Which of the following best describes how prepaid expenses are recorded in adjusting journal entries at the end of an accounting period?

• A. Prepaid expenses are increased and a revenue account is increased to reflect future benefits.
• B. Prepaid expenses are eliminated entirely from the books at the end of the period.
• C. Prepaid expenses are transferred directly to retained earnings without affecting any expense accounts.
• D. Prepaid expenses are reduced and an expense account is increased to reflect the amount used during the period.

Answer: (D)

Verified step by step guidance

1. Understand the concept of prepaid expenses: Prepaid expenses are payments made in advance for goods or services that will be consumed or used in future periods. Examples include prepaid rent, insurance, or subscriptions.
2. Recognize the need for adjusting entries: At the end of an accounting period, adjusting entries are made to ensure that expenses are recognized in the period they are incurred, following the matching principle in accounting.
3. Determine the adjustment for prepaid expenses: Prepaid expenses are reduced (credited) to reflect the portion that has been used or expired during the period. This reduces the asset account for prepaid expenses.
4. Increase the related expense account: The portion of the prepaid expense that has been used is recorded as an expense (debited) in the income statement to reflect the cost incurred during the period.
5. Ensure proper journal entry format: The adjusting journal entry will typically involve a debit to the expense account and a credit to the prepaid expense account, ensuring the financial statements accurately reflect the period's expenses and remaining prepaid balance.