Amortization expense is the income statement account that records the portion of an intangible asset's cost — such as a patent, a license, or a customer list acquired in a business purchase — that is being systematically allocated to the current accounting period. The term is also used for the related, but distinct, process of spreading a bond's discount or premium into interest expense over the bond's life.
How amortization expense for intangibles works
Just as depreciation spreads the cost of a tangible asset over its useful life, amortization spreads the cost of an intangible asset with a finite useful life over the period it is expected to generate benefit. Each period, the company debits amortization expense and credits either the intangible asset directly or a contra-asset accumulated amortization account, reducing the asset's book value gradually rather than expensing its full cost at the time of purchase.
Which intangibles get amortized
Not every intangible asset is amortized. Patents, copyrights, and customer relationships with a determinable useful life are amortized over that life, usually on a straight-line basis absent a better pattern of benefit. Goodwill and other intangibles judged to have an indefinite useful life are not amortized at all under current US GAAP; instead they are tested periodically for impairment, a treatment that was itself a deliberate departure from the amortization approach used before the rules changed in the early 2000s.
Amortization expense versus bond amortization
When a bond is issued at a price above or below its face value, the resulting discount or premium is also amortized, but to bond interest expense rather than to a separate amortization expense line, and over the bond's remaining term rather than an asset's useful life. See amortization of bond discount and amortization of bond premium for how that process works specifically.
Why amortization expense matters to readers of the statements
Amortization expense is a non-cash charge, meaning no cash actually leaves the business in the period it is recorded, which is why it is added back to net income when building the operating section of the statement of cash flows. Analysts also watch amortization expense closely at companies that have made several acquisitions, since heavy amortization of acquired intangibles can depress reported net income for years after a deal closes even though the underlying cash economics of the business may be perfectly healthy, which is one reason many analysts also track earnings before amortization as a supplementary measure.
A simple worked example
A company that pays $100,000 for a patent with an estimated 10-year useful life would record $10,000 of amortization expense each year under the straight-line method, debiting amortization expense and crediting accumulated amortization. After five years, the patent's book value would be $50,000, with the remaining $50,000 to be amortized over the patent's remaining useful life, regardless of how the patent's actual market value might have changed in the meantime.
Tax treatment versus book treatment
The useful life and even the method used for amortization on a company's financial statements can differ from what is allowed for income tax purposes. Under US tax law, many purchased intangibles, including goodwill arising from an asset acquisition, are amortized straight-line over a fixed 15-year period under Section 197 of the tax code regardless of the shorter or longer useful life a company might use for book purposes, which routinely creates a timing difference between book and taxable income that is tracked through deferred income taxes. This divergence is one of the more common sources of confusion for people comparing a company's tax return to its published financial statements, since the same intangible asset can carry two entirely different remaining amortization schedules at once.