If we need to produce financial statements however, we must adjust our accounts so that only this period s revenues and expenses are included in our calculation of profit. After completing the necessary adjusting entries, our accounts will appear exactly as they would have if we had accrued our expenses and revenues by the minute. This is a much more cost effective way of implementing an accrual system. Prepayment and deposits held are often collectively called deferrals. Accounting for Prepayments.
Prepayments are amounts paid in advance for services.
At the end of the year we must check to make sure that all the payments that we recognised as expenses actually pertained to services consumed during the period. If all, or some proportion of these payments actually related to services to be consumed in following periods, we must reflect this in our accounts. Although rental on phone lines is paid in advance, most firms do not bother making an adjustment for this, as the rest of the phone bill is paid in arrears, and telephone rental costs are relatively stable across time. For many firms Office Supplies such as stationery are such a small item that they treat the purchase of such assets as an expense immediately. The correct way to process such transactions however, is to record the supplies purchased as an asset.