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Determining the useful life and salvage value (or residual value) of an asset requires judgment and an understanding of the reporting entity’s planned use of that asset, amongst other factors, which are discussed in PPE 4.2.1 through PPE 4.2.4A.

4.2.1 Determining the useful life of an asset

The ASC Master Glossary defines the useful life of an asset.

Definition from ASC Master Glossary

Useful Life: The period over which the asset is expected to contribute directly or indirectly to future cash flows.

The useful life of an asset is dependent on a number of entity-specific factors, the assessment of which may require judgment. When determining the useful life of an intangible asset, a reporting entity should consider the factors listed in ASC 350-30-35-3, which may also be useful to consider when determining the useful life of a tangible asset. None of the factors in ASC 350-30-35-3 should be considered more presumptive than the others, and the list is not all inclusive.

Excerpt from ASC 350-30-35-3

a. The expected use of the asset by the entity.
b. The expected useful life of another asset or a group of assets to which the useful life of the intangible asset may relate.
c. Any legal, regulatory, or contractual provisions that may limit the useful life. The cash flows and useful lives of intangible assets that are based on legal rights are constrained by the duration of those legal rights. Thus, the useful lives of such intangible assets cannot extend beyond the length of their legal rights and may be shorter.
d. The entity’s own historical experience in renewing or extending similar arrangements, consistent with the intended use of the asset by the entity, regardless of whether those arrangements have explicit renewal or extension provisions. In the absence of that experience, the entity shall consider the assumptions that market participants would use about renewal or extension consistent with the highest and best use of the asset by market participants, adjusted for entity-specific factors in this paragraph.
e. The effects of obsolescence, demand, competition, and other economic factors (such as the stability of the industry, known technological advances, legislative action that results in an uncertain or changing regulatory environment, and expected changes in distribution channels).
f. The level of maintenance expenditures required to obtain the expected future cash flows from the asset (for example, a material level of required maintenance in relation to the carrying amount of the asset may suggest a very limited useful life). As in determining the useful life of depreciable tangible assets, regular maintenance may be assumed but enhancements may not.

A reporting entity may also use other relevant factors in determining an asset’s useful life. For example, when considering the useful life of a customer-related intangible asset, the uncertainty of revenues dependent upon retention of key employees, the “churn” rate of customers, and the mobility of customer and employee bases should be taken into account. Reporting entities should consider all of the relevant facts and circumstances when estimating an asset’s useful life. However, ASC 350-30-35-2 is clear that the useful life of an intangible asset is not the period that it would take the reporting entity to internally develop an intangible asset providing similar benefits.
Although not defined, we believe the use of the term “useful economic life” in ASC 360-10-35-4 is intended to have the same meaning as “useful life,” as defined in the ASC Master Glossary. The useful life assessment of a long-lived asset is based on entity-specific assumptions about how the entity intends to use the asset, which may be different from market-participant assumptions. Accordingly, the useful life could be different than the economic life or actual physical life of the asset.
For example, if a reporting entity purchases a machine that is designed to be used for ten years but, unlike market participants, the entity’s practice is to use the machine for only five years and sell it for salvage value, the useful life would be five years whereas the economic life may be ten years. When the life cycle of an entity’s product is shorter than the equipment used to manufacture the product, and new equipment is required to manufacture the next generation product, the useful life of the equipment would be over the product’s shorter life cycle. See PPE 4.2.2 for the determination of salvage value.
For an intangible asset, a reporting entity should first determine whether the useful life of the asset is finite or indefinite, considering the factors outlined in ASC 350-30-35-3. Further, ASC 350-30-35-4 states that the useful life of an intangible asset should be considered indefinite if no legal, regulatory, contractual, competitive, economic, or other factors limit its useful life to the entity. ASC 350-30-35-4 also explains, “The useful life of an intangible asset is indefinite if that life extends beyond the foreseeable horizon—that is, there is no foreseeable limit on the period of time over which it is expected to contribute to the cash flows of the reporting entity.” The term indefinite, however, does not mean infinite or indeterminate.
See BCG 8 for further information on indefinite-lived intangible assets. If an intangible asset is deemed to have a finite life, the entity should determine its useful life considering the factors discussed in ASC 350-30-35-3. In addition, ASC 350-30-55-2 through ASC 350-30-55-28F include several illustrative examples for determining the useful life of an intangible asset.
See BCG 4.6 for a summary of intangible assets and typical useful life characteristics found in major industries.

