State BPA Fundamental Accounting Practice Exam

How is Prepaid Utilities recorded in financial statements?

1. Debit on the Income Statement

2. Credit on the Balance Sheet

3. Debit on the Balance Sheet

4. Credit on the Income Statement

The correct answer is: Debit on the Balance Sheet

Prepaid Utilities is recorded as an asset on the Balance Sheet. When a business pays for utilities in advance, it represents a future benefit; hence, it is considered an asset. The initial entry for prepaid utilities involves debiting the Prepaid Utilities account, which increases the total assets on the Balance Sheet. As time passes and the utilities are consumed, the asset is then gradually expensed on the Income Statement through a journal entry that reflects the consumption of those services, typically as a debit to Utilities Expense and a corresponding credit to Prepaid Utilities. This process ensures that the financial statements accurately reflect the expenses in the period they are incurred while recognizing the prepaid amount as an asset until it is used. Thus, the correct classification as a debit on the Balance Sheet highlights its nature as an asset that is awaiting consumption rather than an immediate expense.