303023 Intangible Asset 2F Flashcards
Amortization
Amortization is an accounting process for reducing an asset or liability by periodic payments or writedowns that are distributed across the time the organization gains a value from or has obligation for the item. Specifically, it is the process of reducing a liability recorded as a result of a cash receipt (e.g., unearned revenue) by recognizing revenues or reducing an asset recorded as a result of a cash payment (e.g., prepaid expenses) by recognizing expenses or costs of production.
SFAC 6.142
Amortization is an allocation process to orderly reduce bond premium, bond discount, and bond issue costs by allocating the cost of an intangible asset to expense over time.
If the pattern in which the economic benefits of an intangible asset are consumed or otherwise used up cannot be readily determined, which of the following methods should be used to amortize intangible assets?
Double-declining balance
Straight line
Sum of the years’ digits
Productive use
Question #303023
Straight line
The straight-line method is correct. When the pattern in which the economic benefits of an intangible asset are consumed or otherwise used up cannot be readily determined, the straight-line method should be used to amortize intangible assets. This is because the straight-line method results in a constant amount of amortization expense over the useful life of the asset, which is a reasonable method when the pattern of consumption cannot be readily determined.
The other answer choices are incorrect:
The double-declining balance method is an accelerated method of depreciation, which is not appropriate for intangible assets as their consumption pattern cannot be determined.
The sum-of-the-years’-digits method is an accelerated method of depreciation, which is not appropriate for intangible assets as their consumption pattern cannot be determined.
The productive-use method is not a recognized method of amortizing intangible assets under U.S. GAAP.
Double-Declining Balance
Double-declining balance (200% declining balance) is an accelerated depreciation method that applies a rate double that of straight-line (originally based on the method used for tax purposes). It is based on the assumption that the productivity or revenue-generating power of the asset is relatively greater during the earlier years of its life, or that maintenance expenses tend to increase during the later years. It produces results similar to the sum-of-the-years’-digits method.
The computation is double the straight-line (SL) rate times the carrying amount of the asset:
DDB depreciation expense = 200% SL rate × Carrying amount
Depreciation is discontinued when the carrying amount equals the residual value.
Declining balance can also be applied at a different rate, e.g., 150% of straight-line.
Generally Accepted Accounting Principles (GAAP)
Generally accepted accounting principles (GAAP) are basic accounting principles and standards and specific conventions, rules, and regulations that define accepted accounting practice at a particular time by incorporation of consensus and substantial authoritative support.
The Financial Accounting Standards Board (FASB) Accounting Standards Codification (Codification) is the source of authoritative generally accepted accounting principles (GAAP) recognized by the FASB to be applied by nongovernmental entities. Rules and interpretive releases of the Securities and Exchange Commission (SEC) under authority of federal securities laws are also sources of authoritative GAAP for SEC registrants. In addition to the SEC’s rules and interpretive releases, the SEC staff issues Staff Accounting Bulletins that represent practices followed by the staff in administering SEC disclosure requirements, and it utilizes SEC Staff Announcements and Observer comments made at Emerging Issues Task Force (EITF) meetings to publicly announce its views on certain accounting issues for SEC registrants. (FASB ASC 105-10-05-1)
Accounting and financial reporting practices not included in the Codification are nonauthoritative. Sources of nonauthoritative accounting guidance and literature include, for example, the following:
- Practices that are widely recognized and prevalent either generally or in the industry
- FASB Concepts Statements
- American Institute of Certified Public Accountants (AICPA) Issues Papers
- International Financial Reporting Standards (IFRS) of the International Accounting Standards Board
- Pronouncements of professional associations or regulatory agencies
- Technical Information Service Inquiries and Replies included in AICPA Technical Practice Aids
- Accounting textbooks, handbooks, and articles
The appropriateness of other sources of accounting guidance depends on its relevance to particular circumstances, the specificity of the guidance, the general recognition of the issuer or author as an authority, and the extent of its use in practice. (FASB ASC 105-10-05-3)
Intangible Asset
Intangible assets are nonphysical and nonfinancial assets (lacking physical substance) whose value derives from the rights that their ownership confers (e.g., goodwill). The evidence of existence of an intangible asset is elusive, value is often difficult to estimate, and useful life is often indeterminable. It may confer operating, financial, or other income-producing benefits; is recorded at cost (acquisition cost if purchased, cost to develop, maintain, and defend if generated internally); and is amortized in a systematic and rational way (straight-line) over the periods that are estimated to benefit (except goodwill, which is evaluated periodically for impairment).
Classification is based on several characteristics:
- Identifiability: separately identifiable or lacking separate identification (only goodwill is unidentifiable)
- Manner of acquisition: purchased or developed internally
- Expected period of benefit: limited by law or contract, related to human or economic factors, or of indefinite or indeterminate duration
- Separability from entire enterprise: rights transferable without title, salable, or inseparable from the enterprise
Assets usually included in this term are the long-lived intangible assets usually acquired as operational assets, patents (legal life = 17 years), copyrights (legal life = author’s life plus 70 years; accounting life = 40 years), trademarks, franchise rights, and goodwill.
Internally generated intangible assets (e.g., patents) are capitalized according to FASB ASC 730-10-05. Development costs are expensed, and only costs associated with registration, maintenance, and legal defense are capitalizable (e.g., legal fees, registration fees, costs of models and drawings, and costs of successful court defenses).
For tax purposes, acquired intangible assets that are defined as IRC Section 197 intangibles can be amortized over 15 years.
Straight-Line Method
The straight-line method is a depreciation method based on an equal allocation of the cost of operational assets with the passage of time. It assumes that the useful life of the asset is used up evenly over time and charges a fixed amount per period to expense.
The computation for the straight-line (SL) method is:
- Straight-line depreciation expense per year = (Cost - Residual value) ÷ Useful life (years)
The advantage of the straight-line method is that it is simple to compute. The disadvantage is that the passage of time may not be representative of the use of the asset’s benefits and may not match cost to revenue.
- Straight-line rate = 1 ÷ Useful life (years)
The straight-line method is a method of allocation such that a constant dollar amount is recognized as revenue or expense each period. The straight-line method is commonly used for depreciation.
Example: An asset costing $100,000, with a salvage value of $5,000, to be depreciated over 10 years by the straight-line method of depreciation would be depreciated at $9,500 per year (($100,000 - $5,000) ÷ 10).
Sum-of-the-Years’-Digits (SYD)
Sum-of-the-years’-digits is an accelerated depreciation method that applies a fraction, which decreases each period, to the acquisition cost (less residual value). It is based on the assumption that the productivity or revenue-generating power of the asset is relatively greater during the earlier years of its life or that maintenance expenses tend to increase during the later years. It produces results similar to double-declining balance.
FASB ASC 360-10-35-7
Fraction computation:
- Numerator: years’ digit in reverse order: 4, 3, 2, 1,
- Denominator: sum of the years’ digits: 1 + 2 + 3 + 4 = 10, or
- n[(n+1) ÷ 2], where n = life in years [4 (5) ÷ 2] = 10.
Fractions for each successive year:
- Year 1: 4/10
- Year 2: 3/10
- Year 3: 2/10
- Year 4: 1/10
The computation is SYD depreciation = Fraction × (Cost - Residual value).
2264.11
The amortization method should reflect the pattern in which the economic benefits of the intangible asset are consumed or are otherwise used up. The straight-line amortization method should be used if that pattern cannot be reliably determined.
FASB ASC 350-30-35-3
