A prepayment is a cost paid in advance and spread over the months it covers. This guide explains how prepayments keep each period's profit honest.
Published July 2026 · Updated July 2026
A prepayment is a cost you pay upfront for something you will use over time, such as annual insurance or a yearly software licence. Rather than charging the whole cost to one month, you spread it across the period it covers.
Charging a full year's insurance to January would make that month look far worse than the rest, distorting your results. Spreading it gives a fair monthly picture of what the business actually costs to run.
Until it is used, the unused portion is an asset (you have paid for a future benefit). Each month a slice moves from the balance sheet into the profit and loss as an expense.
You pay £1,200 for 12 months of insurance in January:
Both, over time. It starts as an asset (a future benefit paid for) and becomes an expense month by month as you use it up.
An accrual, where the cost is incurred before you pay. Deferred income is the income equivalent of a prepayment.
Software can automate recurring prepayments with a schedule, so the monthly slices post themselves.
Source: Investopedia ↗. This glossary is written for small business owners, so definitions are simplified. Tax rates and thresholds reflect 2026/27 UK rules and change over time. Berified does not provide accounting, tax or legal advice; always check the source or a qualified adviser.