Learning Outcomes
After reading this article, you will be able to distinguish between intangible assets with finite and indefinite useful lives, explain the principles and methods of amortising intangible assets under IAS 38, and apply the rules for amortisation and impairment. You will understand how to determine useful life, identify indefinite life assets, and carry out the necessary accounting entries, complying with ACCA Financial Reporting (FR) requirements.
ACCA Financial Reporting (FR) Syllabus
For ACCA Financial Reporting (FR), you are required to understand the treatment of intangible assets, especially regarding their amortisation and assessment of useful life. This article addresses the following syllabus points:
- Explain the difference between finite and indefinite useful lives for intangible assets
- Apply the correct method for amortising intangible assets with a finite useful life
- Account for intangible assets with an indefinite useful life (no amortisation)
- Understand the need for annual impairment testing of intangibles with an indefinite useful life
- Identify and justify the determination of useful life as required by IAS 38
Test Your Knowledge
Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.
- What is the key accounting difference between an intangible asset with a finite useful life and one with an indefinite useful life?
- Which one of the following statements is correct under IAS 38? a) All intangible assets must be amortised b) Intangible assets with an indefinite useful life are not amortised but are tested for impairment annually c) Intangible assets with a finite life are not amortised d) Only purchased intangibles are amortised
- Briefly explain how useful life is determined for amortisation of an intangible asset under IAS 38.
- An entity acquires a trademark it intends to renew indefinitely. How should this be treated in relation to its useful life for accounting purposes?
Introduction
Intangible assets often form a significant part of a company's value, such as brands, patents, or licenses. IAS 38 Intangible Assets sets out the requirements for recognising, measuring, and amortising these assets within the financial statements. The way intangible assets are amortised—and whether they are amortised at all—depends on their assessed useful life. Understanding the distinction between finite and indefinite useful lives, as well as choosing the appropriate amortisation method, is essential for proper financial reporting and compliance with the ACCA FR exam.
Key Term: intangible asset
An identifiable non-monetary asset without physical substance, capable of being separated from the entity or arising from contractual/legal rights.
AMORTISATION AND USEFUL LIFE UNDER IAS 38
IAS 38 requires entities to determine at initial recognition whether each intangible asset has a finite or indefinite useful life.
Intangible Assets with Finite Useful Life
An intangible asset has a finite useful life if there is a predictable limit to the period over which it is expected to generate economic benefits for the entity. This life is defined by legal, contractual, regulatory, or practical limits.
Key Term: useful life
The period over which an asset is expected to be available for use by an entity, or the number of production or output units expected to be obtained from the asset.
These assets are amortised over their useful life, starting from when they are available for use. Amortisation should be systematic, reflecting the pattern of consumption of future economic benefits (commonly straight-line, unless another method better reflects consumption). Residual value is usually assumed to be zero unless a third party will buy the asset at the end of its life or an active market exists.
Key Term: amortisation
The systematic allocation of the depreciable amount of an intangible asset over its useful life.
The amortisation period and method must be reviewed at least annually. If either the useful life or amortisation method changes significantly, future charges should be adjusted prospectively.
Intangible Assets with Indefinite Useful Life
Some intangible assets may not have foreseeable limits to the period over which they are expected to generate net cash inflows for the entity. In these cases, the asset is classified as having an indefinite useful life. Examples include certain brands and some renewable trademarks or licenses if renewal is expected to occur indefinitely at negligible cost.
Intangible assets with an indefinite useful life are not amortised. Instead, IAS 38 requires these assets to be reviewed for impairment at least annually, or more frequently if indicators of impairment arise.
Key Term: impairment
The amount by which the carrying amount of an asset exceeds its recoverable amount.Key Term: indefinite useful life
A life with no foreseeable limit to the period over which the asset is expected to generate net cash inflows.
Management must reassess the useful life of these assets at least once a year. If circumstances change and the asset is no longer considered to have an indefinite useful life, it must be reclassified as finite and amortised over its new estimated useful life.
Determining the Useful Life
Factors to consider when determining useful life include:
- Expected usage and period of benefit
- Product life cycles
- Technical, technological, commercial, or regulatory obsolescence
- Dependence on other assets
- Legal or contractual limits
- Entity's intention and ability regarding the asset
If evidence suggests the pattern or period of benefit changes, the amortisation period and method should be revised prospectively.
Worked Example 1.1
Scenario:
Wayne Ltd acquired a patent for $60,000, which expires in six years. Wayne expects to use the technology evenly over that period, and there is no residual value expected.
Question:
Calculate the annual amortisation expense and show the journal entry for the first year.
Answer:
- Amortisation expense per year = $60,000 / 6 years = $10,000.
- Journal entry:
- Dr Amortisation expense $10,000
- Cr Accumulated amortisation – intangible asset $10,000
Worked Example 1.2
Scenario:
A company owns the "Dawn" brand, which it markets extensively. It expects to renew the trademark indefinitely. There is no foreseeable expiry, so the asset is assessed as indefinite life.
Question:
How is this brand treated in the financial statements?
Answer:
- The intangible asset is not amortised, but must be tested for impairment at least annually.
- If indicators suggest the useful life is now finite, an amortisation period should be set and amortisation expense recognised going forward.
Exam Warning
A common error is to omit impairment testing for indefinite life intangibles or to continue amortising assets that have been reclassified as indefinite life. In the ACCA FR exam, clearly indicate whether an asset is finite or indefinite and apply the correct rule.
Revision Tip
If the asset's useful life cannot be established with reasonable certainty, treat it as indefinite—but ensure you document your reasoning and the asset is subject to annual impairment review.
Summary
IAS 38 requires management judgement in assessing the useful life of intangible assets. Assets with a finite useful life are amortised systematically over that period, while those with an indefinite life are not amortised but must be tested for impairment at least annually. Regularly review both the useful life and amortisation method, and prospectively adjust if needed.
Key Point Checklist
This article has covered the following key knowledge points:
- State the difference between finite and indefinite useful life for intangible assets
- Explain the correct amortisation treatment for both types under IAS 38
- Outline factors influencing the determination of useful life
- Describe impairment testing requirements for indefinite life assets
- Demonstrate the correct journal entries for amortisation
Key Terms and Concepts
- intangible asset
- useful life
- amortisation
- indefinite useful life
- impairment