![]() In January, the company records a journal entry to recognize 1/12 of the value of the insurance policy. This is fully a balance sheet transaction, as it does not involve any revenue or expense accounts that appear on the income statement. It simultaneously records an $18,000 credit to cash, which is also an asset account. When the business purchases the insurance policy in December, it records an $18,000 debit to prepaid expense, which is an asset account. InsuranceĪ business pays $18,000 in December for liability insurance covering January through December of the following year. Similarly, when a business signs a rental agreement with a landlord, it may include a stipulation to prepay a certain number of months' rent upfront. Many types of business insurance are paid as a lump sum in advance of a specific coverage period. Prepaid expenses usually provide value to a company over an extended period of time, such as insurance or prepaid rent. As the good or service is delivered, the asset's value is decreased, and the amount is expensed to the income statement. The business records a prepaid expense as an asset on the balance sheet because it signifies a future benefit due to the business. They usually relate to the purchase of something that provides value to the business over the course of multiple accounting periods. Prepaid expenses are amounts paid in advance by a business in exchange for goods or services to be delivered in the future.
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