Prepaid Rent Accounting Entry

On the 1 April it pays the next quarters rent in advance of 3,000 to cover the months of April, May and June. Upon prepaid rent accounting signing the one-year lease agreement for the warehouse, the company also purchases insurance for the warehouse. The company pays $24,000 in cash upfront for a 12-month insurance policy for the warehouse. The “interest” component in Year 2 is calculated by multiplying the outstanding lease balance of $68,279 by the 5% discount rate, totaling around $3,414.

An example of accounting for variable/contingent rent

Prepaid rent refers to payments made by a lessee for a lease period that has not yet occurred. This advance payment is common in lease agreements and requires specific accounting treatment. To summarize, rent is paid to a third party for the right to use their owned asset.

Trial Balance

Our work has been directly cited by organizations including Entrepreneur, Business Insider, Investopedia, Forbes, CNBC, and many others. However, the rights to these future benefits or services rarely last more than two or three years. The landlord requires that Company A pays the annual amount ($120,000) upfront at the beginning of the year. Chartered accountant Michael Brown is the founder and CEO of Double Entry Bookkeeping.

Prepaid Rent: Asset or Liability?

Instead, such an asset is recognized as part of the Right-of-use (ROU) Asset balance. We prepared this guide to address the topic of prepaid rent under ASC 842 with a step-by-step example. We will explain the rules and concept, provide a detailed amortization schedule, and walk through the treatment with journal entry examples. Our lease accounting software automates the majority of the lease accounting process, making this complicated necessity quicker, more accurate, and more compliant.

Real-World Example: Accounting for Prepaid Rent Under ASC 842

• Recent updates to lease accounting, including new standards ASC 842, IFRS 16, GASB 87, and SFFAS 54, have changed the accounting treatment for some types of leasing arrangements.
• The “interest” component in Year 2 is calculated by multiplying the outstanding lease balance of $68,279 by the 5% discount rate, totaling around $3,414.
• Prepaid rent, often classified as a current asset on the balance sheet, represents a future economic benefit for a company.
• However, from the landlord’s perspective, the prepaid amount represents a liability until the rental period occurs.
• It is important to note that in this calculation, the first period is accounted as ‘zero’ in the annuity/cash flow.
• The adjusting entry on January 31 would result in an expense of $10,000 (rent expense) and a decrease in assets of $10,000 (prepaid rent).

Prepaid rent is a common financial activity for businesses, reflecting payments made in advance for rental space. This accounting practice holds significance as it impacts both the balance sheet and cash flow statements of an entity. The treatment of prepaid rent can influence how stakeholders view a company’s financial health. Under accounting guidelines, rent expense belongs to the “selling, general and administrative accounts” category.

• In practice, prepaid rent may occur when lessees make rent payments in advance of the payment due date.
• If the lease payment is variable the lessee cannot estimate a probable payment amount until the payment is unavoidable.
• In this case, assuming that the service represented by the asset expires equally each month, the Prepaid Insurance account must be reduced by $900.
• When the periodic payments are structured so they can not be calculated without the occurrence of an event, such as a number of sales or units produced, the payments are not considered fixed rent.
• To avoid this, keep track of the contents of the prepaid assets account, and review the list prior to closing the books at the end of each month.
• The income statement, on the other hand, captures the systematic allocation of prepaid rent as an expense.
• If, for example, the space was used as a place to manufacture goods, the expense would then be listed as part of the cost of goods sold for the products produced.

How to Record Prepaid Rent Journal Entry: A Step-by-Step Guide

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How does an organization keep track of prepaid expenses?

Therefore, the entry on the liability side is a debit to Lease Expense for $3,251 and a credit to Lease Liability for the same amount. The entry for the ROU asset is a debit to Lease Expense for $33,469 and a credit to Right-of-use (ROU) Asset for the same amount to record the amortization. When booking journal entries, the difference (or plug) would be a credit to AP or Cash to account for the prepayment. All journal entries applicable to this scenario are illustrated in detail below. It is important to note that the above referenced entries are how Prepaid Rent was accounted for under ASC 840.