Guides
Goodwill in Accounting: How It Works and How to Test It
Goodwill in accounting is the premium an acquirer pays for a business above the fair value of its identifiable net assets. It appears only after an acquisition, sits on the balance sheet as an intangible asset, and is never amortized by public companies under U.S. GAAP. Instead, public companies test it for impairment at least once a year. Private companies may elect to amortize it over up to 10 years.
Goodwill captures value that cannot be assigned to a specific asset: brand strength, customer relationships, an assembled workforce, and expected synergies. Because that value is hard to verify, GAAP surrounds goodwill with strict rules on how it is recorded (ASC 805) and how it is later tested (ASC 350).
What Is Goodwill in Accounting?
Goodwill is the excess of the purchase price of an acquired business over the fair value of its identifiable net assets (identifiable assets minus assumed liabilities). It arises only in a business combination and is classified as an indefinite-lived intangible asset. It cannot be bought, sold, or created on its own.
Internally generated goodwill (the value a company builds through its own reputation or brand) is never recorded. GAAP recognizes goodwill only when it is purchased in an acquisition, because a transaction provides a verifiable price. This is the same reasoning behind cost basis for other assets: a recorded amount needs an observable transaction behind it.
The two standards that govern goodwill are separate and sequential. ASC 805, Business Combinations, controls how goodwill is measured at the acquisition date. ASC 350, Intangibles, Goodwill and Other, controls what happens to it afterward. ASC 350 does not touch initial recognition, and ASC 805 does not touch impairment.
| Item | Standard | What it covers |
|---|---|---|
| Initial recognition and measurement | ASC 805 | Calculating goodwill at the acquisition date |
| Subsequent measurement and impairment | ASC 350 | Annual and triggering-event impairment testing |
| Fair value techniques used in both | ASC 820 | How fair value is measured |
How Goodwill Arises in an Acquisition (ASC 805)
Under ASC 805, goodwill equals the consideration transferred plus any noncontrolling interest and previously held equity, minus the fair value of the acquired identifiable net assets. The acquirer first assigns fair value to every identifiable asset and liability, including intangibles like patents and customer lists, then treats the leftover purchase price as goodwill.
The acquirer applies the acquisition method in a set order. Identifiable intangibles (trade names, technology, customer relationships) are separated out first and recorded at fair value, so they are not buried inside goodwill. This step ties directly to purchase price allocation in a business combination, where the deal price is spread across each asset class before any residual remains.
The formula:
Goodwill = (Consideration transferred + Noncontrolling interest + Fair value of prior equity interest) − Fair value of identifiable net assets acquired
If identifiable net assets exceed the price paid, the result is a “bargain purchase,” not negative goodwill. In that case the acquirer records a gain in earnings on the acquisition date after rechecking its fair value measurements.
The ASC 350 Goodwill Impairment Test
ASC 350 requires goodwill to be tested for impairment at least annually and whenever a triggering event suggests its carrying amount may exceed fair value. Goodwill is tested at the reporting-unit level, not for the company as a whole. An impairment loss is recorded when a reporting unit’s carrying amount exceeds its fair value.
Because goodwill is not amortized by public companies, testing is the mechanism that keeps its balance-sheet value honest. The test can begin with an optional qualitative screen and, if needed, move to a quantitative comparison.
Step 0: The optional qualitative assessment
An entity may first assess qualitative factors to decide whether it is “more likely than not” (a greater than 50% chance) that a reporting unit’s fair value is below its carrying amount. If it is not, no further testing is required that period. If the qualitative factors suggest possible impairment, the entity performs the quantitative test.
Qualitative factors include declining margins, a falling share price, loss of key customers or personnel, new competition, and adverse regulatory or macroeconomic change. Entities may skip the qualitative screen and go straight to the quantitative test in any period.
Step 1: The quantitative test (single step since ASU 2017-04)
Under ASU 2017-04, the quantitative test is a single step: compare the reporting unit’s fair value with its carrying amount, including goodwill. If fair value is equal to or greater than carrying amount, there is no impairment. If carrying amount is higher, the difference is the impairment loss.
ASU 2017-04 eliminated the old Step 2, which required a hypothetical purchase price allocation to compute “implied” goodwill. That calculation was costly, so the standard removed it. The loss is now simply the shortfall, capped at the goodwill balance allocated to that reporting unit.
The impairment loss is the lesser of:
- The amount by which the reporting unit’s carrying amount exceeds its fair value, and
- The total goodwill allocated to that reporting unit.
Once recorded, a goodwill impairment loss cannot be reversed, even if the reporting unit’s value later recovers.
No Amortization for Public Companies
Public companies do not amortize goodwill under U.S. GAAP. Since 2001, goodwill has followed an impairment-only model: it stays on the balance sheet at its recorded amount until a test shows its value has dropped. Annual testing replaces the periodic write-down that amortization would provide.