4.2.1.1 Intangible asset renewals when determining useful lives

A reporting entity should consider any contract renewals or extensions in determining the useful life of an intangible asset, except for determining the useful lives of reacquired rights (see PPE 4.2.1.2). However, ASC 350 does not distinguish between renewals or extensions that are at the entity’s option and those that are at the option of other parties or how to consider the terms of renewals or extensions. Careful consideration should be given to a reporting entity’s assumption of renewals or extensions that are at the option of the counterparty (e.g., a customer or a governmental body) as it can be difficult to support an assertion regarding another party’s intentions.
One of the considerations in ASC 350-30-35-3 for determining useful life refers to the consideration of the entity’s own historical experience in renewing or extending similar arrangements. This guidance also directs a reporting entity to consider the assumptions that market participants would use about renewals or extensions (consistent with the highest and best use of the asset by market participants) if it lacks entity-specific experience. If this is the case, it is important that the market-participant assumptions be adjusted to consider entity-specific factors. This is because there may be a difference between the useful life of the asset used for amortization and the period of expected cash flows used to measure the fair value of the asset from a market participant perspective. As discussed in ASC 350-30-55-1C, these instances will likely be limited to situations in which the reporting entity’s own assumptions regarding the period over which the asset is expected to contribute to future cash flows differ from those that would be assumed by market participants in valuing the asset. Because a recognized intangible asset should be amortized over the period during which the asset will contribute both directly and indirectly to the expected future cash flows of the reporting entity, it is appropriate for the reporting entity to consider its own assumptions.

4.2.1.2 Useful lives of reacquired rights

An acquirer may reacquire a right it had previously granted to an acquiree to use the acquirer’s recognized or unrecognized intangible assets. If acquired as part of a business combination, the reacquired right should be recognized as an intangible asset and measured based on its remaining contractual terms, excluding the effects of expected contractual renewals. After initial recognition, ASC 805-20-35-2 requires that the right be amortized over its remaining contractual period, excluding any subsequent renewals and extensions. A reacquired right may have an indefinite useful life if the contractual term is perpetual (i.e., no stated term) and the remaining contractual life is not otherwise limited. A stated term subject to automatic renewal is not considered perpetual.
The accounting for rights reacquired in business combinations and asset acquisitions may differ (e.g., considerations relating to expected contractual renewals). See BCG 2.5.6.1 and PPE 2.7 for further information on the determination of the value and useful life of reacquired rights in a business combination and asset acquisitions, respectively.

4.2.1.3 Intangible assets used in research and development (IPR&D)

ASC 805 requires the recognition of in-process intangible research and development (IPR&D) assets acquired in a business combination. After initial recognition, IPR&D assets should be considered indefinite-lived until the abandonment or completion of the associated R&D efforts. Acquired IPR&D assets should not be amortized; instead, they are subject to an impairment assessment, at least annually. If the acquired IPR&D project is abandoned, the related intangible would be written off or impaired. Once the IPR&D activities are completed, management of the acquiring entity should determine the useful lives and methods of amortization of the related intangible assets. See BCG 8.2.4 for further information on IPR&D assets.
In accordance with ASC 730-10-25-2(c), intangible assets used in research and developmental activities acquired in an asset acquisition should be expensed at the acquisition date if there is no alternative future use in other R&D projects or otherwise (i.e., if they have no economic value). If there is an alternative future use, the assets should be accounted for as an intangible asset. Amortization of such intangible assets is an R&D expense. Circumstances when there is an alternative future use are expected to be limited. Examples of alternative future use are included in Chapter 3 of the AICPA’s IPR&D guide. While the IPR&D Guide is non-authoritative, it serves as an accounting and reporting resource for entities that acquire IPR&D.

4.2.1.4 Useful lives of defensive intangible assets

The ASC Master Glossary defines a defensive intangible asset.

Definition from ASC Master Glossary

Defensive intangible asset: An acquired intangible asset in a situation in which an entity does not intend to actively use the asset but intends to hold (lock up) the asset to prevent others from obtaining access to the asset.

Generally, the period over which a defensive intangible asset diminishes in fair value is a reasonable approximation of the period over which the reporting entity expects a defensive intangible asset to contribute directly or indirectly to the future cash flows of the reporting entity. ASC 350-30-35-5B provides guidance indicating that the useful life of a defensive intangible asset is typically finite.

Excerpt from ASC 350-30-35-5B

It would be rare for a defensive intangible asset to have an indefinite life because the fair value of the defensive intangible asset will generally diminish over time as a result of a lack of market exposure or as a result of competitive or other factors.

