What is the difference between prepaid expenses and accrued expenses?

Prepaid expenses are assets representing payments made in advance, while accrued expenses are liabilities representing expenses incurred but not yet paid or recorded.

Prepaid Expenses vs Accrued Expenses

Both are adjusting entries, but they represent opposite timing issues in accounting:

Prepaid Expenses

Definition: An asset account representing an expense paid in cash in advance (before it is incurred/used).

Accrued Expenses

Definition: A liability account representing an expense that has been incurred/used but not yet paid in cash or recorded.

Key Differences:

Aspect	Prepaid Expenses	Accrued Expenses
Account Type	Asset	Liability
Cash Flow	Cash paid FIRST	Cash paid LATER
Timing	Payment before expense	Expense before payment
Adjustment	Asset to Expense	Expense to Liability

Prepaid Expenses: Detailed Example

Scenario:

Company pays $12,000 for one year's insurance on December 1. Coverage period: Dec 1 to Nov 30.

Journal Entries:

Dec 1 (Payment):

Account	Debit	Credit
Prepaid Insurance	12,000
Cash		12,000

Dec 31 (Adjusting Entry - 1 month used):

Account	Debit	Credit
Insurance Expense	1,000
Prepaid Insurance		1,000

Result:

Balance Sheet: Prepaid Insurance = $11,000 (asset)
Income Statement: Insurance Expense = $1,000
Future: $1,000 expense recognized each month

Accrued Expenses: Detailed Example

Scenario:

Employees earn wages of $5,000 for work done in the last week of December. Payday is January 5.

Journal Entries:

Dec 31 (Adjusting Entry):

Account	Debit	Credit
Wages Expense	5,000
Accrued Wages Payable		5,000

Jan 5 (Payment):

Account	Debit	Credit
Accrued Wages Payable	5,000
Cash		5,000

Visual Timeline:

Prepaid Expense Timeline:
[Cash Payment] → [Time Passes] → [Expense Recognition]
Cash moves FIRST, expense recognized LATER

Accrued Expense Timeline:
[Expense Incurred] → [Time Passes] → [Cash Payment]
Expense recognized FIRST, cash moves LATER

Common Examples:

Prepaid: Insurance, Rent, Subscriptions, Supplies
Accrued: Wages, Utilities, Interest, Taxes, Commissions