when a parent company purchases a subsidiary company and pays more than the fair market value fmv of the subsidiary s net assets the amount over fair market value is posted to goodwill an intangible asset ip is initially posted as an asset on the firm s balance sheet when it is purchased 
ip can also be internally generated by a company s own research and development r d efforts for instance a company may win a patent for a newly developed process which has some value that value in turn increases the value of the company and so must be recorded appropriately in either case the process of amortization allows the company to write off annually a part of the value of that intangible asset according to a defined schedule amortization vs depreciationassets are used by businesses to generate revenue and produce income over a period of time the costs related to the assets are moved into an expense account as the useful life of the asset dwindles by expensing the cost of the asset over a period of time the company is complying with gaap which requires the matching of revenue with the expense incurred to generate the revenue tangible assets are expensed using depreciation and intangible assets are expensed through amortization depreciation generally includes a salvage value for the physical asset the value that the asset can be sold for at the end of its useful life amortization doesn t take into account a salvage value intangible amortization is reported to the irs using form 4562 51types of amortizationfor accounting financial statement purposes a company can choose from six amortization methods straight line declining balance annuity bullet balloon and negative amortization there are only four depreciation methods that can be used for accounting purposes straight line declining balance sum of the years digits and units of production for tax purposes there are two options for amortization of intangibles that the irs allows these are straight line and the income forecast method the income forecast method can be used instead of the straight line method if the asset is motion picture films videotapes sound recordings copyrights books or patents for depreciation of physical assets the irs only allows the modified accelerated cost recovery system macrs 6example of amortizationassume for example that a construction company buys a 32 000 truck for contractor work and that the truck has a useful life of eight years the annual depreciation expense on a straight line basis is the 32 000 cost basis minus the expected salvage value in this case 4 000 divided by eight years the annual deprecation for the truck would be 3 500 per year or 32 000 4 000 8 on the other hand assume that a corporation pays 300 000 for a patent that allows the firm exclusive rights over the intellectual property for 30 years the firm s accounting department posts a 10 000 amortization expense each year for 30 years both the truck and the patent are used to generate revenue and profit over a particular number of years since the truck is a physical asset depreciation is used and since the rights are intangible amortization is used 