Definition of Amortization Gartner Finance Glossary

identifiable useful lives

All this can be helpful for things like tax deductions for interest payments. Amortization is an accounting method used over a certain period to gradually lower the book value of a loan or other intangible asset. The amortization of a loan focuses on deferring loan payments over some time. Also, amortization is comparable to depreciation in terms of how it affects an asset’s valuation. The costs of intangible assets with identifiable useful lives are amortized over their economic/legal life. These assets benefit the company for many future years, so it would be improper to expense them immediately when they are purchase.

The debit balances in some of the intangible asset accounts will be amortized to expense over the estimated life of the intangible asset. Regardless of whether you are referring to the amortization of a loan or of an intangible asset, it refers to the periodic lowering of the book value over a set period of time. Having a great accountant or loan officer with a solid understanding of the specific needs of the company or individual he or she works for makes the process of amortization a simple one. Of the different options mentioned above, a company often has the option of accelerating depreciation. This means more depreciation expense is recognized earlier in an asset’s useful life as that asset may be used heavier when it is newest. Tangible assets can often use the modified accelerated cost recovery system . Meanwhile, amortization often does not use this practice, and the same amount of expense is recognized whether the intangible asset is older or newer.

What is Amortization?

Accurate estimation of these expenses is essential for expense forecasting. At the same time, any accumulated amortization is added to the credit side of the journal. Amortization and depreciation are similar in that they both support the GAAP matching principle of recognizing expenses in the same period as the revenue they help generate. The credit balance in the contra asset account Discount on Notes Receivable will be amortized by debiting Discount on Notes Receivable and crediting Interest Income. With the above information, use the amortization expense formula to find the journal entry amount.

  • Amortization is recorded in the financial statements of an entity as a reduction in the carrying value of the intangible asset in the balance sheet and as an expense in the income statement.
  • That cost, he said, could be amortized over the life of the revenue stream.
  • Amortization, in general, is writing off a part of its value every year.
  • As opposed to other models, the amortization model comprises both the interest and the principal.

This method spreads the cost of the intangible asset evenly over all the accounting periods that will benefit from it. Depreciation is used to spread the cost of long-term assets out over their lifespans. Like amortization, you can write off an expense over a longer time period to reduce your taxable income.


Negative amortization is when the size of a debt increases with each payment, even if you pay on time. This happens because the interest on the loan is greater than the amount of each payment.

  • If you make an expense that’s not included in your balance sheet, it will be trouble later during reconciliation.
  • The standard solutions require only 0 amortized time per operation, but might require 0 time for any particular operation.
  • Towards the end of the schedule, on the other hand, more money is applied to the principal.
  • Learn accounting fundamentals and how to read financial statements with CFI’s free online accounting classes.
  • Amortization is an accounting technique used to spread payments over a set period of time.

Though the notes may contain the history, a company only needs to record its currently level of debt as opposed to the historical value less a contra asset. It’s important to remember that not all intangible assets have identifiable useful lives. It expires every year and can be renewed annually without a renewal limit.

Amortization of intangible assets

Typically, amortisation is expensed on a straight-line basis, so the same amount is expensed periodically across the asset’s life. Typically, assets that are expensed under the amortisation method have no resale or salvage value when they are written off. A method of progressively lowering an account balance over time is called amortization. A steadily increasing part of the debt payment is applied to the principal each month while loans are amortized. Like depreciation, amortization of intangible assets involves taking a specified percentage of the asset’s book value off each month.

More examples Economics dictate that schedule because it enables clinics to treat patients in shifts to amortize the cost of the equipment, he said. Lenders, including financial institutions, utilize amortization plans to show a loan payback schedule based on a specific maturity date. The calculation will incorporate the number of payment periods , the principal , the amortization payment and the interest rate . To find the amortized acquisition cost the securities are amortized like a mortgage or a bond. This is the process of scheduling intervals of payment over time to pay back an existing debt, taking into account the time value of money. Assume that you have a ten-year loan of $10,000 that you pay back monthly. Also, assume that the annual percentage interest rate on this loan is 5%.

What is Amortization? How is it Calculated?

Since part of the payment will theoretically be applied to the outstanding principal balance, the amount of interest paid each month will decrease. Since your payment should theoretically remain the same each month, more of your payment each month will apply to principal, thereby paying down the amount you borrowed over time.

outstanding loan balance

To more accurately reflect the use of these types of assets, the cost of business assets can be expensed each year over the life of the asset. The expense amounts are then used as a tax deduction, reducing the tax liability of the business. The IRS has schedules that dictate the total number of years in which to expense tangible and intangible assets for tax purposes. When a company acquires assets, those assets usually come at a cost. However, because most assets don’t last forever, their cost needs to be proportionately expensed based on the time period during which they are used.