Difference between amortisation and depreciation?

[plaguedbyfoibles]

Anyone mind helping me understand the difference between amortisation and depreciation and how they relate to accrual accounting?

[SalvorHardin]

Amortisation applies to intangible assets.

Depreciation applies to tangible assets.

Generally the number of years over which the assets are written off varies for depreciation and amortisation. For example, typically 15 or 20 years for the amortisation of intangibles whereas a lot of machinery is depreciated over just 5 years whereas property is typically 40 years. Rules vary from country to country.

I can't see that they have any difference regarding accrual accounting as that is to do with the timing of receipts (I'm not an accountant so I could have easily missed something subtle)

[Maroochydore]

Amortisation applies to intangible assets.

Depreciation applies to tangible assets.

Generally the number of years over which the assets are written off varies for depreciation and amortisation. For example, typically 15 or 20 years for the amortisation of intangibles whereas a lot of machinery is depreciated over just 5 years whereas property is typically 40 years. Rules vary from country to country.

I can't see that they have any difference regarding accrual accounting as that is to do with the timing of receipts (I'm not an accountant so I could have easily missed something subtle)

This; however there is another definition of amortisation which I am more familiar with which isn't directly related to accounting and probably would be of no interest in respect of OP's question but I'll put it up for general information.

I used to put down tooling as part of my job (mainly injection moulding tooling). If the tooling cost, say £50,000 and I expected it to produce 500,000 widgets over it's useful life at a cost of £1 each, I would amortise the cost of the tooling within the product costing. So the widget would go on my cost sheet as £1.10. (£1 + £50000/500000)

That way the cost of the tooling was directly recovered rather than being written down against profits, which was referred to as amortisation.

[plaguedbyfoibles]

Thanks to the two posters who have answered thus far.

My personal understanding is that both amortisation and depreciation have the same usage / mechanics, it's just that, as the first poster said, amortisation and depreciation deal with intangible (or non physical) and tangible (or physical) assets respectively.

When it comes to depreciation, for example, my understanding is that you have straight line depreciation, where the value of the asset is reduced by the same amount every year, until it reaches zero, diminishing value depreciation, where the physical asset loses a higher percentage of its value in the first few years before the rate of depreciation stabilises, and units of production depreciation, where the value of the asset is reduced depending on annual usage.

And my understanding as to how depreciation works in practice is that you record the full value of the physical asset you have purchased on your company's balance sheet, and record the depreciation expenses on your company's income statements, reducing the value on the balance sheet in line with the value of the depreciation expenses on your income statements.

My understanding as to why both amortisation and deprecation operate in this manner is so that it gives you a better idea as to what your annual expenses are, and how these impact upon your revenues and profits, as otherwise it may seem to you that you are drawing a lot more money in than you are taking out.

[dionaeamuscipula]

Thanks to the two posters who have answered thus far.

My personal understanding is that both amortisation and depreciation have the same usage / mechanics, it's just that, as the first poster said, amortisation and depreciation deal with intangible (or non physical) and tangible (or physical) assets respectively.

When it comes to depreciation, for example, my understanding is that you have straight line depreciation, where the value of the asset is reduced by the same amount every year, until it reaches zero, diminishing value depreciation, where the physical asset loses a higher percentage of its value in the first few years before the rate of depreciation stabilises, and units of production depreciation, where the value of the asset is reduced depending on annual usage.

And my understanding as to how depreciation works in practice is that you record the full value of the physical asset you have purchased on your company's balance sheet, and record the depreciation expenses on your company's income statements, reducing the value on the balance sheet in line with the value of the depreciation expenses on your income statements.

My understanding as to why both amortisation and deprecation operate in this manner is so that it gives you a better idea as to what your annual expenses are, and how these impact upon your revenues and profits, as otherwise it may seem to you that you are drawing a lot more money in than you are taking out.

Yes all generally correct, except that you should depreciate an asset to its expected residual value rather than zero (although often the residual value *will* be nil, but cars for example usually will not). And you would only do this for assets that have an expected life of >12 months. And there are some intangible assets which are not amortised, the most important of which is goodwill.

All long term assets should be subject to impairment testing at each balance sheet date, and if the value in use is lower than the holding value, then the value of the asset should be impaired.

Note that all of this is the simple version, there's a whole accounting standard on fixed assets, another one on intangible assets, a third on impairment of assets, and a number of exciting others.

DM