In this regard, it is important to consider that prepaid expenses comprise expenses that have already been paid in advance by the organization compare to the amount the company has not yet utilized the product (or service). Prepaid Expenses are expenses that are paid more than the amount that the company owed. This can also be considered as an alternate form of cash (or cash equivalent), where the amount has been paid to the vendor providing that service. Therefore, it is recorded as a current asset. The payment for this particular service has already been paid for. Prepaid Expenses make the organization liable to receive a certain good or service. Prepaid Expenses are expenses that have been paid in advance, whereas accrued expenses are expenses that the organization owes. Prepaid Expenses and Accrued Expenses are the two categories of expenses that constitute expenses paid over (or under) the amount that was due for the particular year. In this case, accountants need to segregate the expenses into categories of expenses incurred in the current year and expenses that are supposed to be carried forward. This helps to capture the company’s profitability, over the given course of time, with much-needed accuracy.ĭuring the ordinary course of business, several transactions are taking place over the course of time, which is not really consistent with the amount of expenses incurred during that time frame. This is mainly done to match the revenues for a particular period with the subsequent expenses covered in the given time frame. Office supplies provide an example of a prepaid expense that does not appear on another company's books as unearned revenue.Īccounting records that do not include adjusting entries to show the expiration or consumption of prepaid expenses overstate assets and net income and understate expenses.Accrual-based accounting is used across all organizations today to apply the matching principle of accounting. Prepaid expenses in one company's accounting records are often-but not always-unearned revenues in another company's accounting records. After one month, she makes an adjusting entry to increase (debit) insurance expense for $300 and to decrease (credit) prepaid insurance for $300. Initially, she records the transaction by increasing one asset account (prepaid insurance) with a debit and by decreasing another asset account (cash) with a credit. At the end of each accounting period, adjusting entries are necessary to recognize the portion of prepaid expenses that have become actual expenses through use or the passage of time.Ĭonsider the previous example from the point of view of the customer who pays $1,800 for six months of insurance coverage. For example, office supplies are considered an asset until they are used in the course of doing business, at which time they become an expense. Prepaid expenses are assets that become expenses as they expire or get used up. Inventory Errors and Financial Statements.Inventory Systems: Perpetual or Periodic.Recording Notes Receivable Transactions.Subsidiary Ledgers and Special Journals. PREPAID EXPENSES UPDATEThe Work Sheet When Closing Entries Update Inventory.Closing Entries for a Merchandising Company.Inventory Adjustments on the Work Sheet.Financial Statements for a Merchandising Company.The Cost of Goods Available for Sale and the Cost of Goods Sold.Net Purchases and the Cost of Goods Purchased.Generally Accepted Accounting Principles.
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