[Anonymous]

Hi All,

I just encountered the below accounting question related to prepaid expense. I am not 100% sure which method is the correct GAAP method.

If a company have a $120,000 prepaid insurance that cover the period from January 2017 thru December 2017, we are doing the month end closing for April 2017. what is the proper GAAP accrual accounting treatment of this prepaid in April 2017? Total invoice balance was paid in May 2017.

Option 1. Debit Prepaid insurance $120,000
Credit Accrued expenses $120,000

Debit Insurance Expense $40,000
Credit Prepaid Insurance $40,000

The above entries have overstated the prepaid account since cash was not paid yet. The accrued expenses account is also overstated because it is recording future liability. However, both of them nets out each other.

Option 2. Debit Insurance Expense 40,000
Credit Accrued Expense 40,000
The remaining $80,000 would not be recorded to prepaid insurance until cash was paid in May 2017. No cash was paid in April 2017, so no prepaid was recorded.

Thanks,

[Missy]

It's not a prepaid expense if it hasn't been paid until May.

In April you'll debit insurance expense 40k and credit accrued LIABILITIES 40k.

Then when you pay the 120 in May you'll debit accrued liabilities 40k, debit prepaid insurance 80k and credit cash 120k.

End of May you'll expense another 10k.

Licensed Massachusetts Non Reporting CPA since 2012
Finance/Admin/HR Manager

[Anonymous]

If the AP department just entered the invoice in April 2017, the payment wasn't made until May 2017. isn't that effect the same as option one? Since AP would need to code the debit balance to a prepaid or expense account, the credit would be accrued liability.

[Missy]

That's correct if the entire bill is entered it goes to prepaid and the offset is accounts payable.

Licensed Massachusetts Non Reporting CPA since 2012
Finance/Admin/HR Manager

[Author]

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