Prepaid Insurance: Is It an Asset or Owner’s Liability?

Harold Averkamp (CPA, MBA) has worked as a university accounting instructor, accountant, and consultant for more than 25 years. A financial professional will offer guidance based on the information provided and offer a no-obligation call to better understand your situation. Someone on our team will connect you with a financial professional in our network holding the correct designation and expertise. Our writing and editorial staff are a team of experts holding advanced financial designations and have written for most major financial media publications. Our work has been directly cited by organizations including Entrepreneur, Business Insider, Investopedia, Forbes, CNBC, and many others.

• Policyholders pay their full premiums for a specified period, often a year, before the insurance coverage becomes active.
• Inventories and prepaid expenses are not quick assets because they can be difficult to convert to cash, and deep discounts are sometimes needed to do so.
• Just pay the bill when it arrives, then rest easy knowing that you’re protected.
• In this case, assuming that the service represented by the asset expires equally each month, the Prepaid Insurance account must be reduced by $900.
• The business’s records would show four months of insurance policy as a current, prepaid asset.

We empower companies of all sizes across all industries to improve the integrity of their financial reporting, achieve efficiencies and enhance real-time visibility into their operations. To estimate the amount of a prepaid asset’s monthly benefit, divide the total cost of the asset by the number of months of benefits the asset represents. So, the allocation process is closely related to the term of service. Prepaid insurance is a current asset because its benefits are usually realized within one year of payment.

A company spending six or seven figures a year on insurance costs will want to count that cash as an asset until it’s actually used. In theory, they could cancel the insurance early and receive a huge cash refund. Prepaid insurance is an asset because it has a redeemable value, and it generates future economic benefits for the company. It is a current asset because the value of prepaid insurance will be used within a year, and usually companies prepay their insurance expenses for a year. Not only prepaid insurance but all other prepaid expenses are identified as current assets because they will be used or received in less than a year. These entries credit the prepaid insurance account and debit the insurance expense account in proportion to the portion of coverage utilized during the accounting period.

Prepaid Insurance: Definition, How It Works, Benefits, and Example

Other less common prepaid expenses might include equipment rental or utilities. Prepaid expenses aren’t included in the income statement per generally accepted accounting principles (GAAP). In particular, the GAAP matching principle requires accrual accounting, which stipulates that revenue and expenses must be reported in the same period as incurred no matter when cash or money exchanges hands. Thus, prepaid expenses aren’t recognized on the income statement when paid because they have yet to be incurred.

• So, the allocation process is closely related to the term of service.
• When you begin a construction project, you never intend for it to result in a lawsuit.
• When this happens, the insurance balance that will be used up in subsequent years is recorded as a non-current asset.

In exchange, the insurance company usually offers the customer a discount on the premium price, so the business saves money on the policy. At the end of each month, an adjusting entry of $400 will be recorded to debit Insurance Expense and credit Prepaid Insurance. Suppose that Smith Company, which has a yearly accounting period ending on 31 December, purchases a two-year comprehensive insurance policy for $2,400 on 1 April 2019. Continue reading to see examples of prepaid insurance and how it’s reflected on financial statements. Long-term assets are the assets that will be used for more than a year.

#1. Is prepaid insurance a long-term asset?

Prepaid insurance is commonly recorded, because insurance providers prefer to bill insurance in advance. If a business were to pay late, it would be at risk of having its insurance coverage terminated. This amount will be amortized over the next 12 months ($100 per month) and this entry will be recorded on your income statement. The bookkeeper would create an initial journal entry that debits the lump-sum amount to the asset account for prepaid insurance and a credit of the same amount from the asset account for cash. This lump-sum amount is then amortized into smaller payments depending on the policy’s original payment frequency, which is recorded on the business’s income statement.

Is prepaid insurance an asset? (

Monitor changes in real time to identify and analyze customer risk signals. Increase accuracy and efficiency across your account reconciliation process and produce timely and accurate financial statements. Drive accuracy in the financial close by providing a streamlined method to substantiate your balance sheet.

Recording Prepaid Expenses

Simply add it as a current asset as long as it’ll be used up within the year. Then subtract the appropriate portion off every accounting period — likely monthly, but possibly quarterly or annual. As the insurance coverage period progresses and a portion of the prepaid insurance is utilized, an adjusting entry is required. In this case, the company debits the “Insurance Expense” account and credits the “Prepaid Insurance” account.

The Best Auto Insurance Plans For 2020

However, due to the high-risk nature of construction, lawsuits are common. To protect against this potential financial impact, contractors need to carry adequate construction liability insurance. BlackLine partners with top global Business Process Outsourcers and equips them with solutions to better serve their clients and achieve market-leading automation, efficiencies, and risk control. By outsourcing, businesses can achieve stronger compliance, gain a deeper level of industry knowledge, and grow without unnecessary costs. It’s time to embrace modern accounting technology to save time, reduce risk, and create capacity to focus your time on what matters most.

In this case, the company’s balance sheet may show corresponding charges recorded as expenses. Prepaid insurance is an advance payment made by individuals or corporate organizations to insurance companies for various insurance coverage. Since this payment is usually made in advance, it is an asset to the individual or corporate organization that made the payment. An asset can be generally classified as either a current or non-current asset. Current assets are generally considered very liquid because they can be easily converted to cash; usually in less than 12 months. Non-current assets are long-term assets such as land which generally require over one year before they can be converted to cash.

Initially, this payment is noted as a debit to prepaid insurance and a credit to cash. As of November 30, the entire $2,400 is categorized as prepaid insurance. However, once the coverage period starts, an adjusting entry on December 31 will recognize $400 (one-sixth of $2,400) as an insurance expense, and an equivalent credit will be made to prepaid insurance. This results in a remaining prepaid insurance balance of $2,000, reflecting the unexpired coverage for the subsequent five months.

Our solutions complement SAP software as part of an end-to-end offering for Finance and Accounting. BlackLine solutions address the traditional manual processes that are performed by accountants outside the ERP, often in spreadsheets. Explore the future of accounting over a cup of coffee with our curated collection of white papers and ebooks written to help you consider how you will what is a unicorn business and how to create one transform your people, process, and technology. Your success is our success.From onboarding to financial operations excellence, our customer success management team helps you unlock measurable value. Through workshops, webinars, digital success options, tips and tricks, and more, you will develop leading-practice processes and strategies to propel your organization forward.