Self Created Patents

Reflected as Asset on Financial Statements?

Often a company will develop the patent and the associated costs are deducted as current operating expenses.  This is common for companies reporting on the cash basis of accounting or another consistent basis of accounting other than the GAAP (Generally Accepted Accounting Principles). When this cash basis situation occurs, the development cost of the patent is not reflected as an asset on the balance sheet of the company. However, the legal fees and filing costs associated with the patent are carried as an intangible asset on the financial statements of the company.  If legal costs are incurred to defend the patent rights, those costs are capitalized as an asset if the defense of the patent is successful.  If defense of the patent is unsuccessful, legal costs of defense are expensed.  If the company prepares its financial statements according to Generally Accepted Accounting Principles, then costs associated with the development of the patent may be carried as an asset on the balance sheet of the company.  However, the carrying costs of developing the patent may not have any correlation to the actual economic value of the patent.

Treatment as Expense on Financial Statements?

In the "cash basis" method of accounting, the development costs have been expensed, and no asset is carried on the balance sheet of the books.  Accordingly, the cost has offset current period income in the period the costs were incurred.  There is, however amortization of legal and filing fee costs over the useful life of the patent.  If the company reports on the GAAP basis, then certain costs of developing the patent may be carried as an asset, along with the legal and filing costs associated with the patent. The cost of the asset is written off ratably (expensed) over the expected useful technological or economic life of the patent.  The legal life of a patent typically is about 17 years. 

Treatment as Expense on Tax Returns?

The cash basis taxpayer has deducted costs associated with patent development as the costs are incurred. The legal and filing costs associated with the patent are carried as an intangible asset and are expensed ratably over 15 years.  An accrual basis taxpayer is also allowed to amortize (expense) the costs of the patent ratably over a 15 year period.  Again, it is important to note that the tax return treatment of the patent costs and deductions are different from GAAP reporting treatment on the financial statements.

When is Valuation Required?

Valuing the patent is not necessary for income tax purposes when the cash basis or another consistent basis of accounting is used. HOWEVER, there may still be the need for patent valuations: Potential sale of the business, potential purchase of another business with self-developed patents, actual sale or purchase of a self-developed patent, divorce actions, estate taxation, gifting, bankruptcy actions, and tort actions are such examples.

Reflected as Asset on Financial Statements?

The purchase price (cost allocation to the patent) is recorded as an intangible asset on the balance sheet of the purchasing company.

Treatment as Expense on Financial Statements?

In the case of GAAP and non-GAAP financial reporting, the patent is expensed (amortized) ratably over the determined useful technical and economic life of the patent.

Treatment as Expense on Tax Returns?

Amortized ratably over 15 years and expensed on tax returns.  Financial reporting has no impact on income tax reporting. 

When is Valuation Required?

GAAP and non-GAAP financial reporting of patents may require a valuation of the patent for certain purposes. Potential sale of the business, potential purchase of another business with purchased patents, actual sale or purchase of a previously purchased patent, divorce actions, estate taxation, gifting, bankruptcy actions, and tort actions are such examples.