As a result, the amortization method used should reflect the pattern in which the fair value of a defensive intangible asset diminishes over time. For more information on the initial recognition, measurement, and subsequent accounting for defensive intangible assets see BCG 8.4.

4.2.2 Salvage value and residual value

A tangible long-lived asset should be depreciated over its estimated useful life to its salvage value, if any. Salvage value is the estimated value of a tangible asset to the reporting entity at the end of its useful life. A tangible asset used for its entire economic life will generally have insignificant, if any, salvage value (i.e., scrap value). However, if the economic or physical life of a long-lived asset exceeds its useful life, the salvage value will reflect the remaining economic life at the end of the useful life and may be more significant.
When considering salvage value in calculating depreciation, reporting entities should take into account all of the costs that would be necessary to realize the salvage value of the asset (e.g., disposal costs); however, a tangible asset’s salvage value cannot be less than zero. If applicable, the salvage value of a tangible asset should reflect the value of the asset after any separately-recognized asset retirement obligation under ASC 410-20 has been satisfied (i.e., the salvage value of a tangible asset should be estimated unencumbered by any separately-recognized asset retirement obligation). See PPE 3 for further discussion of asset retirement obligations.
Similar to a tangible asset, a long-lived intangible asset should be amortized over its estimated useful life to its residual value, if any. The residual value of an intangible asset is assumed to be zero, unless certain criteria are met. When these criteria are met, the residual value is the estimated fair value of the intangible asset at the end of the asset’s useful life. The definition of residual value of an intangible asset is discussed in ASC 350-30-35-8.

Excerpt from ASC 350-30-35-8

The residual value of an intangible asset shall be assumed to be zero unless at the end of its useful life to the entity the asset is expected to continue to have a useful life to another entity and either of the following conditions is met:
a. The reporting entity has a commitment from a third party to purchase the asset at the end of its useful life.
b. The residual value can be determined by reference to an exchange transaction in an existing market for that asset and that market is expected to exist at the end of the asset’s useful life.

4.2.3 Changes in useful lives or salvage values

In accordance with ASC 350-30-35-9 and ASC 350-30-35-16, a reporting entity should evaluate the remaining useful life of an intangible asset each reporting period to determine whether events or circumstances may indicate that a revision to the useful life (presumably shorter) is warranted to reflect the remaining expected use of the asset.
Unlike the guidance that exists for intangible assets, there is no explicit requirement to evaluate the useful lives of long-lived tangible assets each reporting period. However, we believe the useful lives of long-lived tangible assets should be reassessed whenever events or circumstances indicate that a revision to the useful life is warranted. It may be necessary to reassess the useful life of a long-lived tangible asset even if no impairment indicators exist or if the asset group passes step one of the impairment test.
In accordance with ASC 360-10-35-22, when a long-lived asset (asset group) is tested for recoverability, it also may be necessary to review the estimated useful life. A change in the estimated useful life or salvage value of a long-lived asset is a change in accounting estimate and should be accounted for prospectively in the period of change and future periods in accordance with ASC 250-10. ASC 360-10-35-47 also emphasizes that if a reporting entity commits to a plan to abandon a long-lived asset before the end of its previously estimated useful life, depreciation expense should be accelerated to reflect the use of the asset over its shortened useful life. The need to shorten the useful life of an asset may also be a triggering event to test for impairment under ASC 360. See PPE 6.4.1 for further information on accounting for long-lived assets to be abandoned.
A reporting entity should not cease depreciating an asset that is to be held and used even if it expects to sell the asset at a gain. Although fair value may be higher than book value, depreciation should continue until the asset either is disposed of (or meets the held for sale criteria) or is depreciated to its salvage value. Long-lived assets should not be written up to reflect appraisal, market, or current values above the book value. As noted in ASC 360-10-35-4, depreciation is “a process of allocation, not of valuation.” Unless an asset is disposed of (or meets the held for sale criteria), ceasing depreciation would distort the allocation of the initial cost of the asset over its useful life.
Example PPE 4-1 illustrates the accounting for changes in useful life and salvage value.
EXAMPLE PPE 4-1
Change in useful life and salvage value
PPE Corp has equipment with an original cost of $32,000 and expected salvage value of $2,000. The equipment is being depreciated on a straight-line basis over its expected useful life of 10 years, which is the same as the equipment’s expected economic life. At the end of the fourth year, the equipment has a carrying value of $20,000 ($32,000 - (($32,000 - $2,000) / 10 × 4)). Due to a change in product offering, the entity expects to use the equipment in its operations for only 12 more months and expects to receive $5,000 of proceeds from the sale of the equipment. The equipment’s remaining economic life is 6 years.
Should PPE Corp revise its depreciation of the equipment?
Analysis
In determining depreciation expense, PPE Corp should consider the remaining useful life of the equipment.
If PPE Corp expects to use the equipment in its operations for only the next 12 months, PPE Corp should depreciate the equipment over that period such that the remaining balance equals the expected salvage value (proceeds from the sale of the equipment). Since the equipment has a book value of $20,000 and PPE Corp expects to receive $5,000 in proceeds from the equipment's sale, PPE Corp must record depreciation expense of $15,000 ($20,000 carrying value less $5,000 salvage value) over the next 12 months (the remaining useful life).
If PPE Corp expected the proceeds to be $21,000 instead of $5,000, it may not stop depreciating the asset even though its fair value exceeds its carrying amount. One year of the economic life of the asset will be utilized over the next 12 months. Accordingly, it is appropriate for PPE Corp to record depreciation commensurate with one year of economic life, or $3,000 ($32,000 original cost less $2,000 original estimated salvage divided by the economic life of 10 years) over the remaining year of useful life.

