In the context of adjusting journal entries for prepaid expenses, prepaid insurance is reported on the balance sheet as a:

• A. Current liability
• B. Current asset
• C. Contra-asset
• D. Operating expense

Answer: (B)

Verified step by step guidance

1. Understand the nature of prepaid expenses: Prepaid expenses are payments made in advance for goods or services to be received in the future. Since the benefit of these payments will be realized over time, they are initially recorded as assets.
2. Identify the classification of prepaid insurance: Prepaid insurance represents insurance premiums paid in advance. Because the company has the right to insurance coverage in the future, this prepaid amount is considered an asset until it is used up.
3. Determine the correct balance sheet category: Since prepaid insurance will provide future economic benefits within the operating cycle (usually within one year), it is classified as a current asset on the balance sheet.
4. Understand why it is not a liability or contra-asset: A liability represents an obligation to pay, which prepaid insurance is not. A contra-asset reduces the value of an asset account, which prepaid insurance does not do. Instead, it is an asset itself.
5. Recognize the adjusting entry impact: Over time, as the insurance coverage is consumed, an adjusting journal entry will debit insurance expense and credit prepaid insurance, reducing the asset and recognizing the expense.