Question

In: Accounting

You have been examining the books of a new client. Included on their previously unaudited financial...

You have been examining the books of a new client. Included on their previously unaudited financial statements was a balance of $299,032 for a long-term Patent as of 12/31/2017. When examining the ledger, you found these entries:

  • An “acquisition” entry of $274,982:
  • Legal costs incurred in the preparation of the application for the patent: $6,450 during 2016
  • Leal costs incurred in successfully defending the validity of the patent: $17,600 during 2017
  • There have been no amortization expenses reported for the patent. There were no other entries to the account during 2018.

    In discussions with the president of the firm, you learned that this patent was developed by an employee specifically hired to work on the development of the president’s initial concept for the product. After 3 years of work, the patent was granted at the end of 2016. The patented product has resulted in a 50% increase in sales from 12/31/2016 to 12/31/2018. The president expects the product to continue being very marketable over the company’s 3 year strategic plan from 2018 through 2020.

    Instructions: As the outside auditor for the company, prepare a memo as of 12/31/2018 to the president of the company discussing:

  • The GAAP rules governing the accounting of patents, using appropriate citations from the codification. (Provide the appropriate references to the FASB Codification. Do NOT copy and paste the codification sections.)
  • The previous mistakes in accounting for the patent. Suggest correcting journal entries, if appropriate.

Solutions

Expert Solution

companies record intangible assets at cost. intangibles are categorized as having either a limited life or an indefinite life. if an intangible has a limited life the company allocates its cost over the assets's useful life using a process similar to depreciation. the cost of intangibles with indefinite lives should not be amortized.

to amortize intangible asset journal entry is

amortization expense debit amount

patents credit amount

( to record patent amortization)

As per US GAAP, Generally, capitalizing or expensing patent application costs has evolved to an accounting policy decision. If patent application costs are capitalized, there must be probable future economic benefit. For example, if Company has a product that is currently under research and development and is not currently approved for market, costs incurred in connection with patent application should generally be expensed in the income statement because there is uncertainty to the future economic benefits of the asset, if capitalized. If a future economic benefit is probable or an alternate future use is available to the company, such costs can be capitalized and amortized over the expected life of the patent. Company can also capitalize external legal costs incurred in the defense of its patents when it is believed that the future economic benefit of the patent will be increased and a successful defense is probable. Capitalized patent defense costs are amortized over the remaining life of the related patent. Where the defense of the patent maintains rather than increases the expected future economic benefits from the patent, the cost would generally be expensed as incurred.

as per the question legal cost incurred in 2016 should be treated as expense because at that time there was no capitalization of cost and no future benefit are there. on the other hand other cost incurred in 2017 should be capitalized and should be amortized in remaining life of patent.


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