, design, or expression that distinguishes products or services of a particular source from others. |
| Copyrights | Exclusive rights granted to the creator of original works of authorship, such as literature, music, and art, protecting the work from unauthorized use. |
| Franchises | Rights to operate a business using the branding, products, and business model of another company. |
Scenario:
A software company develops a new software program and obtains a patent for the technology. The costs associated with developing the software and obtaining the patent are capitalized as an intangible asset.
Development Costs: $500,000
Legal Costs for Patent: $50,000
Total Cost of Intangible Asset (Patent): $550,000
The company expects the patent to have a useful life of 10 years.
How to calculate Amortisation:
Annual Amortization=Total Cost / Useful Life
which is $550,000/10 years = $55,000 per year
Journal Entry for Annual Amortization:
Debit: Amortization Expense $55,000
Credit: Accumulated Amortization $55,000
This entry reduces the value of the intangible asset on the balance sheet and recognizes the expense on the income statement.