What are Prepaid Expenses?

• A. Long-term investments.
• B. A current asset consisting of goods, benefits or services a business buys or rents in advance of use. Supplies, insurance and office rent are some examples.
• C. A liability for future payments.
• D. Accounts receivable.

Answer: (B)

Prepaid expenses are payments made in advance for goods or services that will be used in the future. They are recorded as a current asset because the benefit hasn’t yet been consumed. Over time, as the service is used or the goods are received, the asset is reduced and an expense is recognized. For example, paying an annual insurance premium upfront creates a prepaid expense; each month you recognize part of that cost as an insurance expense and decrease the asset. The same logic applies to rent paid in advance or supplies bought before use. They aren’t long-term investments, liabilities, or accounts receivable, because prepaid expenses represent future benefits you’ve already paid for, not amounts owed or owed by others.