Amortization

Business, Legal & Accounting Glossary

Definition: Amortization


Quick Summary of Amortization


The reduction of a debt incurred, for example, in the purchase of stocks or bonds, by regular payments consisting of interest and part of the principal made over a specified time period upon the expiration of which the entire debt is repaid. A mortgage is amortized when it is repaid with periodic payments over a particular term. After a certain portion of each payment is applied to the interest on the debt, any balance reduces the principal.

The allocation of the cost of an intangible asset, for example, a patent or copyright, over its estimated useful life that is considered an expense of doing business and is used to offset the earnings of the asset by its declining value. If an intangible asset has an indefinite life, such as good will, it cannot be amortized.




What is the dictionary definition of Amortization?

Dictionary Definition


n. a periodic payment plan to pay a debt in which the interest and a portion of the principal are included in each payment by an established mathematical formula. Most commonly it is used on a real property loan or financing of an automobile or other purchase. By figuring the interest on the declining principal and the number of years of the loan, the monthly payments are averaged and determined. Since the main portion of the early payments is interest, the principal does not decline rapidly until the latter stages of the loan term. If the amortization leaves a principal balance at the close of the time for repayment, this final lump sum is called a “balloon” payment.


Full Definition of Amortization


Amortization refers either to paying debt in regular installments over time or deducting intangible capital expenses over time.

When it refers to debt, amortization is the practice of spacing out payments on that debt at regular intervals. For example, a 30-year fixed-rate mortgage usually requires monthly payments on the debt.

In amortized loans, each monthly payment contributes to paying off both the principal and the interest being charged on that principal. Because the amount of principal remaining on the debt changes with every payment, the proportion of each payment that goes to interest is reduced with every payment. These changing proportions are described in an amortization schedule.

This is why contributing additional money towards a debt’s principal significantly reduces the interest paid out over the life of the loan.

When amortization refers to capital expenditures, it describes the practice of accounting for intangible capital expenditures (such as intellectual property) over the life of the expense to reflect their consumption or expiration.

For example, a copyright that cost $10,000 and would run out five years hence would be amortized at $2,000 a year for each of those five years.

Amortization is not the same as depreciation, which is the allocation of the original cost of a tangible asset computed over its anticipated useful life, based on its physical wear and tear and the passage of time. Amortization of intangible assets and depreciation of tangible assets are used for tax purposes to reduce the yearly income generated by the assets by their decreasing values so that the tax imposed upon the earnings of assets is less. Amortization differs from depletion, which is a reduction in the book value of a natural resource, such as a mineral, resulting from its conversion into a marketable product. Depletion is used for a similar tax purpose as amortization and depreciation—to reduce the yearly income generated by the asset by the expenses involved in its sale so that less tax will be due.


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Definition Sources


Definitions for Amortization are sourced/syndicated and enhanced from:

  • A Dictionary of Economics (Oxford Quick Reference)
  • Oxford Dictionary Of Accounting
  • Oxford Dictionary Of Business & Management

This glossary post was last updated: 8th October, 2021 | 1 Views.