Prepaid expense
A cost paid now for something you receive later, such as a year of insurance up front.
A prepaid expense, or prepayment, is money paid now for goods or services you receive over a later period — a year’s insurance, a software subscription, rent in advance. In your accounts the unused part is a current asset that is used up month by month; in Australia, tax has its own rule for when a prepayment can be claimed.
Under the ATO’s 12-month rule, a small business can generally claim an immediate deduction for a prepayment whose service period is 12 months or less and ends by the last day of the next income year. A prepayment that does not meet the rule is spread over the period it covers, or 10 years if that is shorter.
Worked example
Insurance of $3,000 is paid on 1 February for the year to 31 January. At 30 June, seven months are still to come, so $1,750 is a prepaid expense on the balance sheet and $1,250 is the expense of the year to 30 June. For tax, a small business can generally claim the whole $3,000 in that year under the 12-month rule.
Common mistake
Expensing a large prepayment in full in your monthly figures, then wondering why the following months look so profitable. Spread it over the months it covers in your own reporting, even when tax lets you claim it at once.
Grounded in ATO — Deductions for prepaid expenses 2026: small business entities guidance. Figures last checked . General information, not tax advice.
Related terms
Balance sheet
What a business owns and owes on one date, and the equity left for its owner.
Loan amortisation
Paying a loan off in equal repayments that move from mostly interest to mostly principal.
Aged payables
What you owe suppliers, sorted by how long each bill has been waiting.
ABN (Australian Business Number)
The 11-digit number that identifies your business.
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Questions about this term
Prepaid expense: common questions
- Is a prepaid expense an asset or an expense?
- Both, over time. On the day you pay, it is an asset — a service you are owed — and it becomes an expense month by month as you use it up. At any balance date, the part still to come is shown under current assets.
- What is the ATO’s 12-month rule for prepaid expenses?
- A small business can generally claim a prepayment straight away when the service it pays for lasts 12 months or less and ends by the last day of the next income year. Otherwise the deduction is spread over the period it covers, or over 10 years if that is shorter.
- Is a deposit paid to a supplier a prepaid expense?
- Often, yes: money paid ahead for goods or services you have not yet received sits as a current asset until they arrive, and then becomes the cost of what you bought. A refundable bond is different, because it is money you get back rather than a cost being used up.
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