A prepaid expense, or prepayment, is an amount paid now for goods or services the company will receive in later periods, such as a year of insurance paid upfront. It is recorded as an asset when paid and released to expense month by month as the cover is used.
What are prepaid expenses?
A prepaid expense is cash paid before the benefit is received. Common examples are insurance premiums, software subscriptions, maintenance contracts, licence fees and rent paid in advance. On the day of payment nothing has been consumed, so the payment is not yet an expense.
It is an asset instead. The IFRS Conceptual Framework (paragraph 4.3) defines an asset as a present economic resource the entity controls as a result of past events, and the right to a year of cover that has been paid for fits that definition. As each month passes, the part used up moves from the asset to the income statement. This is accrual accounting at work.
How are prepaid expenses accounted for?
- Record the payment as an assetDebit the prepayment account and credit the bank or payables, for the full amount paid.
- Set the scheduleNote the start date, the end date and the method: an equal amount each month, or by the days of cover in each month.
- Release each monthDebit the expense and credit the prepayment for the month’s share, as part of the month-end close.
- Reconcile the balanceAt month end the prepayment account should equal the unexpired cover in the schedule. A balance with no release for several months means an expense is being missed, or the cover has already ended.
Rent needs a check first. Under IFRS 16, a lessee generally recognises a right-of-use asset for a lease, and lease payments made at or before the start of the lease are part of that asset’s cost (paragraph 24), not a separate prepayment. Short-term leases and leases of low-value assets can be expensed instead (paragraphs 5 and 6). See IFRS 16.
What does a prepayment look like in the books?
Why do prepaid expenses matter for finance teams in the GCC?
Annual payments for insurance, licences, subscriptions and service contracts are a routine part of running a company, and each one can distort a month if it is expensed when paid. A missed release overstates profit and the asset; a payment expensed in one go understates the month’s profit. A prepayment schedule reviewed at every month-end close keeps both right.
Questions people ask
Is a prepaid expense an asset or a liability?
An asset, usually a current asset because most prepayments are used within a year. The mirror image, cash received before you deliver, is a liability: [deferred revenue](/glossary/deferred-revenue).
What is the difference between a prepaid expense and an accrued expense?
A prepaid expense is paid before the benefit is received, so it starts as an asset. An accrued expense is a benefit received before it is billed or paid, so it starts as a liability.
Should small prepayments be spread over months?
Many companies set a threshold below which a payment is expensed straight away, because the effect on any month is immaterial. Agree the threshold with your auditor and apply it consistently.
Official and primary sources, read on the date shown. Rules change: confirm with the authority or your adviser before you act.
- AASB Conceptual Framework for Financial Reporting (May 2019), which incorporates the IASB Conceptual Framework: paragraph 4.3, definition of an asset (read 9 October 2026)
- AASB 16 Leases (compiled November 2022), which incorporates IFRS 16: paragraphs 5, 6 and 24 (lease payments made at or before commencement) (read 9 October 2026)