Amortization, in companies, is an accounting concept that is used to reflect losses in value or reductions in the number of the company's assets or liabilities. The asset represents the assets, resources, and rights that the company has (for example, collection rights), and the liabilities indicate the debts and payment obligations. Assignments on Amortization teach students the fundamental principles of accounting and helps them in the preparation of economic questions.
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When we talk about the amortization or depreciation of an asset, we refer to fixed assets. In other words: certain resources of a company, such as real estate, machinery, etc., lose value (depreciate) and this must be considered as an expense.
Why do they depreciate? Well, as in all aspects of life, time is undermining the value of things. In a company, a car, a computer, or the furniture of an office are an initial investment with the use, and the passage of time deteriorates. Also, you have to count technological development. You can be sure that the device with which you are reading these lines will not have the same value in five years.
If we start to spin, it is not convenient to confuse amortization and depreciation. Although in accounting terms its distinction is irrelevant. As a general rule, the word amortization is applied to intangible fixed assets. And the word depreciation to tangible fixed assets.
Intangible assets, as their name suggests, are non-material resources that cannot be touched, such as a patent, know-how, or know-how as an entrepreneur or self-employed. Tangible assets, on the other hand, we can feel mobile phones, computers, and furniture. In order not to confuse you, we will use both terms - amortization, and depreciation - interchangeably.
When we want to estimate the loss of value of a fixed asset, we have to take into account the following factors:
The depreciable value. That is the purchase or construction price.
It's useful life or the time during which it is estimated that a fixed asset will be used.
Its remaining value that it will have at the end of its useful life.
Let's say you buy a van for 50,000 euros, you estimate the useful life of 15 years and a remaining value of 5,000 euros. To calculate your annual loss in value, you would use the following formula:
Annual amortization fee = Initial amount - Remaining value / Years of useful life
That is to say: 50,000 - 5,000 / 15 = 3,000 euros is the annual cost or depreciation of this asset.
The calculation method that we have used here is the so-called linear method, it is the simplest. There are others more complicated or sophisticated, but as Amortization Homework Helper, we have opted for simplicity here.
We must distinguish two different concepts depending on whether the depreciation is applied to an asset or liability item.
Asset items: They are the elements of fixed assets (assets used by the company for its activity). It is used to reflect the depreciation of that item over time, from the moment it begins to be used. Fixed assets suffer a loss in value as a result of the use made of them in productive activity. Accumulated depreciation is a compensation account, which year after year reduces the value of the fixed asset. The fixed assets on which it is applied are Property, plant, and equipment: Machinery, stocks, means of transport, buildings.
Intangible assets: Trademarks, patents.
Liabilities elements: It is applied to loans or credits. The borrowed money must be repaid in a series of payments. Each of these payments includes interest and the portion of the debt that is being paid off. That part of the capital that we are returning is the amortizable amount. The sum of the instalments that we are paying (not counting interest) makes up the accumulated amortization.
From an accounting point of view, accumulated amortization is an expense account. In assets, it implies a loss for the company (since the goods lose value when they are used), and that loss must be accounted for each year as an expense. From the point of view of liabilities, as they are debts, the accumulated amortization includes the annual payment of said debts.
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