Unexpired insurance happens because businesses pay a lot of insurance in advance. Say that on January 1, you prepay the auto insurance on your company vehicles for the next six months. At the end of April, you'll have four months of expired insurance payments and two months of unexpired insurance.
When you prepay insurance, you record it in your accounts as an asset. Every month, some of that insurance expires, so you write down the asset and record an insurance expense. The amount that remains at the end of the month is your unexpired insurance.
Prepayment for insurance is a normal part of both business and private life. If you do not pay an insurance premium, your insurer may decide to cancel your policy, which could be disastrous. Paying in advance avoids that risk.
This applies to most of the insurance you pay as a business owner, such as property, liability, auto, workers' compensation and health coverage for employees and yourself. All of these usually get paid in advance.
This creates a special situation in accounting, though. When you buy a new printer or an office chair, there's a straight exchange of cash for assets. If you pay for, say, July's insurance in April, you're buying an asset that doesn't yet exist.
For an insurance expense example, imagine that when you start your business on November 1, you pay for an errors and omissions insurance policy for $840, covering the entire coming 12 months at $70/month.
To make an unexpired insurance journal entry, you record it in your accounting journal as a prepaid asset: $840 in the prepaid insurance asset account. You also make an $840 credit to the cash account.
When December rolls around, you've used up one month of insurance with 11 months to go, so you make a new unexpired insurance journal entry. The prepaid insurance account drops to $770 and you debit insurance expense by $70.
You also report unexpired insurance in your financial statement. Amounts are based on the unexpired insurance journal entry for the end of the reporting period when you make up your statements.
On the income statement, you report the amount of insurance that expired during the period as an expense. In the insurance expense example above, the income statement for the end of the year would include two months of insurance premiums equal to $140 total.
On the balance sheet for the end of the year, you'd still have 10 months of unexpired insurance to report. You record unexpired insurance in this financial statement as an asset. With $700 worth of unexpired insurance, you'd report a $700 prepaid insurance asset.
The insurance expense example is only one of the possible prepaid expenses with which you may deal in business. It's common to prepay rent as well, for instance. You'd follow the same approach for unexpired rent as you do for insurance: Report the unexpired portion as an asset and shift that to expenses as you use it up.
You may run across a prepaid expense situation where the amount you're prepaying is relatively small. Rather than go to the trouble of making an unexpired expense or unexpired insurance journal entry, simply record the small prepaid expense as an expense from the start. You can do this with larger prepayments when the unexpired amount has dwindled to insignificance.
How small do unexpired expenses have to be? This is a judgment call. What's important is that you treat all unexpired expenses the same way. Your company should lay down a formal accounting policy establishing the cutoff point so you can be consistent.