As a business owner, you might make a decision to prepay your company insurance premiums. If you use an accrual basis accounting method, learn how prepayment affects your assets and expenses so you can report the transaction appropriately on financial statements.
Calculate your monthly premium cost. For example, if you purchase 12 months of insurance, divide your lump sum payment by 12 to determine the cost of one month’s insurance premium. For example, if you spend $1,200 for the 12-month policy, your monthly cost is $100.
Record the expense for one month’s insurance on your statement of cash flows as an insurance expense. For example, if you determined the cost per month is $100, record $100 as your insurance expense. Do not record the $1,200 you initially pay as an expense on the statement of cash flows.
Deduct the monthly cost from the total prepaid amount. In this scenario, the result is $1,100 ($1,200 prepaid insurance minus $100 monthly cost). Record the result as a current asset on your business balance sheet. This is called an adjusting entry.
Continue to perform your adjusting entries. Record your monthly expense month-by-month on your statement of cash flows. Deduct your new expense from your current asset balance. After 12 months the expense for prepaid insurance is fully accounted and your current asset balance for prepayments is at zero.