The balance of $1,500 in the Prepaid Insurance account represents the future benefits of the insurance policy, and the $900 balance in the Insurance Expense account represents the amount of benefits that have expired. Repeat the process each month until the rent is used and the asset account is empty. The value of the asset is then replaced with an actual expense recorded on the income statement. As a reminder, the main types of accounts are assets, expenses, liabilities, equity, and revenue. In small business, there are a number of purchases you may make that are considered prepaid expenses. The “Service Supplies Expense” is an expense account while “Service Supplies” is an asset.

Examples of journal entry for prepaid insurance

To answer this, let’s discuss the journal entry for prepaid insurance. Generally, Prepaid Insurance is a current asset account that has a debit balance. The debit balance indicates the amount that remains prepaid as of the date of the balance sheet. Organizations typically use a prepaid expense ledger to monitor the total amount of money spent on prepayments, when payments are due, and when they will be received. This helps ensure that companies are accurately accounting for their assets while also staying up-to-date with any upcoming liabilities.

• Create a prepaid expenses journal entry in your books at the time of purchase, before using the good or service.
• Prepaid insurance can be paid monthly, quarterly, or yearly depending on the insurance plan and policies as well as the company’s preference.
• A business may gain from prepaid expenses by avoiding the need to make payments for upcoming accounting periods.
• Understanding prepaid insurance and its journal entries is essential for accurate financial reporting.
• Prepaid assets represent the right to receive future services, while deferred revenue represents the right to receive future cash payments.
• In this article, we will explain what prepaid insurance is, why it is an asset, and how to adjust it over time.

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As the insurance gets used up, an adjusting entry for prepaid insurance is made to account for the reduction in assets and the resultant increase in expenses. This increase in expenses reflects in the company’s income statement within the accounting period when it has been used up. Rather, they provide value over time; generally over multiple accounting periods. The reason is that the expense expires as you use it, thus, you can’t expense the entire value of the prepaid service immediately. So when making a journal entry for prepaid insurance, you record the prepaid expense in your business financial records and adjust entries as you use up the service.

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For example, on September 01, 2020, the company ABC Ltd. pays $1,200 for one year of fire insurance which covers from September 01, 2020. The insurance used for December prepaid insurance journal entry adjustments will be reported as an Insurance Expense on December’s income statement. In this case, assuming that the service represented by the asset expires equally each month, the Prepaid Insurance account must be reduced by $900. However, the rights to these future benefits or services rarely last more than two or three years. My ability to bridge the technicalities of software engineering with the complexities of insurance coverage showcases my multidisciplinary approach.

Asset Method

You accrue a prepaid expense when you pay for something that you will receive in the near future. Any time you pay for something before using it, you must recognize it through prepaid expenses accounting. Prepaid expenses are recorded as an asset on a company’s balance sheet because they represent future economic benefits. The adjusting entry decreases the asset account and records an expense for the amount of benefits that have been used or have expired.

By making this journal entry, the company will be able to record the insurance expense which has been incurred already and the part of prepaid insurance which has now already retained earnings expired. However, since now interest expense is a part of the income statement, the journal entry will now affect the current asset section of the balance sheet, as well as the expense section of the income statement. Therefore, prepaid insurance needs to be adjusted over time to reflect the amount of insurance expense incurred in each accounting period.

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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. As the prepaid amount expires, the balance in Prepaid Insurance is reduced by a credit to Prepaid Insurance and a debit to Insurance Expense. This is done with an adjusting entry at the end of each accounting period (e.g. monthly). One objective of the adjusting entry is to match the proper amount of insurance expense to the period indicated on the income statement. To arrive at the $4,500 that is recorded as the quarterly adjusting entry for prepaid insurance on the delivery truck, the monthly insurance payment is multiplied by 3. In subsequent quarters, further adjusting entries for prepaid insurance will be made as each quarter ends and the insurance for that particular quarter expires.

• Notice that the amount for which adjustment is made differs under two methods, but the final amounts are the same, i.e., an insurance expense of $450 and prepaid insurance of $1,350.
• A company’s property insurance, liability insurance, business interruption insurance, etc. often covers a one-year period with the cost (insurance premiums) paid in advance.
• In this tutorial, we will delve into the concept of prepaid insurance, its journal entries, and work through examples to solidify your understanding.
• Generally, Prepaid Insurance is a current asset account that has a debit balance.
• To answer this, let’s discuss the journal entry for prepaid insurance.
• As the prepaid amount expires, the balance in Prepaid Insurance is reduced by a credit to Prepaid Insurance and a debit to Insurance Expense.

The original journal entry, as well as the adjusting entry and the relevant T-accounts, are illustrated below. This adjusting entry will be repeated at the end of May and June to recognize the insurance expense gradually over the quarter. This adjusting entry will be repeated at the end of each subsequent month to recognize the insurance expense gradually over the year.

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Regardless, the company must make adjusting entries to record insurance expense matched to each month and transfer it from Bookstime prepaid insurance to insurance expense account. At the payment date of prepaid insurance, the net effect is zero on the balance sheet; and there is nothing to record in the income statement. However, after adjusting entry at the end of the period for the insurance expense, the asset account will decrease while the expense account will increase.