If a company records prepayment of expenses in an asset account, the adjusting entry when all or part of the prepaid asset is used or expired would:
A) Result in a debit to a liability and a credit to an asset account.
B) Decrease cash.
C) Result in a debit to an expense and a credit to an asset account.
D) Cause an accrued liability account to exist.
E) Cause an adjustment to prior expense to be overstated and assets to be understated.

Question

Quizplus · Accepted Answer

When a prepaid expense is used or expired, an adjusting entry is made by debiting the expense account and crediting the asset account that was originally debited when the prepayment was recorded. This is because the prepayment asset has been consumed, and the expense should be recognized in the period it relates to. Option A is incorrect because recording a debit to a liability account is only appropriate when a liability has been incurred but not yet paid. Option B is incorrect because it implies that the adjustment affects cash, which is not true. Option D is incorrect because an accrued liability account is created when an expense has been incurred but not yet recorded, which is not the case here. Option E is incorrect because it suggests that the adjustment would result in an overstatement of expenses and an understatement of assets, which is not the case.

If a Company Records Prepayment of Expenses in an Asset