NOTE

- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Business and Basis of Presentation

The consolidated financial statements include the accounts of LiqTech International, Inc. (“Parent”) and its subsidiaries.

The terms "Company", “us", "we" and "our" as used in this report refer to Parent and its subsidiaries, which are set forth below. The Company engages in the development, design, production, marketing and sale of automated filtering systems, ceramic silicon carbide liquid and diesel particulate air filters in United States, Canada, Europe, Asia and South America. Set forth below is a description of Parent and each of its subsidiaries:

LiqTech International, Inc., a Nevada corporation organized in

July 2004,

formerly known as Blue Moose Media, Inc.

LiqTech USA, a Delaware corporation and a wholly-owned subsidiary of Parent formed in

May 2011.

LiqTech International AS, a Danish corporation, incorporated on

January 15, 2000 (

“LiqTech Int. DK”), a

100%

owned subsidiary of LiqTech USA, engages in development, design, application, marketing and sales of membranes on ceramic diesel particulate and liquid filters and catalytic converters in Europe, Asia and South America.

LiqTech NA, Inc. (“LiqTech NA”), incorporated in Delaware on

July 1, 2005,

100%

owned subsidiary of LiqTech USA. LiqTech NA, Inc. engages in the production, marketing and sale of ceramic diesel particulate and liquid filters and kiln furniture in United States and Canada.

LiqTech Systems AS, a Danish Corporation ("LiqTech Systems") (Formerly Provital Solutions A/S) was incorporated on

September 1, 2009

and engages in the manufacture of fully automated filtering systems for application within the pool and spa markets, marine applications, and a number of industrial applications within Denmark and international markets.

LiqTech Germany (“LiqTech Germany”) a

100%

owned subsidiary of LiqTech Int. DK, incorporated in Germany on

December 9, 2011,

engages in marketing and sale of liquid filters in Germany. The Company is in the process of closing operations, which is expected to be

completed during

2018.

LiqTech PTE Ltd, (“LiqTech Sing”) a

95%

owned subsidiary of LiqTech Int. DK, incorporated in Singapore on

January 19, 2012,

engages in marketing and sale of liquid filters in Singapore and other countries in the area. The Company is in the process of closing operations, which is expected to be completed during

2018.

Consolidation

The consolidated financial statements include the accounts and operations of the Company. The non-controlling interests in the net assets of the subsidiaries are recorded in equity. The non-controlling interests of the results of operations of the subsidiaries are included in the results of operations and recorded as the non-controlling interest in subsidiaries. All material inter-company transactions and accounts have been eliminated in the consolidation.

Functional Currency / Foreign currency translation

The functional currency of LiqTech International, Inc., LiqTech USA, Inc. and LiqTech NA is the U.S. Dollar. The Functional Currency of LiqTech Int. DK and LiqTech Systems AS is the Danish Krone (“DKK”), the functional currency of LiqTech Germany is the Euro and the functional currency of LiqTech Singapore is the Singapore Dollar. The Company’s reporting currency is U.S. Dollar for the purpose of these consolidated financial statements. The foreign subsidiaries balance sheet accounts are translated into U.S. Dollars at the period-end exchange rates and all revenue and expenses are translated into U.S. Dollars at the average exchange rates prevailing during the years ended

December 31, 2017

and

2016.

Translation gains and losses are deferred and accumulated as a component of other comprehensive income in stockholders’ equity. Transaction gains and losses that arose from exchange rate fluctuations from transactions denominated in a currency other than the functional currency are included in the statement of operations as incurred.

Cash, Cash Equivalents and Restricted Cash

The Company considers all highly liquid debt instruments purchased with a maturity of

three

months or less to be cash equivalents. The Company had

balances held in a financial institution in the United States in excess of federally insured amounts at

December 31, 2017

and

December 31, 2016.

Accounts Receivable

Accounts receivables consist of trade receivables arising in the normal course of business. The Company establishes an allowance for doubtful accounts which reflects the Company’s best estimate of probable losses inherent in the accounts receivable balance. The Company determines the allowance based on known troubled accounts, historical experience, and other currently available evidence.

The roll forward of the allowance for doubtful accounts for the year ended

December 31,

201

and

December 31, 2016

is as follows:

	2017			2016
Allowance for doubtful accounts at the beginning of the period	$	2,128,452		$	1,087,871
Bad debt expense		(102,189	)		1,437,949
R eceivables written off during the periods		(1,678,856	)		(252,792	)
Effect of currency translation		313,174			(144,576	)
Allowance for doubtful accounts at the end of the period	$	660,581		$	2,128,452

Inventory

Inventory is carried at the lower of cost or market, as determined on the

first

-in,

first

-out method.

