Prepayment
Also called: Prepaid expense
What is a prepayment?
A prepayment, or prepaid expense, is a cost paid this year that will be used next year.
It is taken out of this year's costs with a year-end journal: debit Prepaid expenses, credit the expense account.
Prepaid expenses is an asset. It is shown under current assets in the statement of financial position.
Example
On 1 September a business pays £1,800.00 for 12 months of insurance. Its year ends on 31 December, so 8 months have not been used. The prepayment is £1,200.00.
Why it matters
Costs belong to the year they are used, not the year they are paid. Without the prepayment, this year's costs are too high and profit is too low.
Practise it
Module, 5 rooms, all freeAccruals and prepayments
Practise it nowThe accruals idea: match costs to the year
Ledger Drill is practice, not tax or accounting advice. If this looks wrong, tell us at [email protected].