An intangible asset is an asset that lacks physical substance; in contrast to physical assets, such as machinery and buildings, and financial assets such as government securities. An intangible asset is usually very hard to evaluate. Examples are patents, copyright, franchises, goodwill, trademarks, and trade names. The general interpretation also includes software and other intangible computer based assets; these are all examples of intangible assets. Intangible assets generally—though not necessarily—suffer from typical market failures of non-rivalry and non-excludability.
Intangible assets may be one possible contributor to the disparity between "company value as per their accounting records", as well as "company value as per their market capitalization". Considering this argument, it is important to understand what an intangible asset truly is in the eyes of an accountant. A number of attempts have been made to define intangible assets:
The lack of physical substance would therefore seem to be a defining characteristic of an intangible asset. Both the IASB and FASB definitions specifically preclude monetary assets in their definition of an intangible asset. This is necessary in order to avoid the classification of items such as accounts receivable, derivatives and cash in the bank as an intangible asset. IAS 38 contains examples of intangible assets, including: computer software, copyright and patents.
Research and Development (known also as R&D) is considered to be an intangible asset (about 16 percent of all intangible assets in the US)), even though most countries treat R&D as current expenses for both legal and tax purposes. Most countries report some intangibles in their National Income and Product Accounts (NIPA), yet no country has included a comprehensive measure of intangible assets. The contribution of intangible assets in long-term GDP growth has been recognized by economists.
IAS 38 requires any project that results in the generation of a resource to the entity be classified into two phases: a research phase, and a development phase.
The classification of research and development expenditure can be highly subjective, and it is important to note that organisations may have an ulterior motive in its classification of research and development expenditure. Less scrupulous directors may manipulate financial statements through their classification of research and development expenditure.
An example of research (as defined as "the original and planned investigation undertaken with the prospect of gaining new scientific or technical knowledge and understanding"): a company can carry a research on one of its products which it will use in the entity of which results in future economic income.[clarification needed][gobbledegook]
Development is defined as "the application of research findings to a plan or design for the production of new or substantially improved materials, devices, products, processes, systems, or services, before the start of commercial production or use."
Accounting treatment of expenses depends on whether they are classified as research or development. Where the distinction cannot be made, IAS 38 requires that the entire project be treated as research and expensed through the Statement of Comprehensive Income.
Research expenditure is highly speculative. There is no certainty that future economic benefits will flow to the entity. Prudence dictates that research expenditure be expensed through the Statement of Comprehensive Income. Development expenditure, however, is less speculative and it becomes possible to predict the future economic benefits that will flow to the entity. The matching principle dictates that development expenditure be capitalised, as the expenditure is expected to generate future economic benefit to the entity.
The International Accounting Standards Board (IASB) offers some guidance (IAS 38) as to how intangible assets should be accounted for in financial statements. In general, legal intangibles that are developed internally are not recognized and legal intangibles that are purchased from third parties are recognized. Wordings are similar to IAS 9.
Intangible assets are typically expensed according to their respective life expectancy. Intangible assets have either an identifiable or an indefinite useful life. Intangible assets with identifiable useful lives are amortized on a straight-line basis over their economic or legal life, whichever is shorter. Examples of intangible assets with identifiable useful lives are copyrights and patents. Intangible assets with indefinite useful lives are reassessed each year for impairment. If an impairment has occurred, then a loss must be recognized. An impairment loss is determined by subtracting the asset's fair value from the asset's book/carrying value. Trademarks and goodwill are examples of intangible assets with indefinite useful lives. Goodwill has to be tested for impairment rather than amortized. If impaired, goodwill is reduced and loss is recognized in the Income statement.
For personal income tax purposes, some costs with respect to intangible assets must be capitalized rather than treated as deductible expenses. Treasury regulations in the USA generally require capitalization of costs associated with acquiring, creating, or enhancing intangible assets. For example, an amount paid to obtain a trademark must be capitalized. Certain amounts paid to facilitate these transactions are also capitalized. Some types of intangible assets are categorized based on whether the asset is acquired from another party or created by the taxpayer. The regulations contain many provisions intended to make it easier to determine when capitalization is required.
Given the growing importance of intangible assets as a source of economic growth and tax revenue, and because their non-physical nature makes it easier for taxpayers to engage in tax strategies such as income-shifting or transfer pricing, tax authorities and international organizations have been designing ways to link intangible assets to the place where they were created, hence defining nexus. Intangibles for corporations are amortized over a 15-year period, equivalent to 180 months.
Definition of "intangibles" differs from standard accounting, in some US state governments. These governments may refer to stocks and bonds as "intangibles".