When the management has determined a useful life to an asset, the depreciable amount (acquisition cost or carrying value less any residual value if applicable) is allocated on a systematic basis over its useful life. In other words the value is expensed over determined months using one of the two methods available.
First things first, the amortization starts when the asset is available for use and ceases when the asset is derecognized or reclassified as held for sale. The period between those two dates is the expected period of useful live.
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Every intangible asset must have a deemed period of its useful life. According to IAS 38 this can either be finite or indefinite. The judgment between those two is something that is done by the management based on their industry-wide knowledge, experience in the company and any other future perspectives that need to be considered. This is a management estimate and usually there cannot be a right or wrong answer. However, every estimate must be reasonable and reasoned.
Obviously an asset with finite useful life is amortized. This is now where the second judgmental area kicks in – the period itself. Will it be 2 or 20 years or something in between? There are a few things that ought to be considered when determining the period:
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Although the company may have identified an intangible asset, recognizing it on the balance sheet is another matter. Before the company may record the asset in its books, the company must be able to demonstrate that the asset meets the definition of an intangible asset and also the recognition criteria for such assets.
According to IAS 38 an intangible asset shall be recognized if, and only if it is probable that the expected future economic benefits that are attributable to the asset will flow to the entity; and the cost of the asset can be measured reliably. As you may have understood, both those conditions have to be met obviously.
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Plainly speaking, an intangible asset is an identifiable non-monetary asset without physical substance. This should be fairly obvious from the name ‘intangible’. What this means really is the fact that you cannot touch or physically grasp the asset. What however is required prior you can talk of an asset is the requirement of identifiability – the company must be able to separate it from physical substance for an example and it must be ‘usable’ all on its own.
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Now that we know what to treat as and how to treat the expenses incurred in research phase, we can move onto the development phase. If the company has decided the path to pursue with the generation of the asset, it starts to develop it, meaning that it can now identify the asset and perhaps more reliably measure and state future economic benefits arising from use of the asset.
However, it’s not that clear with the recognition as it was with research phase, where everything was expensed. An intangible asset arising from development shall be recognized if, and only if, the company can demonstrate all of the following:
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We have already discussed the two main considerations a management needs to take into account when thinking about recognizing an internally generated asset. First one relates to identifying the asset itself and strictly speaking this shouldn’t be a difficulty. However, the second consideration is far trickier and with this post we’ll start opening the issue of why this is considered more difficult.
To begin with the assessment, the management needs to classify the generation of the asset into two phases – research and development phase. With this post we’ll go into more detail with the first one – research phase. As this distinction is trivial for identifying and measuring the cost, those two terms need to be clearly understandable and hopefully we’ll be able to bring more sense into this dilemma.
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There are times when a company generates an intangible asset that it may feel to be separately valued. This asset may very well be a website, software or anything similar that the company uses in its business to either increase revenue or to achieve cost-efficiency. In assessing whether the asset falls into the recognition criteria as an asset and not current period expense, there are two considerations that have to be taken into account.
First off the management needs to identify the asset itself – is it software perhaps or is it a website? Alongside with this identification the management needs to be able to assess and identify the benefits the company will gain from using this asset. They need to be clearly stated and understandable.
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