What is an amortization expense: Definition and examples [2025]

What is an amortization expense?

An amortization expense is the systematic allocation of an intangible asset’s cost over its estimated useful life. It reflects the gradual consumption of the asset’s economic value and appears on the income statement as a non-cash expense, reducing both reported income and taxable income.

Unlike tangible assets that wear down physically, intangible assets, such as patents, copyrights, and licenses, decline in value due to legal expirations, technological advancements, or changing market conditions.

This practice aligns with the matching principle in accrual accounting, which requires expenses to appear in the same period as the revenue they support. When a business acquires an intangible asset that provides benefits over multiple years, amortization ensures that each period reflects a portion of the asset’s cost.

Intangible assets subject to amortization typically include:

• Patents and intellectual property
• Trademarks and brand names
• Copyrights
• Customer lists and relationships
• Software licenses and development costs
• Franchise agreements
• Non-compete agreements

When to use an amortization expense

Businesses record amortization expenses when they acquire an intangible asset with a finite useful life. These assets provide economic benefits over multiple accounting periods, often spanning several years. Common examples include purchased patents, proprietary software development, and customer lists acquired through mergers and acquisitions.

Amortization also applies to certain finance leases. In these cases, companies amortize the right-of-use (ROU) asset over its useful life or lease term, depending on the lease classification. Additionally, loan payments often follow an amortization schedule that systematically reduces the principal balance while accounting for interest expenses over time.

Amortization expense vs. depreciation expense

While amortization and depreciation serve similar accounting purposes, they apply to different types of assets and follow different calculation rules. Understanding these distinctions is essential for accurate financial reporting and tax compliance.

Both amortization and depreciation are non-cash expenses that reduce taxable income. To ensure accuracy and compliance, many accounting teams rely on purpose-built software to track and manage these expenses across reporting periods.

Here are key differences between amortization and depreciation expenses:

How do amortization expenses work?

Amortization expenses gradually reduce the carrying value of an intangible asset over its useful life. When a company acquires an intangible asset, it records the full purchase price as an asset on the balance sheet. In each accounting period, a portion of that cost appears as an amortization expense on the income statement.

This process involves two core accounting entries:

• Amortization expense on the income statement, which reduces reported net income
• Accumulated amortization on the balance sheet, which lowers the asset’s book value

Over time, these entries decrease the asset’s net book value until it reaches zero or its estimated residual value. 

Amortization expenses impact financial reporting in the following ways:

• Lower net income: Amortization reduces reported profit.
• Declining asset value: The asset’s carrying value decreases with each period.
• Ratio implications: Metrics like return on assets and profit margins may change.
• Tax advantages: Amortization creates a tax shield by lowering taxable income.

Unlike some operating expenses, amortization is a non-cash expense, meaning it doesn't require an actual cash outflow when recorded. This is why amortization returns to the net income when calculating cash flow from operations.

Did You Know?

Under the U.S. GAAP, goodwill—the premium paid when acquiring a company above its fair market value—is not amortized for public companies. Instead, it requires annual testing for impairment.

Amortization methods

Companies can apply several methods to calculate amortization expenses, depending on the nature of the asset and the applicable accounting standards. The selected method determines how the expense spreads across the asset’s useful life and can influence how financial results appear over time.

Straight-line method

The straight-line method is the most common approach for amortization expenses. It spreads the cost of the asset evenly across each accounting period in its useful life. Due to its simplicity and predictability, it is the default method under GAAP.

Calculation:

Divide the asset’s initial cost (less any residual value) by its useful life.

Example: 

A company acquires a patent for $100,000 with a useful life of 10 years and no residual value. Using the straight-line method, the annual amortization expense is $10,000 ($100,000 ÷ 10 years).

Declining balance method

The declining balance method accelerates amortization by applying a fixed percentage to the asset’s remaining book value each period. This results in higher amortization expenses in the earlier years and lower amounts later on. It often applies when the asset generates more value in its early years.

Calculation:

Multiply the asset’s current book value by a fixed percentage.

Example:

Using a 20% declining balance rate on a $100,000 asset, the amortization expenses for each year would be:

• Year 1: $20,000 (20% of $100,000)
• Year 2: $16,000 (20% of $80,000)
• Year 3: $12,800 (20% of $64,000), and so on

Double-declining balance method (DDB)

The double-declining balance method is an accelerated approach that applies twice the straight-line rate to the asset’s remaining book value. It frontloads amortization, making it useful for assets that lose value quickly in the early years of their useful life.

