Hi all,

I have a question related to adjusting entries that I could not figure out. Could you please help me out?

The question is:
Prepare adjusting entries at 12/31/09
A 3 year fire insurance policy was purchased on 07/31/09 for $12,000. The company debited insurance expense for the entire amount.

For this my answer is:
Insurance Expense: DR 2000
Prepaid Insurance: CR 2000

However, the solution is different and I could not figure out the logic to come up with the logic to solve it. Could you please give me a hint? My guess is that because the company was wrong when debited insurance expense while they should do the opposite way. But I am not sure. Please help me.


Thanks so much in advance!!

My bad! My answer is:
Prepaid Insurance: DR 2,000
Insurance Expense: CR 2,000

It seems like if the entire amount is credited for insurance expense, my answer is the right one, isn't it? But I just don't know how to do for the "debited" case. Any hints or comments will be deeply appreciated.

You need to figure out how much insurance was used during the period. This amount is what should be in the Expense account. The rest of the amount in this account needs to be transferred to PrePaid Insurance account.

The journal entry to do this is:
Debit Prepaid Insurance for the unexpired Insurance
Credit Insurance Expense for the unexpired insurance.

Thanks so much for your help. However, I am still unclear about this subject. Let consider these 2 problems

1. A 3-year fire insurance policy was purchased on 07/31/09 for $12,000. The company debited insurance expense for the entire amount.

2. On 11/1/09, the company paid its landlord $6,000 representing rent for the months from November through January. Prepaid rent was debited.

Why in (1) we will adjust for the unexpired amount of insurance but in (2) we adjust for the amount of rent used in during the year. Could you please help me out?

Thanks

Quote:

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Originally Posted by minhiub

Thanks so much for your help. However, I am still unclear about this subject. Let consider these 2 problems

1. A 3-year fire insurance policy was purchased on 07/31/09 for $12,000. The company debited insurance expense for the entire amount.

2. On 11/1/09, the company paid its landlord $6,000 representing rent for the months from November through January. Prepaid rent was debited.

Why in (1) we will adjust for the unexpired amount of insurance but in (2) we adjust for the amount of rent used in during the year. Could you please help me out?

Thanks

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Because in one you put the entire invoice to expense and in the other you put the entire invoice to pre-paid. In both you need to find the unused amount and make your pre-paid account equal this and offset to expense.

Please try again and let us know how you calculated your answers.

I think the right answer is:

Purchased on 07/31/09 Dr. Cr.
Original entry: Prepaid Insurance 12000
Cash 12000

Adjusting entries at 12/31/09:
Insurance Expense 2000
Prepaid Insurance 2000
In this case, Expense 2000 should be recognized,. 2000 is the deducted amount of insurance policy, the reason why adjusted entries shows the answer above rather than, Debit: Prepaid Insurance and Credit: Insurance Expense...

and if we use the adjusting entries:
Dr. Cr.
Prepaid Insurance 10000
Insurance Expense 10000

that would be the amount,it shows the remaining balance of the insurance policy that is not yet use by the business...


hope it will help... =)

where does the 10,000 come from? I am confused please explain I am studying for the CPA exam

Based on the original question where the total amount of insurance was expensed instead of being put in prepaid the $10,000 is the amount of insurance that was unexpired, which means that $10,000 was originally expensed has to be moved into Prepaid Insurance account.