Amortization is a routine decrease in value of an intangible asset such as patents, trademarks, copyrights etc. due to the passage of time or as a result of use.
Difference between depreciation and amortization-
The key difference between depreciation and amortization is that amortization is used for intangible assets, while depreciation is used for tangible assets. Another major difference is that amortization is always implemented using the straight-line method, while depreciation can be implemented using either straight-line method or written down method.
An intangible asset’s annual amortization expenses reduce its value on the balance sheet, which reduces the number of total assets in the asset section of the balance sheet. This occurs until the of the intangible asset’s useful life. For example- if intangible assets have four-year useful life and a $400 annual amortization expense, its value on the balance sheet would be reduced by $400 annually for four years, which would reduce total assets by $400 annually.
The purpose of calculating amortization of intangible assets is just to ensure that right cost is included in the accounting books. Companies calculate amortization of intangible assets for a Tax deduction. When companies generate higher revenue then they, to purposely lower the taxable income and achieve tax savings, companies calculate amortization of intangible assets. Hence, it is necessary for companies to calculate amortization of tangible assets while preparing a financial statement.