Section 197 intangibles are acquired intangible assets, such as goodwill, customer lists, workforce in place, licenses and covenants not to compete, that you buy as part of a trade or business. The Internal Revenue Code requires you to recover their cost through amortization, in equal monthly amounts over 15 years (180 months), no matter how long the asset actually lasts. Self-created intangibles are mostly left out. Related-party deals can be blocked by the anti-churning rules.
If you are buying a practice, a book of clients or a company, this is where a large share of your purchase price will land. Below we cover what qualifies, how the math works, what can go wrong and what you file.
TL;DR
- Section 197 covers goodwill, going concern value, workforce in place, customer lists and other information bases, licenses, covenants not to compete and similar assets acquired with a business.
- Cost is amortized ratably over 15 years, starting in the month of acquisition, with no choice of a shorter life.
- Self-created intangibles generally do not qualify, and anti-churning rules can deny amortization on related-party deals.
- Amortization is reported on Form 4562, and the purchase price allocation drives how much of the deal becomes a Section 197 asset.
Table of Contents
- What Section 197 intangibles are
- Which assets qualify
- What does not qualify
- How the 15-year amortization is calculated
- What happens when you sell or dispose of the asset
- Anti-churning rules
- Tax amortization versus book accounting
- Forms and records you need
- Our perspective
- Getting the allocation right with a tax advisor
- FAQ
- Sources
What Section 197 intangibles are
Section 197 was enacted in 1993. For intangibles acquired after August 10, 1993, the IRS says taxpayers must amortize the capitalized costs ratably over 15 years. Before that law, buyers fought with the IRS over whether goodwill or a customer list had a limited useful life. Section 197 ended the argument with one fixed schedule.
The rule has two halves. An intangible has to be acquired, and it has to be held in connection with a trade or business or an income-producing activity. The final regulations issued in 2000 (TD 8865) spell out both tests and the long list of exceptions.
Once an asset is an amortizable Section 197 intangible, no other depreciation or amortization is allowed on it. You cannot argue that your customer list will really only last five years and write it off faster.
Which assets qualify
The regulation at 26 CFR 1.197-2 names the categories. In plain terms, they are:
| Category | Examples |
|---|---|
| Goodwill and going concern value | The premium paid above the value of identifiable assets |
| Workforce in place | The value of an established, trained staff |
| Information bases | Customer lists, patient records, books and records, operating systems |
| Know-how and IP | Patents, copyrights, formulas, processes, designs, formats |
| Customer-based intangibles | Customer relationships, market share, future service value such as investment management contracts or insurance in force |
| Supplier-based intangibles | Favorable supply contracts and supplier relationships |
| Licenses and permits | Government-granted licenses, permits and rights |
| Covenants not to compete | Agreements tied to the acquisition of a business |
| Franchises, trademarks, trade names | Acquired as part of the business |
The list comes from the regulation text on Section 197 intangibles. Two categories deserve extra attention.
Customer lists and other information bases
An acquired customer list is treated as an information base, so it is amortized ratably over 15 years starting in the month of acquisition. This is the category behind most searches for the amortization of a customer list. The same treatment applies to a medical or dental patient roster, a client file at an accounting or insurance agency, or a subscriber list at a recurring-service company.
One point surprises buyers. If clients leave after the purchase, you do not get to write off the lost customers. The regulations say that losing individual customers from the list is not a disposition that allows a loss deduction. The 15-year schedule keeps running.
Covenants not to compete
A non-compete signed in connection with buying a business is a Section 197 intangible, even when it only runs for two or three years. That has a real effect on both sides of the deal. The buyer amortizes the amount over 15 years. The seller generally reports payments for the covenant as ordinary income, which is often less attractive than the capital gain treatment available for goodwill. Because of that gap, the allocation language in the purchase agreement deserves careful review before closing. We walk through that in our guide to goodwill allocation taxes.
What does not qualify
Section 197 is mostly about purchases. Self-created intangibles are generally excluded, with a few exceptions: certain government-granted rights or licenses, and covenants not to compete. If you built your own customer list over ten years, the cost of building it (marketing, wages, and so on) is not capitalized into a Section 197 asset.
The regulations also exclude a number of other items from the 15-year rule, for example interests in a corporation or partnership, land, most financial interests and certain off-the-shelf computer software, each of which has its own treatment. Software and other items that are acquired separately, rather than as part of buying a business, are often handled under different sections. Ask your preparer to confirm which section governs each piece of a deal.
An asset that is not a Section 197 intangible can often be recovered faster. Equipment, vehicles and some improvements can qualify for accelerated deductions. Our articles on 100% bonus depreciation and Section 179 vehicles show how that works. This is one reason purchase price allocation matters: dollars assigned to equipment can be deducted much sooner than dollars assigned to goodwill.
How the 15-year amortization is calculated
The deduction is the adjusted basis of the intangible, spread evenly over 180 months. The period begins on the first day of the month of acquisition, or, if later, the month you begin the trade or business. There is no half-month or mid-year convention, which is a common point of confusion. You get the full month in which you acquire the asset.
Worked example: a customer list
Say you buy a commercial cleaning company in July. Of the purchase price, $300,000 is allocated to the customer list.
- Annual amortization: $300,000 / 15 = $20,000
- Monthly amortization: $300,000 / 180 = $1,666.67
- First-year deduction: July through December is 6 months, so 6 x $1,666.67 = $10,000
- Years two through fifteen: $20,000 each year
- Final year: the remaining 6 months, $10,000
The deduction also runs the same way regardless of whether the list gains or loses value. Add goodwill of $500,000 acquired in the same deal, and it amortizes on the same schedule at $33,333 per year. Together the two assets produce $53,333 of annual deductions, which lowers taxable income in each year of the schedule.