The FASB considered reintroducing amortization for public companies during a multi-year project but dropped that project in June 2022, keeping the impairment-only model. The topic resurfaced in early 2026, when FASB staff presented several possible paths forward, but no formal standard-setting project has been added as of mid-2026. Public companies should continue to apply impairment-only testing.
This is different from finite-lived intangibles, which are amortized over their useful lives. For a broader contrast between spreading intangible cost and depreciating tangible assets, see amortization vs depreciation.
The private-company alternative
Under ASU 2014-02, private companies (and, under ASU 2019-06, not-for-profits) may elect to amortize goodwill on a straight-line basis over 10 years, or less if a shorter useful life is more appropriate. Electing entities also switch to testing for impairment only when a triggering event occurs, rather than every year.
The tradeoff: amortization steadily reduces the goodwill balance and lowers reported earnings each year, but it removes the cost and volatility of annual impairment testing. Electing companies may also test goodwill at the entity level instead of the reporting-unit level, which further simplifies the process. The election is a policy choice and, once made, applies to existing and future goodwill.
| Feature | Public company (GAAP) | Private company (ASU 2014-02 election) |
|---|---|---|
| Amortization | Not permitted | Straight-line over 10 years or less |
| Impairment testing frequency | At least annually | Only upon a triggering event |
| Testing level | Reporting unit | Entity or reporting unit |
| Qualitative screen available | Yes | Yes |
Worked Example: From Acquisition to Impairment
Assume Acquirer Inc. buys Target Co. for $10,000,000 in cash. At the acquisition date, Target’s identifiable assets have a fair value of $9,000,000 and its assumed liabilities have a fair value of $2,000,000. Identifiable net assets are therefore $7,000,000.
Step 1, record goodwill (ASC 805):
Goodwill = $10,000,000 − $7,000,000 = $3,000,000
Acquirer records the identifiable assets, the assumed liabilities, and $3,000,000 of goodwill on the acquisition date.
Step 2, test for impairment two years later (ASC 350):
Suppose the reporting unit that holds this goodwill now has a carrying amount of $8,500,000 (including the $3,000,000 goodwill). A key customer is lost, so Acquirer runs the quantitative test and measures the reporting unit’s fair value at $7,200,000.
- Carrying amount: $8,500,000
- Fair value: $7,200,000
- Excess of carrying amount over fair value: $1,300,000
- Goodwill allocated to the unit: $3,000,000
The impairment loss is the lesser of the $1,300,000 excess and the $3,000,000 goodwill, so the loss is $1,300,000. Goodwill drops from $3,000,000 to $1,700,000, and Acquirer records a $1,300,000 impairment expense on the income statement.
The journal entry is a debit to goodwill impairment loss (an expense) and a credit to goodwill (reducing the asset), both for $1,300,000. The loss reduces net income but does not affect cash.
Frequently Asked Questions
Is goodwill an asset or a liability?
Goodwill is an intangible asset. It appears in the long-term assets section of the balance sheet, below identifiable intangibles like patents and trademarks. It represents future economic benefit an acquirer paid for, such as brand value and synergies, that cannot be tied to a specific identifiable asset. It is never a liability.
Do public companies amortize goodwill?
No. Public companies following U.S. GAAP do not amortize goodwill. Since 2001, goodwill has been carried at cost and tested for impairment at least annually and upon triggering events. The FASB considered reintroducing amortization but dropped that project in June 2022. Private companies may elect to amortize goodwill over up to 10 years under ASU 2014-02.
How is goodwill calculated in an acquisition?
Goodwill equals the consideration transferred, plus any noncontrolling interest and previously held equity, minus the fair value of the identifiable net assets acquired. The acquirer first assigns fair value to every identifiable asset and liability, including separable intangibles, then treats the remaining purchase price as goodwill under ASC 805.
What is a goodwill impairment?
A goodwill impairment is a write-down recorded when a reporting unit’s carrying amount exceeds its fair value under ASC 350. The loss equals that excess, capped at the goodwill allocated to the unit. It is recognized as an expense on the income statement and reduces the goodwill balance. Under U.S. GAAP, the write-down cannot be reversed later.
Can goodwill impairment be reversed?
No. Under U.S. GAAP, once a goodwill impairment loss is recorded, it cannot be reversed, even if the reporting unit’s fair value recovers in a later period. This differs from IFRS, which also prohibits reversing goodwill impairments but allows reversals for some other assets. The recorded goodwill amount can only stay flat or decrease over time.
What triggers a goodwill impairment test?
Testing is required at least annually for public companies and whenever a triggering event occurs for any entity. Triggering events include a sustained drop in share price, declining cash flows or margins, loss of key customers or personnel, new competition, adverse regulatory change, or a broad economic or industry downturn that could push a reporting unit’s fair value below its carrying amount.
Reviewed by The Ledgerism Editorial Team. Last reviewed: July 2026.