## Intangible Assets: Classification and Audit Procedures

### Key Classification Rules

Item	Correct Treatment	Common Error
Software (not integral to hardware)	Intangible Asset	Shown under PP&E / Fixed Assets
Research expenditure	Expense when incurred	Capitalised under PP&E
Development expenditure (meeting criteria)	Intangible Asset	Expensed immediately

Rule (AS 26): Computer software that is not an integral part of the related hardware is treated as an intangible asset, not a tangible fixed asset.

Research vs Development:

Research phase: All expenditure must be expensed — recognition as an intangible is not permitted.
Development phase: May be capitalised only if all six recognition criteria under AS 26 are satisfied.

### Audit Procedures for Additions to Intangible Assets

1. Recognition criteria check — For each material addition, verify whether the expenditure satisfies AS 26 recognition criteria.

2. Research phase filter — Confirm no research-phase expenditure has been capitalised; it must be expensed.

3. Date of use verification — Obtain certificate/report/documentation linking the intangible's date of use to commencement of commercial production or economic use.

4. Approval verification — Confirm additions are approved by appropriate personnel with authority.

5. Procurement process — On a sample basis, test whether competitive quotations/tenders were invited before finalising the vendor.

### Practical Application

When a client presents software (₹2 cr) and research (₹1 cr) under PP&E:

Software → Reclassify to Intangible Assets (Schedule III head)
Research → Remove from Balance Sheet; charge to P&L as expense

Worked example

### Example 1

Pen Private Limited Case:

Facts: Software ₹2 cr and Research ₹1 cr shown under Property, Plant and Equipment.

Analysis:

Software not integral to hardware → Must appear under Intangible Assets, not PP&E. Presentation is incorrect.
Research expenditure → Cannot be capitalised under any circumstances per AS 26. Should be expensed in P&L. Presentation is incorrect.

Audit Step: For all material additions, verify AS 26 recognition criteria are met; confirm research phase costs are not capitalised; obtain date-of-use certificates; check approval by authorised personnel; test procurement documentation on sample basis.

⚠️ Common exam mistakes

Classifying standalone software under PP&E instead of Intangible Assets
Capitalising research phase expenditure — AS 26 prohibits this without exception
Confusing research (always expense) with development (can capitalise if criteria met)
Not testing whether the procurement process (quotations/tenders) was properly followed before capitalisation
Skipping date-of-use documentation when verifying additions

Bare-Act text Paragraph 41 (Research Phase) · AS 26 – Intangible Assets (ICAI) · click to expand

Expenditure on research (or on the research phase of an internal project) shall be recognised as an expense when it is incurred. An intangible asset arising from research (or from the research phase of an internal project) shall not be recognised.

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Intangible Assets Classification and Audit Procedures (AS 26)

Worked example

⚠️ Common exam mistakes