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Difficulty: MediumAccrued and Prepaid Expenses

A business paid ₦144,000\text{₦}144,000 by bank transfer on 1 April 2025 for an annual insurance policy covering the period from 1 April 2025 to 31 March 2026. At 1 January 2025, the insurance account had an opening prepaid balance of ₦24,000\text{₦}24,000 for the period from 1 January 2025 to 31 March 2025. What amount (in ₦\text{₦}) should be debited to the Profit and Loss Account as insurance expense for the financial year ended 31 December 2025?

Answer: 132000 ₦

Answer

The insurance expense to be debited to the Profit and Loss Account for the year ended 31 December 2025 is ₦132,000.
Under the accrual concept, the Profit and Loss Account must reflect only expenses relating to the current accounting period (12 months from 1 January to 31 December 2025). The expense consists of 3 months from the opening prepayment (₦24,000) plus 9 months of the current year's policy payment (9/12 × ₦144,000 = ₦108,000), giving a total expense of ₦132,000.

Step-by-Step Solution

1
Identify cash paid and opening prepayment
Cash paid during the year = ₦144,000; Opening prepayment at 1 January 2025 = ₦24,000.
Opening prepayment represents an expense incurred in the current accounting year that was paid for in advance in the prior year.
2
Calculate the closing prepayment at 31 December 2025
Closing prepayment = 3/12 × ₦144,000 = ₦36,000.
The policy payment of ₦144,000 covers 12 months (1 April 2025 to 31 March 2026), leaving 3 months (January to March 2026) prepaid at year-end.
3
Compute the insurance expense for the Profit and Loss Account
Insurance Expense = ₦144,000 + ₦24,000 - ₦36,000 = ₦132,000.
Applying the accrual principle matches the exact 12-month expense incurred (3 months from opening prepayment + 9 months from current payment) to the 2025 financial period.

Key Concept

Accrual concept treatment of opening and closing prepayments for expense accounts
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Topics

Accrued and Prepaid Expenses

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