What is a deferred expense?

The term “deferred expense” is used to describe a payment that has been made, but it won’t be reported as an expense until a future accounting period.

For example, a corporation might spend $500,000 in accounting, legal, and other fees in order to issue $40,000,000 of bonds payable. Rather than charging the $500,000 to expense in the year that the bonds are issued, the corporation will “defer” the $500,000 to a balance sheet account such as Bond Issue Costs. If the bonds mature in 25 years, the corporation will charge $20,000 of the bond issue costs ($500,000 divided by 25 years) to expense each year. This accounting treatment does a better job of matching the $500,000 to the periods when the company will be earning revenues from the use of the $40,000,000.

Another example of a deferred expense is the $12,000 insurance premium paid by a company on December 27, 2005 for insurance protection from January 1 through June 30, 2006. On December 27, 2005 the $12,000 is deferred to the balance sheet account Prepaid Insurance. Beginning in January 2006 it will be expensed at the rate of $2,000 per month. Again, the deferral was necessary to achieve the matching principle.

As you can see from our examples, the word “deferred” overpowers the word “expense.” A deferred expense is reported on the balance sheet as an asset until it expires. As it is expiring, it will be moving from the balance sheet to the income statement where it will be reported as an expense. The entries involving deferred expenses are called adjusting entries.