Property and Equipment

Property and equipment are stated at cost. Expenditures for major renewals and betterments that extend the useful lives of property and equipment are capitalized, upon being placed in service. Expenditures for maintenance and repairs are charged to expense as incurred. Depreciation is computed for financial statement purposes on a straight-line basis over the estimated useful lives of the assets, which range from

three

ten

years (See Note

Long-Term Investments

Investments in non-consolidated companies are included in long-term investments in the consolidated balance sheet and are accounted for under the cost method and equity method. For these non-quoted investments, we regularly review the assumptions underlying the operating performance and cash flow forecasts based on information requested from these privately held companies. Generally, this information

may

be more limited,

may

not

be as timely as and

may

be less accurate than information available from publicly traded companies. Assessing each investment's carrying value requires significant judgment by management. If it is determined that there is an-other-than-temporary decline in the fair value of a non-public equity security, we write-down the investment to its fair value and record the related write-down as an investment loss in the consolidated statement of operations.

Intangible Assets

Definite life intangible assets include patents. The Company accounts for definite life intangible assets in accordance with Financial Accounting Standards Board, (“FASB”) Accounting Standards Codification, (“ASC”) Topic

350,

“Goodwill and Other Intangible Assets” and amortized the patents on a straight line basis over the estimated useful life of

two

ten

years.

Goodwill

-- Goodwill is evaluated for impairment annually, and whenever events or changes in circumstances indicate the carrying value of goodwill

may

not

be recoverable. Triggering events that

may

indicate impairment include, but are

not

limited to, a significant adverse change in customer demand or business climate that could affect the value of goodwill or a significant decrease in expected cash flows.

Revenue Recognition and Sales Incentives

The Company accounts for revenue recognition in accordance with the Securities and Exchange Commission Staff Accounting Bulletin

No.

101,

“Revenue Recognition in Financial Statements” (SAB

101

), FASB ASC

605

Revenue Recognition. The Company recognizes revenue when rights and risk of ownership have passed to the customer, when there is persuasive evidence of an arrangement, product has been accepted, shipped or delivered to the customer, the price and terms are finalized, and collections of resulting receivable is reasonably assured. Products are primarily shipped FOB shipping point at which time title passes to the customer. In some instances the Company uses common carriers for the delivery of products. The Company's revenue arrangements with its customers often include early payment discounts and such sales incentives are recorded against sales.

The Company has received long-term contracts for

grants from government entities for development and use of silicon carbide membranes in various water filtration and treatment applications and historically in the installation of various water filtrations systems. Revenues from long-term contracts and grants are recognized on the percentage-of-completion method, measured by the percentage of project costs incurred to date to estimated total project costs for each long-term contract or grant multiplied by the long-term contract or grant income on a project by project basis. This method is used because management considers costs incurred to be the best available measure of progress on contracts in process.

Project costs of the long-term contracts and grants include

all direct material and labor costs and those indirect costs related to the project. Project costs are capitalized and accreted into cost of sales based on the percentage of the project completed. Should a loss be estimated on an incomplete project it would be recorded in the period in which such a loss is determined. Changes in estimated profitability of a project are recognized in the period in which the revisions are determined. The aggregate of costs incurred and income recognized on incomplete projects are recorded as costs in excess of billings and are shown as a current asset. The aggregate of billings in excess of related costs incurred and income recognized on projects is shown as a current liability.

In Denmark, Value Added Tax (“VAT”) of

25%

of the invoice amount is collected in respect of the sales of goods on behalf of tax authorities. The VAT collected is

not

revenue of the Company; instead, the amount is recorded as a liability on the balance sheet until such VAT is paid to the authorities.

Advertising Cost

Costs incurred in connection with advertising of the Company’s products is expensed as incurred. Such costs amounted to

$16,350

and

$14,504,

for the years ended

December 31, 2017

and

2016,

respectively.

Research and Development Cost

The Company expenses research and development costs for the development of new products as incurred. Included in operating expense for the years ended

December 31, 2017

and

2016

were

$536,848,

and

$626,147,

respectively, of research and development costs.

Income Taxes

The Company accounts for income taxes in accordance with FASB ASC Topic

740

Accounting for Income Taxes. This statement requires an asset and liability approach for accounting for income taxes.

