For example, insurance is a prepaid expense because the purpose of purchasing insurance is to buy proactive protection in case something unfortunate happens in the future. Adjusting entries for prepaid expenses are necessary to ensure that expenses are recognized in the period in which they are incurred.ĭue to the nature of certain goods and services, prepaid expenses will always exist. They do not record new business transactions but simply adjust previously recorded transactions. Journal entries that recognize expenses related to previously recorded prepaids are called adjusting entries. #PREPAID EXPENSES ON BALANCE SHEET FULL#Therefore, it should be recorded as a prepaid expense and allocated out to expense over the full twelve months. Recording an advanced payment made for the lease as an expense in the first month would not adequately match expenses with revenues generated from its use. For example, if a large copying machine is leased by a company for a period of 12 months, the company benefits from its use over the full time period. Goods or services of this nature cannot be expensed immediately because the expense would not line up with the benefit incurred over time from using the asset.Īccording togenerally accepted accounting principles(GAAP), expenses should be recorded in the same accounting period as the benefit generated from the related asset. Unlike conventional expenses, the business will receive something of value from the prepaid expense over the course of several accounting periods.Ĭompanies make prepayments for goods or services such as leased office equipment or insurance coverage that provide continual benefits over time. Prepaid expenses are initially recorded as assets, but their value is expensed over time onto the income statement.
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