Pooling multiple intangibles
If you acquire several Section 197 intangibles in one deal, they are treated as a single asset for some purposes. That matters at disposition, covered below.
What happens when you sell or dispose of the asset
Timing rules apply when you sell. According to the regulations, property is not eligible for amortization in the month it is disposed of, so the last month is lost.
The loss rules depend on how you got the asset:
- Acquired as part of a larger business purchase: Disposing of one intangible usually does not produce a deductible loss, because the basis of the entire group must be considered. If you sell or abandon one item, its remaining basis is added to the others and continues to amortize.
- Acquired separately: A loss may be recognized when you dispose of the intangible.
When you eventually sell the whole business, amortization you claimed can be recaptured as ordinary income to the extent of the gain. That is another reason to plan the exit years before it happens. Our business sale tax planning playbook covers the sequence.
Anti-churning rules
Congress did not want owners to convert existing goodwill into a fresh 15-year deduction by shuffling it between related parties. The anti-churning rules in Section 197(f)(9) address that. They prevent 15-year amortization in related-party transactions that do not significantly change the ownership or use of the asset, and the IRS also points to them for transactions that lack a significant change in ownership or use.
In practice, the risk shows up when:
- You sell a practice to an entity that you or a family member also control.
- You restructure a long-held business into a new entity and treat the goodwill as newly purchased.
- A buyer and seller have overlapping ownership above the statutory thresholds.
These rules were written for goodwill that existed before August 1993, so many modern deals are unaffected. Still, the test is technical and the cost of getting it wrong is the entire deduction. Review any related-party sale with a tax professional before you sign.
Tax amortization versus book accounting
Tax and financial reporting treat acquired intangibles on separate tracks. The tax rule is fixed: 15 years, straight line, for every qualifying asset. Financial statements prepared under accounting standards follow different rules, and the two sets of numbers will often not match. If a lender, investor or buyer reviews your financials, your CPA should reconcile book and tax amounts so the difference does not look like an error. The tax figure is the one that matters for your return.
Financing is a related issue. When you borrow to buy a business, interest and amortization are separate deductions with their own limits. For background on that side, see this overview of the business loan interest deduction.
Forms and records you need
Amortization is claimed on Form 4562. The IRS instructions for Form 4562 list certain Section 197 intangibles among the costs reported in the amortization section, with columns for the date amortization begins, the amortizable amount, the code section and the amortization for the year. First-year filings also require the start date, so keep your closing statement handy.
A complete file for each acquisition usually includes:
- The signed purchase agreement and any allocation schedule.
- The closing statement showing the final price and adjustments.
- Valuation work supporting the customer list or goodwill amount, if any was done.
- A running amortization schedule showing the start month, monthly amount and accumulated total.
- Any asset acquisition statement filed with the transaction, which both buyer and seller should keep consistent with each other.
If your business changes its method of accounting for an item, an adjustment may apply. Our explanation of the Section 481(a) adjustment covers how those catch-up amounts are spread.
Our perspective
Most buyers we meet focus on the headline purchase price and treat the allocation as paperwork. We see it the other way around. The allocation decides how quickly you recover cost, and a few percentage points moved between equipment and goodwill changes your cash flow in the first years of ownership.
We also see owners underestimate how long 15 years is. A $1 million goodwill allocation yields roughly $66,667 of annual deductions, which helps, but it is slow. So we encourage clients to ask three questions before closing: What is each dollar of the price allocated to? Which of those assets can be recovered faster? And does the seller's tax treatment conflict with ours?
For high earners with several entities, the structure of the buying entity matters too. An S corporation, a partnership and a sole proprietor each pass the amortization through differently, and that interacts with the pass-through deduction limits discussed in our piece on specified service trade rules. Planning these choices before closing is far cheaper than repairing them afterward.
— Melissa
Getting the allocation right with a tax advisor
If you are weighing an acquisition, the best time to involve a tax advisor is before the letter of intent turns into a purchase agreement. We work with business owners, real estate investors and high-income professionals on structure, allocation and ongoing planning. Our Monthly Tax Advisory engagement is $11,997 per year, and our Quarterly Tax Strategy Sessions are $9,497 per year. If you own an S corporation, the S-Corp Tax Strategy Accelerator is a one-off $997 engagement.
For return preparation, including entity returns such as Form 1120-S and Form 1065, our fee schedule lists the published form-based prices. To start the conversation, visit The Tax Refinery.
FAQ
Can a Section 197 intangible be depreciated instead of amortized?
No. Section 197 intangibles are amortized, not depreciated, and no other depreciation or amortization is allowed on property that qualifies. The method is straight line over 15 years. Bonus depreciation and Section 179 expensing do not apply to these assets.
Why is goodwill never amortized?
For tax purposes, purchased goodwill is amortized over 15 years under Section 197. The confusion comes from financial reporting, which follows separate accounting standards and can treat goodwill differently. Your CPA can show you both treatments side by side.
Does the 15-year period start when I sign or when I close?
It starts in the month you acquire the asset, or, if later, the month you begin the related trade or business, per the regulations. In most deals, that is the closing month. Keep the closing statement as proof.
If I lose customers after buying a customer list, can I deduct the loss?
No. The regulations say the loss of individual customers is not a disposition that allows a loss deduction. You keep amortizing the original cost over the 15-year schedule.
Do self-created customer lists qualify?
Generally not. Self-created intangibles are excluded, apart from certain government-granted rights and covenants not to compete. Section 197 is aimed at assets you acquire, usually in a business purchase.
Sources
- IRS: Intangibles
- 26 CFR § 1.197-2, Amortization of goodwill and certain other intangibles
- Treasury Decision 8865, final regulations on amortization of intangible property
- IRS: Instructions for Form 4562
- Business loan interest deduction overview