Depreciation, Amortization and Determining the useful life of an Asset

Depreciation

Depreciation is the expensing of a fixed asset over its useful life. Fixed assets are tangible assets, meaning they are physical assets that can be touched. Some examples of fixed or tangible assets that are commonly depreciated include:

• Buildings 
• Equipment
• Office furniture
• Vehicles
• Land
• Machinery

Since tangible assets might have some value at the end of their life, depreciation is calculated by subtracting the asset's salvage value or resale value from its original cost. The difference is depreciated evenly over the years of the expected life of the asset. In other words, the depreciated amount expensed each year is a tax deduction for the company until the useful life of the asset has expired. 

For example, an office building can be used for many years before it becomes run down and is sold. The cost of the building is spread out over the predicted life of the building, with a portion of the cost being expensed in each accounting year.

Depreciation of some fixed assets can be done on an accelerated basis, meaning that a larger portion of the asset's value is expensed in the early years of the asset's life. For example, vehicles are typically depreciated on an accelerated basis. 

Amortization

Amortization is the practice of spreading an intangible asset's cost over that asset's useful life. Intangible assets are not physical assets, per se. Examples of intangible assets that are expensed through amortization might include: 

• Patents and Trademarks
• Franchise agreements
• Proprietary processes, such as copyrights
• Cost of issuing bonds to raise capital 
• Organizational costs

Unlike depreciation, amortization is typically expensed on a straight-line basis, meaning the same amount is expensed in each period over the asset's useful life. Additionally, assets that are expensed using the amortization method typically don't have any resale or salvage value, unlike depreciation.

Most commonly, the depreciation of assets is calculated by dividing the cost of the asset by the estimated number of years in its life.

Various factors, such as frequency of usage, working environment, and maintenance performed on the asset all affect its useful life, so it can be difficult to calculate an absolute value.