Prepaid Expense Examples

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Blog Author :

WallStreetMojo Team

Edited by :

Ashish Kumar Srivastav

Reviewed by :

Dheeraj Vaidya, CFA, FRM

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What Are Prepaid Expense Examples?

Prepaid expense examples list down the expenditure done in advance for the benefits or facilities used by an entity or individuals. The most common examples of prepaid expenses include rent, equipment paid for before use, salaries, taxes, utility bills, interest expenses, etc.

Prepaid-Expenses-Examples

These expenses mark payment for things that add value to a business over a period of time. These are recorded as an asset on the balance sheet of the companies as it offers a huge benefit to the entities in the future.

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Prepaid Expense Examples Explained

Prepaid Expenditure is an expense paid in one Accounting Year, but the same benefits are consumed more than once in the Accounting Year. Only Expenses that are due and incurred in one accounting year can be debited to Profit & Loss A/c. Rest all the payments made which relate to the future should be grouped under Prepaid Expenses in the Balance Sheet.

The following prepaid expense entry example outlines the most common prepaid expense. It is impossible to provide a complete set of examples that address every variation in every situation since there are thousands of such expenses. Prepaid Expense is future expenses that have been paid in advance. The most common examples of Prepaid expenses include Rent; Equipment paid for before use, Salaries, Taxes, utility bills, Interest expenses, etc.

Prepaid Expenses Explained in Video

 

Common Examples

Prepaid expenses refer to the payment made for the expenses that will happen in the future. E.g., salaries and taxes paid in advance, paying Rent before using any space for commercial purposes, any premiums for insurance of business, any interest/installment to be paid on using any hired equipment, any utility bills, etc.

Example #1

Suppose Company A has purchased Consulting Services from another Company B and makes the payment for the Fees for the same of 1 lac per year for the next 5 Years.

In this case, Company A will show 1 Lac as a yearly expense, and four lacs would be shown in the Asset side of Accounting as “ Prepaid Expense,” which subsequently be recorded as expenditure every year for the next 4 Years.

So the Journal Entry for the same will be –

prepaid expense example 1

Example #2

Suppose Company A pays Rent to the landlord of the Building on 31.12.2018 for the next 1 Year till 31.12.2019. The Company Follows the Financial Year of Accounting. The rental paid is 100,000 per month.

The Entire Money paid as Rent to the landlord will not be considered Expenses for FY 18-19. Instead, only Rent for the three months, i.e., Jan 19-Mar 19, will be booked as Expenses, and the remaining nine months of Rent will be shown as Prepaid Expenses under the head Other Current Assets on the Asset Side of the Balance Sheet.

Journal Entries

prepaid expense example 2

For FY 18-19

prepaid expense example 2.1

For FY 19-20 

prepaid expense example 2.2
prepaid expense example 2.3

Example #3

Suppose Company A pays Advance Salary to Mr. B for meeting his medical expenses for the next six months on 31.3.2019. Salary of Mr. B = 50,000 per month.

In this case, If Company A prepares his Annual Financial Statement as of 31st March 2019, they will record 50,000*6= 300,000 as Advance Salary paid to Mr. B under the heading “ Prepaid Expenses.” Therefore, they will be reflected under Other Current Assets in the Balance Sheet.

Journal Entries in A’s Books in FY 18-19

prepaid expense example 3.1

In FY 19-20

prepaid expense example 3.2

Example #4

Suppose Mr. A pays his Bike Insurance policy amount for two years to avail of the appropriate discount. Insurance Amt = 6,000 per year. Insurance is paid on 31.01.2019. Period of Insurance = 31.01.2019 to 31.01.2021.

In this case, Mr. A will record the two months payment as Insurance Exp for FY 18-19. The balance amount would be recorded as Prepaid Exp under Other Current Assets, which will be utilized in the next 2 Financial Years, respectively.

a. Journal Entries in FY 18-19

prepaid expense example 4.1
prepaid expense example 4.2

b. Journal Entries in FY 19-20

prepaid expense example 4.3
prepaid expense example 4.4

c. Journal Entries in FY 20-21

EX 4.5
EX 4.6

There will not be any balance in Prepaid Exp A/c since the Same has been fully utilized in the 2Years period.

Example #5

Telephone Expenses paid in Office Premises. Bill for the period 25-03-2019 to 24-04-2019

Since the Bill period goes into another month, in FY 18-19, only 7 Days of expenditure would be considered Telephone Expenses. The balance will be recorded as Prepaid Exp for April 2019. Bill amount 30,000

Journal Entries:

EX 5.1
EX 5.2

Example #6

Tax Liability of the Company via Advance Tax. The Projected Tax Liability of the Company is 1,00,000, and the same is paid in quarterly installments to the Income Tax authorities. After the Year-end, the Company assesses the Final Tax Liability based on the Profits earned during the year. As a result, the Final tax Liability comes out to be 1,20,000.

  • In this case, the quarterly estimated Tax paid by companies is as per the Projections and is made in advance of the Actual Tax Liability. Such Expenses are recorded as Advance Tax Paid under the Subhead Prepaid Expenses under Other Current Assets in the Balance Sheet and are adjusted when the Final Tax Liability is ascertained. Advance Tax amount = 1,00,000. Final Tax Liability 1,20,000
  • Advance Tax paid will be reflected in the Asset side of the Balance Sheet while preparing the monthly and Quarterly Financials. However, the same will be adjusted while determining the Final Tax Liability of the Company since part portion has already been paid.
  • Journal Entries while paying Advance Tax
EX 6.1
  • Journal Entries while paying Final Tax
Ex 6.2