In the assessment of useful life, a reporting entity may change its assessment of the life of an intangible asset between finite and indefinite. See BCG 8.2.1 for information about the accounting for the reclassification of intangible assets between indefinite-lived and finite-lived categories.

4.2.4 Amortization of leased assets (after adoption of ASC 842)

Under ASC 842, Leases, a lessee records a right-of-use asset and a corresponding lease liability for both operating leases and finance leases. A right-of-use asset represents the lessee’s right to use an asset legally owned by another party for a period of time. A right-of-use asset is recognized as an asset because a lessee has control over an economic resource and is benefiting from its use. The lease liability represents the obligation to make payments for that right of use.
The subsequent measurement of a right-of-use asset is subject to guidance under ASC 842 and ASC 360. Right-of-use assets are generally amortized over the term of the lease. However, there can be situations when the useful life of the right-of-use asset is different from the lease term. For example, the right-of-use asset would be amortized over the useful life of the underlying asset in a finance lease with a purchase option that is reasonably certain of exercise. This is because the lessee will obtain the underlying asset at the end of the lease term.
The expected useful life of the right-of-use asset may also change over the term of the lease. As discussed in PPE 4.2.3, reporting entities are required to periodically reassess the remaining useful lives of their long-lived assets, including right-of-use assets. In particular, it may be necessary to assess the useful life of a right-of-use asset when there are impairment triggers related to the asset group, or when the reporting entity considers abandonment of a right-of-use asset. For further details related to right-of-use asset impairment considerations, refer to PPE 5.2.6 through PPE 5.2.6.3. For further details related to right-of-use asset abandonment, refer to PPE 6.4.1.1.
A reporting entity that plans to sublease the underlying leased asset should consider the guidance related to long-lived asset impairment, particularly when the right-of-use asset is significant to the asset group (see PPE 5.2.6). When a lessee subleases an asset, the asset will continue to be held and used by the lessee, since the lessee is still economically benefitting from the asset, albeit in a different manner. Because a decision to sublease the underlying leased asset changes how the lessee is using the right-of-use asset, it may change the period over which the asset is expected to contribute directly or indirectly to future cash flows and therefore may change the remaining useful life of the right-of-use asset (e.g., if the sublease term is shorter than the head lease term and the lessee plans to abandon the asset at the conclusion of the sublease).

4.2.4A Amortization of leased assets (prior to adoption of ASC 842)

Prior to the adoption of ASC 842, no right-of-use asset and corresponding lease liability are recognized on balance sheet for lessees in an operating lease. However, under ASC 840, Leases, a lessee records a capital lease as an asset and an obligation at the beginning of the lease term and usually depreciates the leased asset on a straight-line basis. The useful life of such an asset is determined based on which criteria caused the lease to be treated as a capital lease. If the lease term or the minimum lease payments criteria were met, the asset should be amortized over the shorter of its useful life or the lease term. This is similar to the amortization period used for leasehold improvements under an operating lease. If the lease is determined to be a capital lease because it meets the transfer of ownership or bargain purchase criteria, the asset should be depreciated over its useful life in accordance with the reporting entity’s normal depreciation policy for owned assets.
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