Income (Loss) Per Share

The Company calculates earnings (loss) per share in accordance with FASB ASC

260

Earnings Per Share. Basic earnings per common share (EPS) are based on the weighted average number of common shares outstanding during each period. Diluted earnings per common share are based on shares outstanding (computed as under basic EPS) and potentially dilutive common shares. Potential common shares included in the diluted earnings per share calculation include in-the-money stock options and warrants that have been granted but have

not

been exercised.

Stock Options and Awards

The Companies have granted stock options to certain key employees. See Note

13.

During the years presented in the accompanying consolidated financial statements, the Company has granted stock options and awards. The Company accounts for options in accordance with the provisions of FASB ASC Topic

718,

Compensation – Stock Compensation. Non-cash compensation costs of

$178,944

and

$435,794

have been recognized for the vesting of options and stock awards granted to employees with an associated recognized tax benefit of

$27,270

and

$26,407

for the years ended

December 31, 2017

and

2016,

respectively.

Fair Value of Financial Instruments

The Company accounts for fair value measurements for financial assets and financial liabilities in accordance with FASB ASC Topic

820.

The authoritative guidance, which, among other things, defines fair value, establishes a consistent framework for measuring fair value and expands disclosure for each major asset and liability category measured at fair value on either a recurring or nonrecurring basis. Fair value is defined as the exit price, representing the amount that would either be received to sell an asset or be paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or liability. As a basis for considering such assumptions, the guidance establishes a

three

-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value as follows:

●

Level

Observable inputs such as quoted prices in active markets for identical assets or

liabilities;

●

Level

Inputs, other than the quoted prices in active markets, that are observable either directly or indirectly; and

●

Level

Unobservable inputs in which there is little or

market data, which require the

reporting entity to develop its own assumptions.

Unless otherwise disclosed, the fair value of the Company

’s financial instruments including cash, accounts receivable, prepaid expenses, investments, accounts payable, accrued expenses, capital lease obligations and notes payable approximates their recorded values due to their short-term maturities.

Accounting Estimates

The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets allowance for doubtful accounts receivable, cost in excess of billings, reserve for obsolete inventory, depreciation and impairment of property plant and equipment and impairment of goodwill and liabilities billings in excess of cost commitment and contingencies, the disclosures of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the reporting period. Actual results could differ from those estimated.

Recent Accounting Pronouncements

-- On

May 28, 2014,

the Financial Accounting Standards Board ("FASB") issued ASU

2014

09,

"Revenue from Contracts with Customers," which changes the model used for revenue recognition. The FASB has also issued a few clarifying ASU's regarding this update. The standard will be effective for public companies with annual periods beginning after

December 15, 2017.

We have begun evaluating the impact this standard will have on our revenue recognition and we do

not

believe it will have a material impact on our business. The new standard requires companies to identify contracts with customers, performance obligations within those contracts, and the transaction price. Once those are identified, companies must allocate the transaction price among performance obligations so that revenue can be recognized when the performance obligation is satisfied. Currently we recognize revenue from air filters and liquid filters once a product has been shipped and have assessed these sales as having a single performance obligation and transitional price. We recognize revenue from certain liquid filtrations systems once the product has been shipped and installed and have assessed these sales as having a single performance obligation and transactional price. We recognize revenue from liquid filtration systems in the marine scrubber industry once product has been accepted or shipped as the customer is responsible for shipping and the installation, the commissioning of the system the Company performs after installation. Revenue allocated to commissioning has historically been immaterial to the financial statements. These sales will have multiple performance obligations under new revenue standard and will result in a portion of the revenue and cost being recognized once commissioning is completed. As the portion of revenue to be allocated to commissioning based on stand-alone selling price is

not

estimated to be material and is

not

expected to change revenue recognition materially under the new revenue standard.

February 25, 2016,

the FASB issued ASU

2016

02,

"Leases," which makes many changes to accounting for leases.

The standard will be effective for public companies with interim and annual periods beginning after

December 15, 2018.

One of

the most notable changes is many of the leases that are currently accounted for as operating leases will have to be capitalized and

accounted for similarly to how capital leases are currently accounted for, unless certain criteria are met. We have begun evaluating the impact this standard will have on our lease accounting. The standard will require us to capitalize a right of use asset and lease liability equal to the present value of the future minimum lease payments disclosed in Note

We will continue to evaluate the impact of this standard as the effective date approaches.

Other recent accounting pronouncements issued by the FASB did

not

or are

not

believed by management to have a material impact on the Company

’s present or future financial statements.