Question

Allied, Inc. bought a two-year insurance policy on August 1 for $3,600. What is the adjusting journal entry on December 31?

a) Debit Insurance Expense $1,200; Credit Prepaid Insurance $1,200
b) Debit Prepaid Insurance $1,200; Credit Insurance Expense $1,200
c) Debit Insurance Expense $3,600; Credit Prepaid Insurance $3,600
d) Debit Prepaid Insurance $3,600; Credit Insurance Expense $3,600

Answer 1

Debit Insurance Expense $1,200; Credit Prepaid Insurance $1,200.

The correct option is a.

Step-by-step explanation:

The question asks for the adjusting journal entry for an insurance policy as of December 31st. Allied, Inc. purchased a two-year insurance policy for $3,600 on August 1st. As of December 31st, five months of the policy have been used.

To calculate the expense for the five months, we divide the total cost of the policy by the number of months covered, which is $3,600 divided by 24 (months), equaling $150 per month.

Multiplying this monthly cost by five months gives us $750 ($150 x 5 months).

The adjusting entry, therefore, should reflect the insurance expense incurred over these five months and reduce the prepaid insurance asset accordingly. The correct journal entry is: Debit Insurance Expense $750; Credit Prepaid Insurance $750.