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Hallo,
I am solving the following example:
On the first day of Month 1, a business had prepaid insurance of $10,000. On the first day of Month 8, it paid, in full, the annual insurance invoice of $36,000, to cover the following year.
What is the amount charged in the income statement and the prepayment shown in the statement of financial position at the year end?– I don’t understand, what is to have a prepayment on the 1st day of Month, is it that we’ve just made a prepayment or we made it before?
Then the answer says I/S = 36 000, B/S = 15 000, but I come up with different numbers, could you help?
I think I am skipping the 10 000, because if this was already made, now we just have a reversal entry in prepaid expense a/c, not in I/S, but probably it’s something else that they are doing.
Thank you!
I don’t know where you found the question, but assuming that you have copied it correctly then the answer is completely wrong!
As far as the prepayment at the end of the year is concerned, they paid for a year at the start of month 8. So months 8 to 12 (5 months) are in this year and the other 7 months are prepaid. So the prepayment at the end of the year is 7/12 x 36000 = $21,000.
The expense for this year is 36,000 (cash paid) + 10,000 (prepaid at the start of the year) – 21,000 (prepaid at the end of the year). So a total expense of $25,000 in the Statement of profit or loss.
(Or, if you prefer, the cost of the first 7 months is the 10,000 that was prepaid at the end of last year, and the cost of the remaining 5 months is 5/12 x 36,000 = 15000. So, again, a total expense for this year of $25,000.)
Check again that you have copied the question correctly, but assuming that you have, then the printed answer is rubbish!! (I hope you found the question somewhere else and not on this website 🙂 )
Yes, your solution is how I was thinking, and their answer is wrong. I found an explanation where they give the solution and it is like ours, so where they have typed the answer and where I have first looked at, was wrong. The question is not from this site, it’s from other materials.
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