A patent is considered an intangible asset; this is because a patent does not have physical substance, and provides long-term value to the owning entity. As such, the accounting for a patent is the same as for any other intangible fixed asset, which is:
- Initial recordation. Record the cost to acquire the patent as the initial asset cost. If a company files for a patent application, this cost will include the registration, documentation, and other legal fees associated with the application. If the company instead bought a patent from another party, the purchase price is the initial asset cost.
- Amortization. The owner of the patent gradually charges the cost of the patent to expense over the useful life of the patent, usually using the straight-line amortization method.
- Impairment. If a patent no longer provides value, or a reduced level of value, recognize an impairment to reduce or eliminate the carrying amount of the asset.
- Derecognition. Once the company is no longer making use of the patented idea, the asset can be derecognized by crediting the balance in the patent asset account and debiting the balance in the accumulated amortization account. If the asset has not been fully amortized at the time of derecognition, then any remaining unamortized balance must be recorded as a loss.
Consider the following additional points when accounting for patents:
- R&D expenditures. Note that the research and development (R&D) costs required to develop the idea being patented cannot be included in the capitalized cost of a patent. These R&D costs are instead charged to expense as incurred; the basis for this treatment is that R&D is inherently risky, without assurance of future benefits, so it should not be considered an asset.
- Useful life. A patent asset should not be amortized for longer than the lifespan of the protection afforded by the patent. If the expected useful life of the patent is even shorter, use the useful life for amortization purposes. Thus, the shorter of a patent's useful life and its legal life should be used for the amortization period.
- Capitalization limit. In practice, the costs of obtaining a patent may be so small that they do not meet or exceed a company's capitalization limit. If so, charge these costs to expense as incurred. In many larger companies with higher capitalization limits, this means that patents are rarely recorded as assets unless they have been purchased from other entities.