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What is amortization?

Amortization is an accounting term for spreading the cost or value of certain things – like loans or property – over time.

The word "amortize" has its roots in the Latin for "to kill off," and the process involves a gradual diminishment of value, effectively killing it off over time.

A loan is slowly disposed of through regularly scheduled payments. Similarly, the value of acquired property must be spread out to keep the asset from staying on a company's ledger indefinitely. It's how assets are valued for tax purposes.

Amortization involves intangible assets, such as patents, trademarks, licenses and copyrights.

For instance, if a company acquired a license valued at $10,000, and the license expired in 10 years, the value would have to be amortized over that time period. So, each year for 10 years, a $1,000 ledger entry would be entered.

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What is depreciation?

While appreciation involves intangible assets, depreciation applies to tangible assets.

A contractor's truck, for example, is a tangible business asset that enables the contractor to earn income. The contractor's accountant would determine the useful life of the truck, and depreciate its value over that time period.

Depreciation is tax-deductible, which allows businesses to recover the costs of things they buy and use. For tax-based depreciation, a business must follows strict IRS rules about how certain assets are to be devalued over time.

You're probably familiar with depreciation in another sense: for the personal property you own. A new car, for example, notoriously depreciates quite a bit right when you drive it off the sales lot.

More: What is considered an asset?

A related concept: depletion

A third related concept is depletion. It's an accounting method for recognizing reductions in assets that are natural resources, such as oil reserves, timber and more.

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Disclaimer

The content provided on MoneyWise is information to help users become financially literate. It is neither tax nor legal advice, is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. Tax, investment and all other decisions should be made, as appropriate, only with guidance from a qualified professional. We make no representation or warranty of any kind, either express or implied, with respect to the data provided, the timeliness thereof, the results to be obtained by the use thereof or any other matter.