Auxiliary Standard Operating Procedures


SUBJECT:

Prepaid Expenses

SOURCE:

Auxiliary Accounting, Financial Management Services

DATE ISSUED:

April 2008

DATE OF LAST REVISION:

May 2013

ASOP NO:

20.0

RATIONALE:

Per Policy I-350, all University operations should be maintained and reports prepared on the accrual basis of accounting. In compliance with this policy, expenditures should be reported when goods or services are received or used. If expenditures are paid in advance of receiving the good or service, the unit should record a prepaid expense. This document provides guidelines for recording of prepaid expenses for auxiliary and service accounts.

ASOP:

Prepaid expenses are goods or services paid for in advance and recorded as assets on the Balance Sheet before their actual use.  While prepaid expenses are initially recorded as assets, their value is expensed on the Income Statement over time as the benefit is received.

 

Prepaid Expense Initial Setup:  A prepaid expense can be recorded initially as an asset or an expense. 

 

The following scenario is used to illustrate the two methods for recording a Prepaid Expense

 

An organization purchases an annual service contract for $12,000 in July (Period 01) for services to begin in August (Period 02).       

 

Example #1:  Prepaid Expense initially recorded as an asset.

 

Period 01 (July)

Object Code

Object Code Name

Debit

Credit

84XX/

Prepaid Expense

$12,000

 

8000

Cash

 

$12,000

 

Example #2:  Prepaid Expense initially recorded as an expense. If booked initially to a regular expense object code (4XXX/5XXX), which is what often occurs, it must be reclassified to a prepaid expense object code. 

 

Period 01 (July)

Object Code

Object Code Name

Debit

Credit

4xxx/5xxx

Expense

$12,000

 

8000

   Cash

 

$12,000

 

Then, the following auxiliary adjustment voucher must be entered to reclassify to a prepaid expense.

 

Period 01 (July)

Object Code

Object Code Name

Debit

Credit

84XX

Prepaid Expense

$12,000

 

4xxx/5xxx

Expense

 

$12,000

 

Recognition of Monthly Expense (from prepaid expense to regular expense):

 

At the end of each month, an auxiliary adjustment voucher is necessary to recognize the portion of prepaid expense that becomes actual expense because goods or services have been received. To continue from the above example, the prepaid balance as of July 31st is $12,000.  Starting in August (Period 02), the following entry will need to be done monthly.

 

Monthly Amount Calculation = (1/12 months) * $12,000 = $1,000

 

AVAD Monthly Entry

Object Code

Object Code Name

Debit

Credit

4xxx/5xxx

Expense

$1,000

 

84XX

Prepaid Expense

 

$1,000

 

The following table illustrates the monthly balances in prepaid expense and actual expense after the monthly entries have been completed:

 

Period

Prepaid Expense Balance

Actual Expense Balance

01 (July)

$12,000

$0

02 (August)

$11,000

$1,000

03 (September)

$10,000

$2,000

04 (October)

$9,000

$3,000

05 (November)

$8,000

$4,000

06 (December)

$7,000

$5,000

07 (January)

$6,000

$6,000

08 (February)

$5,000

$7,000

09 (March)

$4,000

$8,000

10 (April)

$3,000

$9,000

11 (May)

$2,000

$10,000

12 (June)

$1,000

$11,000

01 (July- Next FY)

$0

$12,000

 

Please note the combined total of prepaid and actual balances will always equal $12,000.  The prepaid balance should always represent the unused portion of the good or service as of the Balance Sheet date.

DEFINITIONS:

Prepaid Expense – Current Asset representing amounts paid for goods or services to be used at some future date. 

CROSS

REFERENCE:

 

Accrual Accounting FIN-ACCT- I-350

RESPONSIBLE

ORGANIZATION:

 

Auxiliary Accounting, Financial Management Services