Useful Life of Intangible Assets with Significant Renewal Costs under Ind AS 38

Background of the Transaction

A company has acquired a one-year license granting access to a valuable customer database, with the option to renew the license annually by paying a substantial renewal fee. From a strategic standpoint, management believes that this database will form a key part of the company’s operations for many years. As such, they propose to capitalize the initial license cost as an intangible asset and amortize it over a period extending beyond the initial one-year term, aligning the accounting treatment with their long-term business vision.

Management’s Rationale for Multi-Year Amortization

The proposal rests on the premise that the company’s intent and ability to renew the license for several years effectively extend the asset’s useful life beyond the contractual one-year term. By spreading the cost over multiple years, management aims to match expenses with the economic benefits derived from ongoing use of the database, thereby reflecting what they view as the true consumption pattern of the asset’s value.

Ind AS 38 Guidance on Useful Life Determination

However, Ind AS 38, Intangible Assets, provides specific guidance that can override management’s business intentions. The standard states that when an intangible asset has a finite contractual life, its useful life cannot be assumed to extend beyond that term unless renewal is expected to be both probable and without incurring significant cost. If the renewal requires a substantial payment each year, this cost must be considered in determining the useful life. In such cases, the useful life is restricted to the current contractual term, regardless of the company’s strategic plans.

Reconciling Business Intent with Accounting Requirements

In this scenario, the substantial renewal fee indicates that each annual renewal represents a separate acquisition of rights, rather than a continuation of the existing asset. This means the initial license cost would need to be treated as covering only the current one-year period, effectively classifying it as a prepaid expense rather than a multi-year intangible asset. While this accounting treatment may not reflect management’s operational outlook, it aligns with the economic substance of the transaction and ensures compliance with Ind AS 38’s principles.

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