Prepaid income is an amount received in advance for a sundry income which relates to an accounting period after the year end.
In accounting for prepaid income, the effect that needs to occur will be to reduce the overpayment in income in an attempt to account for only the income earned in that accounting period and then to increase the liability in that accounting period, recognising that the business acts as a custodian of that amount paid in advance, so it should not be accounted for as income, rather it is a liability in the hands of the business until it earns that amount of money.
Example:
You are working on the accounting records of a manufacturing business for the year ended 30 June 20X6. You are looking at the rental income for the year and this shows receipts for the following periods:
| July 20X5 – July 20X6 | £1,105 |
| July 20X5 – September 20X6 |
£1,590 |
Calculate the value of the adjustment required for the rental income account as at 30 June 20X6 and show the journal entry needed for the relevant adjustment.
Solution:
| Prepaid income |
||
| July 20X5 – July 20X6 | £1,105 | £1105/13×1= £85 |
| July 20X5 – September 20X6 |
£1,590 | £1590/15×3=£318 |
| Total prepaid income adjustment needed |
£1068+£330=£403 |
| Account name | Amount (£) |
Dr/ Cr |
| Rental income | 403 | Dr |
| Prepaid income | 403 | Cr |