Journal entry for amortization of prepaid insurance

Introduction

In accounting, we usually amortize the prepaid insurance that we have paid in advance in order spread the insurance cost over the period that it covers. In this case, we can make the journal entry for the amortization of the prepaid insurance by recording the expired cost of the insurance as an expense on the income statement.

At the same time, the amortization will also reduce the balance of the prepaid insurance on the balance sheet accordingly. Likewise, the journal entry for amortization of the prepaid insurance will increase total expenses on the income statement while decreasing the total assets on the balance sheet.

In accounting, amortization of certain assets on the balance sheet is usually done in order to make the total assets on the balance sheet have a better reflection of their net realizable value. In other words, it is usually done to prevent the overstatement of the total assets on the balance sheet as well as to avoid the understatement of the total expenses on the income statement.

The amortization of the prepaid insurance is usually required to be made for the same reason as the expired cost of the prepaid insurance that occurs through the passage of time means that the expense on the income statement has already occurred. And at the same time, the value of the prepaid insurance that we have recorded on the balance sheet has already decreased.

Journal entry for amortization of prepaid insurance

We can make the journal entry for the amortization of prepaid insurance by debiting the insurance expense account and crediting the prepaid insurance account.

Account	Debit	Credit
Insurance expense	$$$
Prepaid insurance		$$$

Similar to the rent expense, the insurance expense incurs through the passage of time in which the expense amount that incurs is the expired cost of the insurance. In other words, it is the expired portion of the prepaid insurance that we have recorded when we make the purchase of the insurance policy or insurance premium from the vendor.

Likewise, the insurance in this journal entry is usually the monthly expense of insurance that we can determine by dividing the total cost of the insurance that we have paid by the number of months that it covers.

Example for amortization of prepaid insurance

For example, on December 31, we have paid $12,000 for the insurance policy that covers the next year’s period, from January to December.

In this case, we can amortize the $12,000 prepaid insurance by dividing it by 12 months of the period that it covers. Hence, we will have the $1,000 of insurance expense that needs to be charged to the income statement for each month over the 12 months period of next year.

So, we can make the journal entry for the $12,000 prepaid insurance on December 31, by debiting this $12,000 into the prepaid insurance account and crediting the same amount to the cash account.

December 31:

Account	Debit	Credit
Prepaid insurance	12,000
Cash		12,000

And later, on January 31, we can make the journal entry for the amortization of the prepaid insurance that we have paid on December 31 by recording the $1,000 as an expired cost as below:

January 31:

Account	Debit	Credit
Insurance expense	1,000
Prepaid insurance		1,000

This journal entry will increase total expenses on the income statement by $1,000 as of January 31, as the result of the one-month expense cost of the insurance. And at the same time, it will decrease the total assets on the balance sheet by the same amount of $1,000 as the prepaid insurance has been reduced by $1,000 as of January 31.