![]() ![]() The most common form of an adjusting entry for prepaid expenses would be to create a current asset at the time of payment for the expense and charge it to the expense account over the accounting periods for which the benefit will be in place. Prepaid expenses (or deferred expenses) are expenses paid in cash and recorded as assets prior to being used. Other examples of prepaid expenses might be property taxes, advance rentals, or advance income tax installments. The balance of the advance premium payment is considered prepaid and it rests in a prepaid expense account until it has been entirely written off to expense. So, if the company has defined its accounting period as a calendar month and the policy period is for 12 months, then the company will charge the insurance amount to expense over the 12 months that it protects, usually by simply charging 1/12 of the total to expense each month. Proper accounting treatment, matching, and accrual concepts demand that the premium benefits all 12 months and should therefore be charged to profits over the benefit period, not just the month in which you paid the premium. The policy cover may extend many accounting periods and hence companies allocate the cost of that protection over the period of time that is being protected, based on the allocation per accounting period. For some businesses, insurance can be a very costly item. ![]() ![]() What are some examples of Prepaid Expenses?Įvery business buys insurance of various kinds to manage and mitigate risk and to buy insurance the organization needs to pay the premium to the insurance company, which is generally paid in advance, typically for a year at a time, and covers the organization for specified risks for the policy period. Prepaid expenses are expenses that have been paid in advance and therefore won't have to be paid again, in a way they create cash by enabling the company to avoid paying out towards the expense for the benefit period. Prepaid expenses are treated as current assets because the company has paid for something and someone owes services or goods in exchange in the future.Īlthough the prepaid expenses are generally classified as Current Assets in the balance sheet, however, it’s an unusual classification as prepaid expenses will never, except in rare cases, be turned into cash in the practical world. Because the advance payments are to obtain benefits for the organization over a period of time, the cost of these assets is charged against profits throughout the period, usually on a monthly basis. The payment is a current asset on the balance sheet and this amount paid is then amortized, as the consumption or utilization happens by charging proportionate amounts to expense accounts. Prepaid Expenses are the expenses that are paid before the time period in which the benefit will be consumed. What is the accounting treatment for prepaid expenses? Supplies, prepaid insurance, prepaid advertising, advance rental, advance tuition fee, and prepaid interest are some examples of prepaid expenses that may require adjustment at the end of an accounting period. These payments initially get recorded as assets but are expected to become expenses over time or through the normal operations of the business. Prepaid expenses, sometimes referred to as deferred expenses, are the amounts that have been paid in advance to a vendor or creditor for goods and services. ![]()
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