Short and long-term classification of certain assets and liabilities (Part I)

2. Current and non-current portions of prepaid assets

As was mentioned earlier, the prepaid expenses balance consists of a premium paid in advance for insurance coverage. The following information pertains to the insurance:

Policy start date

8/1/20X3

Policy end date

7/31/20X6

Coverage period

3 years

Premium

$144

Premium payment date

8/1/20X3

The policy covers three (3) years or 36 months. A portion of the prepaid insurance is recognized as insurance expense every month. The monthly expense is $4 = $144 ÷ 36 months. As this policy provides coverage over more than a year from the end of the current fiscal year (12/31/20X3), only the portion of prepaid insurance that will be recognized as insurance expense over the next year (12 months) after 12/31/20X3 is considered current. The remainder is a non-current portion and should not be included in current assets on the balance sheet.

The following schedule shows the allocation (expending) of prepaid insurance over the policy coverage period:

Date

Month

Insurance
Expense

Prepaid
Insurance

Aug 20X3

0

$0

$144

Aug 20X3

1

4

140

Sep 20X3

2

4

136

Oct 20X3

3

4

132

Nov 20X3

4

4

128

Dec 20X3

5

4

124

Jan 20X4

6

4

120

Feb 20X4

7

4

116

Mar 20X4

8

4

112

Apr 20X4

9

4

108

May 20X4

10

4

104

Jun 20X4

11

4

100

Jul 20X4

12

4

96

Aug 20X4

13

4

92

Sep 20X4

14

4

88

Oct 20X4

15

4

84

Nov 20X4

16

4

80

Dec 20X4

17

4

76

Jan 20X5

18

4

72

Feb 20X5

19

4

68

Mar 20X5

20

4

64

Apr 20X5

21

4

60

May 20X5

22

4

56

Jun 20X5

23

4

52

Jul 20X5

24

4

48

Aug 20X5

25

4

44

Sep 20X5

26

4

40

Oct 20X5

27

4

36

Nov 20X5

28

4

32

Dec 20X5

29

4

28

Jan 20X6

30

4

24

Feb 20X6

31

4

20

Mar 20X6

32

4

16

Apr 20X6

33

4

12

May 20X6

34

4

8

Jun 20X6

35

4

4

Jul 20X6

36

4

0

Total

 

144

 

We can see in the table that the prepaid insurance balance started with $144 when the premium was paid in August 20X3. By the end of 20X3, $20 (i.e., $4 x 5 months) had been recognized as insurance expense leaving a prepaid insurance balance of $124 (this balance is highlighted in light blue in the table above).

The amount of insurance expense to be recognized over the following 12 months is $48 (i.e., $4 x 12 months), and these amounts are highlighted in light orange. The $48 is the current portion of the prepaid insurance balance because it will be amortized (i.e., “used”) within the next 12 months (i.e., from Jan to Dec 20X4).

The insurance expense to be recognized after that (after Dec 20X4) equals $76 (i.e., $4 x 19 months), and these monthly expenses are highlighted in light green in the table. These amounts represent the non-current (long-term) portion of the prepaid insurance balance because they will not be amortized (i.e., “used’) within the 12 months after the end of the current fiscal year. So, the $76 should be presented as a non-current asset on the balance sheet.

To summarize, based on the discussion above, the 12/31/20X3 prepaid balance of $124 should be split into the current portion (i.e., $48) and non-current portion (i.e., $76) and an adjustment should be made on the balance sheet.

The balance sheet with this adjustment is presented below. Note that a new element is now shown on the balance sheet for the long-term portion of the prepaid insurance balance. This element is presented after the property, plant and equipment line and is titled Other Assets (highlighted in yellow on the balance sheet below):

Friends Company
Consolidated Balance Sheet as of December 31, 20X3

ASSETS

Current assets:

 

   Cash and cash equivalents

$  3,300

   Accounts receivable

2,900

   Inventories

2,600

   Prepaid expenses

48

      Total current assets

8,848

Property, plant and equipment:

 

   Buildings

5,000

   Machinery, equipment

8,720

      Less: Allowance for depreciation

(5,500)

   Property, plant and equipment (net)

8,220

Other assets

76

      Total assets

17,144

LIABILITIES AND STOCKHOLDER'S EQUITY

Current liabilities:

 

   Accounts payable

1,600

   Accrued expenses

1,200

   Income taxes payable

900

   Deferred rents

153

      Total current liabilities

3,853

Long-term note payable

3,953

Stockholder's equity:

 

   Common stock

1,000

   Paid-in capital

1,850

   Retained earnings

6,488

      Total stockholder's equity

9,338

      Total liabilities and stockholder's equity

17,144

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