Any remaining prepaid portion of the premium could be refunded to the business if the policy is cancelled before the period covered by those premiums expires. But wait—what if you decide to be extra cautious and prepay for a period longer than a year? In that case, the portion of prepaid insurance not used within one year hops over to the long-term asset section. Imagine ABC Company decides to insure its truck and pays $1,200 for a one-year policy on December 1, 2022.

• You would initially debit the Prepaid Insurance account for $2,400 and credit the Cash account for $2,400.
• The company must continue to make appropriate journal entries to apportion the prepaid insurance expense according to the time period during which the expense will continue to accrue.
• It is a journal entry reflecting insurance premium the business has paid in advance.
• Likewise, the company can make insurance expense journal entry by debiting insurance expense account and crediting prepaid insurance account.
• This means the company should record the insurance expense at the period end adjusting entry when a portion of prepaid insurance has expired.

Examples of Adjusting Entries for Prepaid Insurance

Before we get too carried away with adjustments, let’s revisit the initial journal entry when you first pay for the insurance. So, let’s save ourselves the embarrassment (and legal troubles) by understanding how to adjust entries for prepaid insurance properly. Regularly verifying the Prepaid Insurance account balance ensures financial statement accuracy. This reconciliation involves comparing the general ledger balance to supporting documentation, confirming the reported asset value reflects the remaining unused coverage. So, you thought handling your business finances would be as simple as keeping track of your coffee expenses?

• Now, you might be thinking, “Can’t I just forget about adjusting entries and call it a day?
• When the company makes an advance payment for insurance, it can make prepaid insurance journal entry by debiting prepaid insurance account and crediting cash account.
• The balance in the account Prepaid Insurance will be the amount that is still prepaid as of the date of the balance sheet.
• Of the total six-month insurance amounting to $6,000 ($1,000 per month), the insurance for 4 months has already expired.

Introduction to Adjusting Journal Entries and Prepaid Expenses: Videos & Practice Problems

Essentially, adjusting entries help align the recorded amounts with the actual economic events that have occurred. They don’t give you value right away; instead, they spread their goodness over time, usually across several accounting periods. It’s like buying a year-long gym membership—you can’t claim you got all buff on day one (we wish!).

Adjusting Journal Entries:Prepaid Expenses (Accrual Accounting Method) Video Summary

The balance at the end of the accounting year in the asset Prepaid Insurance will carry over to the next accounting year. When a portion of prepaid insurance expires, it becomes an expense for the business and must be recorded accordingly. The prepaid insurance expired journal entry needs to be posted each period when a portion expired. By making these adjusting entries at the end of each accounting period, companies can accurately reflect the utilisation of their prepaid insurance and maintain proper financial reporting. Prepaid insurance is considered an asset because it benefits future accounting periods. It relieves businesses of the monthly premium expense, reducing their costs while conferring the benefit of having coverage.

Earned but Unbilled Fees: Accounting Treatment and Financial Reporting

However, Accounts Receivable will decrease whenever a customer pays some of the amount owed to the company. Prepaid insurance is like prepaying for a year’s worth of Netflix but in the business world. You pay an insurance company upfront to cover your assets—be it buildings, equipment, or that questionable art piece in the lobby. The same adjusting entry must be recorded as of the last day of January, February, March, April, and May.

At this point, the expired portion of the prepaid insurance expense is moved from the current asset account to the income statement under expenses as insurance expense. The adjusting entry for prepaid insurance depends on the initial journal entry method used. Under the asset method, a prepaid expense account (an asset) is recorded when the amount is paid. In contrast, under the expense method, the entire payment is initially recorded as an expense. Regardless of the method chosen, the goal of the adjusting entries is to ensure that the incurred or expired portion is treated as an expense, while the unused part remains in assets.

The debit entry to insurance expense will result in adding the expenses whereas credit to the prepaid expense account will result in decreasing the current asset. Therefore, the providers of medical insurance usually insist on being paid in advance. As a result, a company must record an insurance payment at the end of one month as prepaid insurance and then charge it to adjusting entries for prepaid insurance expense in the next month, to which the payment relates. The income statement account Insurance Expense has been increased by the $900 adjusting entry. It is assumed that the decrease in the amount prepaid was the amount being used or expiring during the current accounting period. The balance in Insurance Expense starts with a zero balance each year and increases during the year as the account is debited.

It typically lists each policy, its premium, coverage dates, amounts previously expensed, the current period’s expense, and the remaining unexpired premium. The sum of the unexpired premiums from this schedule should match the Prepaid Insurance account balance in the general ledger. For example, a $12,000 payment for a one-year policy results in a $12,000 debit to Prepaid Insurance and a $12,000 credit to Cash. This entry reflects the exchange of one asset (cash) for another (the right to future insurance).

It is gradually charged to expense as it is used because the expense accrues over time. We can also see entries like prepaid health insurance journal entry and learn the expired portion of prepaid insurance. Businesses often pay for insurance coverage in advance, securing protection for future periods. In accounting, these prepayments are recorded as an asset called prepaid insurance, rather than being immediately expensed. Properly handling these entries ensures financial statements accurately reflect a company’s financial position.

When a company pays for insurance in advance, this is initially recorded in the balance sheet as a prepaid insurance asset. This is done by debiting the prepaid insurance account and crediting the cash or bank account. As the insurance period begins and the company starts to use the insurance, the prepaid insurance asset is gradually reduced and charged to expense. This is done by making adjusting entries at the end of each month or accounting period.