Deferred assets (Also see Accounting – Accrual and Deferral) are the expenditures that the company has made ahead of time, but it has not consumed the expenses. Two situations that cause this to happen are:
Long consumption period
The company has paid for the expenditure ahead of time, and it expects that it will consume the item it purchases entirely after many reporting periods. In such a situation, the company is more likely to record the deferred asset as its long-term asset (Also see Guide to Non-current Asset) in its balance sheet.
Short consumption period
The company has paid for the expenditure ahead of time, and it expects that it will consume the item it purchases entirely in a couple of months. In this case, the company will record the deferred asset as a prepaid expense. Thus, in the company’s balance sheet, this deferred asset will appear as a current asset (Also see What are Other Current Assets?) initially.
Some examples of deferred assets include prepaid advertising, prepaid insurance, prepaid rent (Also see Introduction to Prepayments and Accruals), as well as bond issuance costs.
Business owners should treat some of the expenditures as deferred assets because if not, they will charge those expenditures to expense before consuming the related benefits. As a result, the expense recognition will be abnormally high in the first few reporting periods and become extremely low in later periods.
If a company implements the cash basis of accounting, it does not need to apply the concept of the deferred asset. This is because by using this method, they will record the expenditures as expenses once they pay for them. Hence, if they use the cash basis of accounting, they should charge those items to expense straight away.
Business owners are likely to forget about the deferred asset items they have recorded on the company’s balance sheet. This indicates that they are likely to see a large amount of write-off for those deferred asset items when the auditors assess their accounts. To prevent this from happening, business owners should monitor those items on a spreadsheet. When every reporting period has ended, they need to reconcile the amounts on that spreadsheet to the company’s account balance in the general ledger. If necessary, they should also make adjustments (Also see Accounting – Importance of Adjustment Entries) on the account balance by charging the amount as expenses regularly.
If you do not want to hire a staff to help you in monitoring the deferred assets, you should use an accounting policy that will charge an expenditure which is lower than a certain sum to an expense automatically. Otherwise, you can consider engaging an accounting firm in Johor Bahru and let the experts do this for you so that you always have a tight grip on the finances of your business.