Thus, the monthly adjusting entry would appear as follows:Īdditional expenses that a company might prepay for include interest and taxes. At the same time, the company recognizes a rental expense of $4,000 on the income statement. Then, as each month ends, the prepaid rent balance sheet account is reduced by the monthly rent amount, which is $4,000 per month ($24,000/6 months). Either way, let’s say Company XYZ is prepaying for office space for six months in advance, totaling $24,000. The adjusting entry at the end of each month would appear as follows:īusinesses may prepay rent for months in advance to get a discount, or perhaps the landlord requires a prepayment given the renter’s credit. The monthly adjustment for Company ABC would be $12,000 divided by 12 months, or $1,000 a month. The company makes a debit to the appropriate expense account and credits the prepaid expense account to reduce the asset value.
Then, after a month, the company makes an adjusting entry for the insurance used. Image by Sabrina Jiang © Investopedia 2020 The initial entry, where we debit the prepaid expense account and credit the account used to pay for the expense, would look like this: The company pays for the policy upfront and then, each month, makes an adjusting entry to account for the insurance expense incurred. For example, Company ABC pays a $12,000 premium for directors and officers liability insurance for the upcoming year.
One of the more common forms of prepaid expenses is insurance, which is usually paid in advance.
Then, when the expense is incurred, the prepaid expense account is reduced by the amount of the expense, and the expense is recognized on the company’s income statement in the period when it was incurred. Businesses cannot claim a deduction in the current year for prepaid expenses for future years.
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