Calculation:

1. Calculate the straight-line rate: 1 ÷ useful life.
2. Double the rate and apply it to the remaining book value each year.

Example:

For a 10-year asset, the DDB rate is 20% (1 ÷ 10 × 2). On a $100,000 asset:

• Year 1: $20,000 (20% of $100,000)
• Year 2: $16,000 (20% of $80,000), and so on

Bullet method

The bullet method records the entire amortization expense in a single period, rather than spreading it out. This method is not common in standard financial reporting but may apply when an intangible asset loses all value suddenly due to legal rulings or rapid obsolescence.

Calculation:

Amortization Expense = Full Asset Cost (Recognized entirely in one period)

Example:

A company owns a $75,000 software license expected to be useful for five years. In year three, a regulatory change renders the software obsolete. Instead of continuing the existing schedule, the company immediately expenses the remaining $45,000 in that year.

Note:

This method is generally not valid for tax purposes and is often for exceptional cases.

Balloon payments

Though not an amortization method for intangible assets, balloon payments are a feature of some loan amortization schedules. In these cases, borrowers make smaller payments over the loan term, followed by a large lump-sum (or "balloon") payment at maturity.

Calculation:

• Balloon Payment = Remaining Principal Balance at Maturity
• Total Amortization = Regular Payments + Final Balloon Payment

Example:

A $500,000 loan is structured with monthly payments as if it were a 30-year loan, but the loan matures in 10 years. The borrower pays $2,000 monthly, then a balloon payment of $315,000 at the end of year 10.

Sum-of-the-years digits (SYD) method

The SYD method is another form of accelerated amortization, allocating larger expenses to earlier periods. It uses a fraction that declines over time, based on the asset’s remaining useful life.

Calculation:

1. Add the digits of the asset’s useful life (e.g., for 5 years: 1 + 2 + 3 + 4 + 5 = 15).
2. For each year, divide the remaining life by the sum of the years.
3. Multiply that fraction by the asset’s original cost to calculate annual amortization.

Example:

For a $100,000 asset with a 5-year useful life: The sum of years = 15

• Year 1: 5/15 × $100,000 = $33,333
• Year 2: 4/15 × $100,000 = $26,667
• Year 3: 3/15 × $100,000 = $20,000
• Year 4: 2/15 × $100,000 = $13,333
• Year 5: 1/15 × $100,000 = $6,667

Units of production

This method ties amortization to actual usage rather than time. It’s suitable when an asset’s value links more closely to output, such as software licensed per transaction or mineral rights tied to extraction volume.

Calculation:

1. Estimate total lifetime production.
2. Divide the asset’s cost by total units to get a per-unit rate.
3. Multiply the per-unit rate by actual production for the period.

Example:

If an intangible asset could support 50,000 transactions over its life and costs $100,000, the amortization rate is $2 per transaction. If 10,000 transactions occur in a year, the amortization expense is $20,000.

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Amortization journal entry: How to record amortization expenses

To record amortization, accounting teams use a standard journal entry that reflects the expense on the income statement and reduces the asset’s book value via a contra-asset account.

Here’s a step-by-step guide to recording amortization.

1. Establish the asset’s initial value: Include the purchase price and any direct costs required to prepare the asset for use, such as legal fees or registration costs. Internally developed assets may be capitalized once technical feasibility is achieved, but research costs are expensed immediately.
2. Estimate useful life: Use professional judgment to assess legal, economic, and operational factors. While patents may have legal protection for 20 years, actual useful life could be shorter due to obsolescence or market shifts. For tax purposes, Section 197 intangibles are typically amortized over 15 years.
3. Determine residual value: Most intangible assets have no residual value, but some (like domain names or certain trademarks) may retain worth. If applicable, subtract this from the asset’s cost to determine the amortizable base.

Sample journal entry:

• Debit: Amortization Expense
• Credit: Accumulated Amortization

Example:

Monthly amortization for a patent:

• Debit: Amortization Expense – Patents $1,000
• Credit: Accumulated Amortization – Patents $1,000

This entry increases expenses and reduces the asset’s net book value, while the original cost remains unchanged on the balance sheet.

Amortization expense examples

Let’s explore practical examples where businesses encounter amortization expenses to help clarify how this accounting concept applies in real-world scenarios.

