Prepaid Expense
Definition
A prepaid expense is a cost paid in advance for goods or services the business will use in future periods. It is an asset until the benefit is used up.
Example
A business pays $1,200 for 12 months of insurance. Each month, $100 moves from Prepaid Insurance (an asset) to Insurance Expense.
Why It Matters
Recording the full prepaid as an expense all at once overstates expenses in that month and understates them in future months.