Glossary
What is a prepayment?
A prepayment is a cost paid in advance for a period that has not yet happened, such as annual insurance paid up front. It is held on the balance sheet as an asset and released to the profit and loss over the months it covers.
Also called: Prepaid expense
Spreading the cost this way means each month carries its own share, so a large annual bill does not make one month look expensive and the rest cheap. The release is often worked out by day over the period covered. The opposite case, a cost incurred but not yet billed, is an accrual.
How it is calculated
Release per month = total cost × days of the cover elapsed in the month ÷ total days covered.
Worked example
Example · illustrative figures
A business pays A$12,000 for annual insurance on 1 July, covering 12 months. In July (31 days of a 365-day cover), A$1,019 is released to the profit and loss and the balance sheet carries A$10,981. Each subsequent month releases its share, so the cost lands evenly rather than all in July.
How to read it
A prepayment sitting on the balance sheet is a cost waiting to happen. It reduces to zero as the cover period passes. If the cover is cancelled early, the remaining balance may need writing off or refunding.
Common mistakes
- Leaving a large annual cost in one month and not spreading it, which distorts monthly profit.
- Carrying a prepayment from a policy that has lapsed or been cancelled.
- Confusing a prepayment with a deposit, which may not be released to the P&L on a schedule.
How it shows in Nella
Nella spots bills that may be prepayments, and once you confirm the period, it spreads the cost by day and puts each month’s releases on one card for you to approve. See prepayment schedules in Nella.
Related
Nella provides financial information and education, not accounting or tax advice.
See it on your own numbers
Nella works these figures out from your books every month. Nella Pro is free for 60 days, no card, including the entries you approve posted to your books. After that, Nella Free keeps reading your books, with no time limit.
Start free