 Now, just to introduce the concept here, let's first look at the most extreme example that's similar to prepaid insurance, which we'll talk about in more detail because it has its own kind of quirks to it as well, that being the furniture and fixture or the fixed assets, the depreciable assets. So you might think that you're gonna be on a cash-based system, and by being on a cash-based system and being possibly a small business, you can just stay away from all this accrual business and therefore stay away from the adjusting entries in general. But there are some areas where you just can't do that. You still have to deal with adjusting entries, possibly for other reasons than a standard, like a cruel adjusting entry with a timing difference, like a payroll situation, or you might have a situation where you still have to do an accrual thing, even though you're trying to be on a cash-based system, possibly because the tax code requires you to do it or something like that. And the furniture and fixture or the fixed assets, the example of furniture and fixture being a fixed asset is one of the most extreme examples because if you buy a building, if you buy equipment, if you buy a car, even if you pay cash for it and you just expense it in say January, then you'd have this big car expense in January. And when you compare January to February to look at the performance, it would look like January you did really bad compared to February, but you didn't really, what you did was invest in a car that's gonna help you generate revenue into multiple periods in the future. And that's why because that's such a big timing difference between a cash and accrual basis, and the accrual basis is a better basis for that kind of comparison, we're forced to put it on the books as an asset. So most people probably wouldn't put it that way, but they kind of just think in their mind, okay, I'm buying a building, that's an asset. It's not an expense. Why? Because of timing difference because you're doing an accrual concept. Now, because these property plants and equipments are big items and they're like unique in nature, no two buildings are the same. Once you use equipment, it's gonna depreciate, it's gonna go down in value at different rates. You're not actually consuming the building in that the building's gonna go down in units. You have one unit of building. So that's why we have to use an estimate or that's one reason for using an estimate of accumulated depreciation to figure out the decrease. That's why we have this contra asset account. Now, a similar concept and you depreciate it, that's when you actually allocate the cost to the income statement with depreciation. We'll talk more about how to do that in the future. We have a similar problem with something like a prepaid account such as prepaid insurance. