Insurance expense represents a payment for an insurance premium relating to a business policy. Many types of insurance policies are common in business. General liability, executive life insurance, building, equipment and other types are available to companies. Insurance expense has a normal debit balance, as it is an expense account. Companies will typically debit the expense and credit cash every time they pay their insurance premium. Companies can also have prepaid insurance, which occurs when they pay an insurance policy in full.
Prepaid insurance is a current asset, reported on a company’s balance sheet. When a company purchases an insurance policy in full — such as 12 months —, it will debit the prepaid insurance account and credit the company’s cash account. This reflects that a portion of the insurance policy has remaining useful life. Accurate reporting requires companies to list the policy as an asset and expense each portion paid throughout the policy’s lifetime. The insurance expense is, again, the monthly premium value expensed against the policy.
The journal entry for prepaid insurance is similar to the standard entry for insurance expense. When recognizing the expense for a prepaid insurance policy, accountants will debit an expense account and credit prepaid insurance. Companies will recognize insurance expense each month using this process, creating an even flow of expenses and net income. This entry is most common for those companies using the accrual accounting method.
Current assets represent items a company expects to use in the next 12 months. They are often the most liquid assets a company owns, meaning the business can convert the assets to cash quickly. Common current assets include cash, accounts receivable, inventory and prepaid expenses. Insurance policies are often one of the most common prepaid expenses. Companies will purchase an insurance policy as part of their risk-management plans, expecting a future need for cash in case of an unfortunate event.
Companies may have multiple insurance expense accounts. This provides clarity on the amount expensed each month for each insurance policy, i.e. general liability or vehicle. Stakeholders often prefer to see these expenses separate so they can determine how much each policy offers for unplanned events. Even though multiple expense accounts may exist, companies may only use one prepaid insurance asset account. The use of one asset account is possible, as each prepaid insurance policy is an asset and rarely needs separation on the company’s general ledger to determine the value of each policy.