What is a deferred expense?

A deferred expense is not yet an expense, even though it has already been paid. The deferred expense is reported on a company’s balance sheet until it becomes an expense in a future accounting period.

Paying the insurance premium prior to the start of the coverage period gives rise to a deferred expense. For example, if a retailer pays $6,000 on December 26, 2006 for the cost of insurance from January 1 through June 30, 2007, the $6,000 is a deferred expense until the year 2007. This deferred expense of $6,000 will be reported on the retailer’s balance sheet of December 31 as the current asset, Prepaid Insurance. In January, when one month of the insurance premium expires (is used up), the retailer’s January income statement should report $1,000 (one-sixth of $6,000) as Insurance Expense. The remaining $5,000 of deferred expense will be reported on the January 31 balance sheet. In each of the following five months the retailer will report $1,000 as Insurance Expense. The deferred expense on the balance sheet will decrease by $1,000 per month.

The insurance company that receives the $6,000 in December 2006 will have deferred revenue until 2007. (On its December 31 balance sheet, the insurance company will report the $6,000 of deferred revenue in a current liability account.) Beginning in January the insurance company will report premium revenue of $1,000 per month and it will reduce its deferred revenue by the same amount.

Learn about Adjusting Entries.