XYZ Research Co.
Subject: Accounting Treatment for Patents
XYZ Research Co, (XYZ) came to our firm, requesting clarification on the accounting treatment for patents the company purchased.
The company possesses many patents and has historically expensed all of the costs associated with obtaining their patents.
The company is unsure if any or all of its patent costs can be capitalized.
The company is unsure if impairment testing should be done periodically on their patents.
Should any costs related to purchasing patents be capitalized?
What costs should be capitalized?
What costs should be immediately expense?
How often should impairment testing be performed on the patents?
What is the proper accounting treatment for patents?
XYZ should capitalize the costs when obtaining patents from another entity or person.
XYZ should conduct impairment testing annually.
REASONINGS AND AUTHORITIES (R&A)
A patent is “a property right granted by the Government of the United States of America to an inventor to exclude others from making, using, offering for sale, or selling the invention throughout the United States or importing in the United States for a limited time in exchange for public disclosure of the invention when the patent is granted” (USPTO, 2014). A patent expires 20 years after of the issuance date. Companies capitalize the cost to acquire the patent and the amount appears on the balance sheet as an intangible asset which is also known as a long-lived asset. The purchase price includes the legal fees, formula, invention, patent, pilot model, process, technique, and property similar to the items previously listed” (IRS, 2014). Capitalized costs must have a direct relationship to the revenue generated through the purchase. While the costs left out of capitalization include research and experimental costs, advertising, surveys, quality control, testing, and the acquisition of another’s patent, model, production, or processes (IRS, 2014). Intangible assets, such as, patents are amortized over the useful life. Amortizing an intangible asset is the stretching out of capital expenses over its useful life for accounting purposes. According to ASC 350-30-35-2, “the useful life of an intangible asset to a business is the period over which the asset is expected to contribute directly or indirectly to the future cash flows of that business” (ASC). On the date XYZ purchased the patents and assumed their useful lives, they will start amortizing or writing down the patent. This accounting treatment has a direct impact on the company’s financial statements. ASC 350-20-35-2 affirms “impairment is the condition that exists when the carrying amount of the intangible asset exceeds its implied fair value” (ASC). After purchasing the patent, the company should schedule yearly impairment testing. In addition, ASC 360-10-35-21 maintains that “a long-lived asset (asset group) shall be tested for recoverability whenever events or changes in events show that the carrying amount may not be recoverable” (ASC). There are instances in which impairment testing is performed on dates outside of the annual testing date. XYZ should immediately schedule testing at the point they’ve been made aware of an event or change that affects the book value of the patents. In the event of a loss, the carrying value will decrease and the amount of the loss is reflected the company’s income statement.
When acquiring a patent capitalize the full acquisition cost and legal fees.
When purchasing a patent, expense the research and experimental costs, advertising, surveys, quality control, and patent testing.
Amortization is required: amortize patents over their useful life.
Perform impairment tests on...
References: FASB ASC 350-30-35-2 Intangibles- Goodwill and Other
FASB ASC 350-20-35-2 Intangibles- Goodwill and Other
FASB ASC 360-10-35-21 Property-Plant-and Equipment
IRS. (2014). Research and experimental cost defined. Retrieve from http://www.irs.gov/publications/p535/ch07.html
United States Patent and Trademark Office. (2014). Patents. Retrieved from http://www.uspto.gov/inventors/patents.jsp#heading-1
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