Amortizing Project Purchases

October 2018

So, your project needs to buy hardware, software and perhaps vendor support. Does your project pay for all of this up front, or can these expenses be amortized over their useful life?

Since these types of expenses are organizational assets that deliver value beyond the life of the project, they certainly can be amortized, and should be. Typically, the project should pay for year 1 of a long term support contract or subscription, and amortize the assets (hardware, software) over a period of time, say 3-5 years. These days, in times of rapid change, a reasonable amortization period is no more than 3 years.

For amortized assets, the organization will actually pay for the costs up front, and then charges the project depreciation and inputed interest for each month the project “owns” the assets. Operational budgets take over payments of the depreciation and inputed interest until the amortization period is complete.

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A Practical Example: The solution to be implemented requires that 4 servers be purchase at $2,500 each.

What to buy:

• Four servers @ $2,500 each = $10,000

Since the assets will deliver value well after the solution goes into full operation, why should the project pay for all the costs up front? Some costs, like the vendor support may only be paid out by the corporation each year the system is in production. Hardware and software will be depreciated by the organization as it gets older. Amortization over a number of years will result in the project paying a portion of the up front costs, while the solution owner pays the remaining costs year over year until the assets have no residual value, and are often (or should be) subject to replacement.

Here’s how it works:

First, add in taxes (13% in this example). This brings the total to $11,300. Next, assume an interest rate. For internal loans, use a small rate, such as 3%. Determine when, during the year, the asset will actually be deployed. For this example, let’s assume the assets get deployed in October (month 10), the project ends in December of the same year, and the assets will be amortized over a period of three (3) years.

The project pays a total of $708.

				Imputed Interest by Month
Year​	Total	Depreciation	Interest	Oct	Nov	Dec
1	$708	$628	$80	$27	$27	$26

The solution owner pays $4,016 in year 2, $3, 903 in year 3 and $3167 in year 4, for a total of $10,672. After the amortization period is over, $11,794 will have been collected on a $11,300 purchase.

				Imputed Interest by Month
Year	Total	Depreciation	Interest	Jan	Feb	Mar	Apr	May	Jun	Jul	Aug	Sep	Oct	Nov	Dec
2	​$4,016	$3,767	​$250	​$25	​$24	​$24	$23	$22	$21	$20	$20	$19	$18	$17	$16
3	$3,903	$3,767	$137	​$16	$15	$14	$13	$13	$12	$11	$10	$9	$9	$8	$7
4	$3,167	​$3,139	$28	​$6	​$5	​$5	$4	$3	$2	$2	$1	$0	$0	$0	$0

Please contact me for calculation details, if needed.

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