As a business owner, you probably acquire a great many assets. However, in some cases, you may end up paying more for those assets than their book value. When that happens and then the asset’s value is reduced, you are facing what is known as a goodwill impairment.
This impairment is calculated as the difference between your acquisition price and the book value of the item, which must be adjusted downward when the asset is affected.
How Does Goodwill Impairment Occur?
Often, people think that a goodwill impairment charge will never affect them. After all, they might think, why would they pay more for an asset than it’s actually worth?
Surprisingly, though, this is more common than you might think. It typically occurs when a company purchases another company, often at a high price, because it has great assets attached to it, such as a known brand name, a good reputation, or excellent technology.
Unfortunately, though, nothing is predictable, and that “great” investment that you thought was worth paying extra for could ultimately not pan out for a variety of reasons. When that happens, you will find yourself facing goodwill impairment.
Accounting for Goodwill Impairment
When a business makes a larger-than-necessary investment in an asset, it records that goodwill as an asset without any amortization or depreciation factored in.
However, once per year, a business should perform goodwill impairment testing to determine if an impairment occurred. This is required by the United States’ Generally Accepted Accounting Principles (GAAP). Acceptable goodwill impairments may happen due to factors such as::
- Changing or deteriorating economic conditions
- Regulatory action that affects asset value
- Changes in the general industry or in the competition’s products
If testing, which can be complex, does verify an impairment, it can then be reported appropriately.
Why It Matters
If you think that tracking and testing for goodwill impairment sounds like a lot of work, you’re right. But, it’s important work.
For one thing, if you have too many goodwill impairments, it is a sign that your business needs to make better decisions about which assets it acquires and/or about how much it pays for them.
Furthermore, if you don’t account for goodwill impairment, this could cause you to overstate your business’ value, which could lead to higher taxation than necessary.
Thus, you really have to stay on top of this accounting charge and to track and record it accurately when it occurs.
Seek Help from Professionals
As you can tell, tracking goodwill impairment, reporting it correctly, and avoiding spending too much on assets regularly are all important but time-consuming tasks. That’s why you shouldn’t attempt to handle them all on your own.
Instead, work with a company that will help you to make better acquisition decisions and that will help you to better handle it when you make an investment that doesn’t pan out the way you planned. Mitchell Advisory Company is incredibly experienced with these and other accounting needs and can easily provide the assistance you require. Just reach out to them today to learn more.