Estimated useful life is the amount of time a company expects it will use an asset. This concept relates to fixed assets that companies will not immediately consume. Vehicles, equipment, patents, and natural resources are among the assets with an estimated useful life. Companies use this figure to calculate depreciation, amortization or depletion. These latter figures represent the recognized expense each company posts to its general ledger when using assets.
National accounting standards or government tax agencies will typically create guidelines for an asset’s estimated useful life. Each asset goes into a specific group. For example, certain types of vehicles, buildings or equipment will be a specific category. The guidelines are typically for tangible fixed assets. Companies can use these figures to accurately depreciate the assets for tax purposes.
Many types of depreciation calculations are available for companies to use. A common method — called straight line depreciation — subtracts an asset’s salvage value from historical cost. The difference is divided by the asset’s useful life. This figure represents the annual depreciation a company will post into its general ledger. The figure is an expense that indicates the value lost from use of the asset in normal business operations.
Tangible assets — such as patents, copyrights or rights to use assets — often have a built-in useful life. Government agencies granting these assets typically set the estimated useful life for each type of intangible asset. For example, patents may last 20 years from the filing date; copyright life can range from 95 to 120 years under certain conditions; and rights to use assets usually depend on contracts made between the company and another party. Intangible assets use amortization to reduce the historical value of the asset. A few minor differences exist between amortization and depreciation.
The amortization calculation divides the cost of the intangible asset by its stated estimated useful life. The result is the annual expense posted into the general ledger. No salvage value typically exists for intangible assets, as the item is usually worthless at the end of its life. Straight line amortization is, again, among the most common used to reduce the value of intangible assets.
Depletion is the reduction in value from natural resources. Oil wells, coal mines and timber are a few examples of natural resources. Companies will estimate the useful life of these resources based on the amount of assets taken from the area. The value of the resource divided by the estimated useful life will give annual depletion amounts. No salvage value exists, as the asset is usually worthless after the company completes working the area.