Amortizing a lease

Under Accounting Standards Codification (ASC) 842, businesses must recognize an ROU asset and corresponding lease liability. The ROU asset is amortized over the lease term or the asset’s useful life—whichever is shorter.

Example:
A company signs a five-year lease with annual payments of $50,000. The present value of payments totals $220,000. Using straight-line amortization, the journal entry would look like this:

• Annual expense: $44,000 ($220,000 ÷ 5)
• Monthly entry:
  
  • Debit: ROU Asset Amortization Expense $3,667
  • Credit: Accumulated Amortization – ROU Asset $3,667

Amortizing an intangible asset

A tech company buys a software patent for $500,000. Although the legal life is 20 years, management estimates the economic life at eight years due to rapid innovation.

• Annual expense: $62,500
• Monthly entry:
  
  • Debit: Patent Amortization Expense $5,208.33
  • Credit: Accumulated Amortization – Patents $5,208.33
• After four years, $250,000 is amortized, reducing the net book value to $250,000.

If the useful life changes, the company updates the amortization schedule prospectively.

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Pro Tip:

Maintain detailed amortization schedules for each significant intangible asset to support forecasting and ensure consistency in financial reporting.

Managing lease amortization can be complex, especially for companies with multiple leases. Many organizations are replacing Excel tracking with specialized lease software to ensure accuracy and compliance with accounting standards during the transition of capital finance leases to ASC 842.

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Amortization expense tax implications

Amortization expenses have significant tax implications that can affect a company's tax liability and cash flow. Understanding these tax considerations is essential for effective tax planning and compliance.

For U.S. federal income tax purposes, most acquired intangible assets are classified as Section 197 intangibles and must be amortized over 15 years, regardless of their actual useful life. This includes goodwill, going concern value, workforce in place, patents, copyrights, formulas, and customer lists acquired as part of a business acquisition.

Key tax considerations for amortization expenses include:

• Tax deductibility: Amortization reduces taxable income and overall tax liability.
• Book vs. tax differences: Useful life for financial reporting may differ from IRS requirements, creating deferred tax assets or liabilities.
• Self-created intangibles: Self-created intangibles generally aren’t amortizable for tax purposes, except for certain patents.
• International complexity: Tax rules vary by jurisdiction, especially for multinational operations.
• Recapture risk: If an amortized asset is sold for more than its tax basis, the gain may qualify as ordinary income.

Accounting teams should consult tax professionals to ensure compliance and identify planning opportunities related to amortization schedules and reporting differences.

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NetLease provides comprehensive features designed specifically for accounting professionals, including:

• Automated schedules: Generate accurate amortization schedules across an asset’s full lifecycle with just a few clicks.
• Compliant journal entries: Automatically post entries that meet ASC 842, International Financial Reporting Standards (IFRS) 16, and other standards.
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• Audit-ready reporting: Produce transparent, detailed reports that satisfy auditor expectations.
• Scenario modeling: Analyze the impact of different useful life assumptions and amortization methods.

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Learn more about amortization expense

Is amortization a liability or expense?

Amortization is an expense, not a liability. It reduces net income and taxable income on the income statement. The corresponding credit increases accumulated amortization, a contra-asset account on the balance sheet.

What is an amortization schedule?

An amortization schedule is a table that details the periodic reduction of an asset's value or loan balance over time. For intangible assets, it shows the amortization expense for each accounting period and the resulting net book value. For loans, it breaks down each payment into principal and interest components.

What is the maximum number of years for amortization?

For financial reporting purposes, the maximum amortization period depends on the asset's estimated useful life. For tax purposes in the U.S., Section 197 dictates that intangibles amortize over 15 years, while other intangibles may have different prescribed periods based on their nature and use.

Is goodwill depreciated or amortized?

Goodwill is amortized, not depreciated, because it's an intangible asset. However, under U.S. GAAP, public companies don't amortize goodwill but instead test it annually for impairment. Private companies may elect to amortize goodwill over ten years or less.

What is capital cost allowance?

Capital cost allowance (CCA) is the Canadian tax system's method for depreciating capital assets, similar to but distinct from amortization. It allows businesses to deduct the cost of both tangible and intangible assets over time according to prescribed rates for different asset classes.

Can intangible assets be amortized?

You can amortize intangible assets with finite useful lives over their expected useful life. However, intangible assets with indefinite useful lives, such as some trademarks or goodwill (for public companies), are not amortized but instead tested for impairment annually.