Amortization is the allocation of cost for an Intangible Asset over a period of time.
Amortization is a term given to the allocation of cost for an Intangible Asset expected to last more than twelve months. This enables a company to a truer reflection in value of its Intangible Assets and how much of their Useful Life has been consumed. Some examples of Intangible Assets that are Amortized include:
Intangible Assets are non physical assets i.e. they cannot be touched. They are a component of a companys Non Current Assets and can be found on the balance sheet. Intangible Assets are of long term financial value to a company. They are in opposite of Tangible Assets which are Assets of physical form, they will be of transactional value and typically have a finite life span.Amortization is a process applicable only to Intangible Assets, Tangible Assets are Depreciated instead.
The process of Amortization will typically apply to those Intangible Assets that are Definite form. Definite Intangible Assets are a form Intangible Assets that are of value to a company for a set period of time. The systematic amortization of Definite Intangible Assets allows for their value to be reduced in correlation with the remainder of its usefulness, thus providing a truer reflection to their expiry or consumption. This is unlike Indefinite Intangible Assets which posess an ifinite life and continue to be of value. As such instead of being amortized they are typically tested for impairment on a frequent basis. Whereby if an Idefinite Intangible has seen a reduction in value the loss is then carried over and accounted in the profit and loss statement.
An example of Amortization would be where Company X has come in to contractual agreement with Company Y to work under its patent. The agreement has cost 8 Million and will last 4 years and Company Y has no intention of renewing or extending the period of the contract. This will defined as a Definite Intangle Asset as it will only be of value and use to them for the periods outlined. Every year for the next 4 years Company X will then record an Amortization expense for 2 Million on its income statement.