Multiple Choice
Which statement most accurately describes the accounting treatment of prepaid expenses when preparing adjusting journal entries?
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3. Accrual Accounting Concepts
Introduction to Adjusting Journal Entries and Prepaid Expenses
Multiple Choice
Which of the following best describes the correct adjusting journal entry for prepaid expenses at the end of an accounting period?
A
Debit a prepaid asset account and credit a liability account
B
Debit a revenue account and credit a prepaid asset account
C
Debit an expense account and credit a prepaid asset account
D
Debit a prepaid asset account and credit an expense account
Verified step by step guidance1
Understand the concept of prepaid expenses: Prepaid expenses are payments made in advance for goods or services that will be consumed in future accounting periods. At the end of the accounting period, an adjusting entry is required to recognize the portion of the prepaid expense that has been used or expired.
Identify the accounts involved: Prepaid expenses are initially recorded as assets because they represent future economic benefits. As the benefit is consumed, the expense is recognized, and the prepaid asset account is reduced.
Determine the correct adjusting entry: To adjust for the portion of the prepaid expense that has been used, you need to debit the expense account (to increase the expense) and credit the prepaid asset account (to decrease the asset). This reflects the consumption of the prepaid benefit.
Avoid common misconceptions: Do not debit a prepaid asset account and credit a liability account, as this does not reflect the consumption of the prepaid benefit. Similarly, do not debit a revenue account and credit a prepaid asset account, as prepaid expenses are not related to revenue recognition.
Apply the adjusting journal entry: The correct adjusting journal entry for prepaid expenses is: Debit the expense account (e.g., Rent Expense) and Credit the prepaid asset account (e.g., Prepaid Rent). This ensures the financial statements accurately reflect the expense incurred during the period.
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