–Gives basics of what is a current asset, then move to what prepaid rent is and how businesses usually pay rent and give a small example of a prepaid rent scenario–we need to delete the image and add a new, improved version…just add this much before the already available text–
Prepaid rent includes the word rent. Therefore, you might be thinking that it is an expense, right? But, Prepaid rent is a current asset and not an expense.
Prepaid rent is recorded under current assets in the balance sheet because businesses often pay the rent before the due date, and it is utilized within a few months of its payment, usually within the same financial period. Let us break it down for you,
You can think of prepaid expenses as the costs that have been paid but are yet to be utilized. For example, prepaid rent, prepaid insurance, prepaid salaries, etc.
In the balance sheet, all the prepaid expenses that have not yet been consumed are recorded as current assets.
Accrual Vs Cash Basis
In the accrual basis of accounting, the expenses and revenues are recorded in the books when they are incurred or earned irrespective if the cash has been paid or received.
When you make the payment of rent before its due date, it is known as prepaid rent. Rent is usually paid in advance for multiple reasons, such as availing a discount, the landlord demanding a prepayment, etc. For a better understanding of the concept, have a look at the example given below.
Prepaid Rent Expense or Asset?
Example of Prepaid Rent
Company X signs an agreement to rent a warehouse for 1,000 per month from March for 7 months. The landlord demands payment of the total amount in February. The journal entries to be recorded are as follows:
|Feb||Prepaid Rent A/c||Debit||7,000||Debit the increase in asset|
|To Cash A/c||Credit||7,000||Credit the decrease in asset|
(Being rent paid before the due date)
|March||Rent A/c||Debit||1,000||Debit the increase in expense|
|To Prepaid Rent A/c||Credit||1,000||Credit the decrease in asset|
(Being prepaid rent adjusted as it expires)
Note: The total amount of rent 7,000 (1,000 x 7) is initially recorded in the balance sheet under current assets as prepaid rent. The reason for recording it as a current asset is that the rent which will be due at the end of each month is already paid for and the benefit is yet to be availed. Each month the prepaid rent account is reduced by the amount of rent paid for that month. The prepaid rent (asset account) will be reduced by 1,000 (7,000/7) each month and the amount shall be debited to rent (expense account) for each month.
Prepaid Rent Shown in the Balance Sheet
(Extract of the balance sheet)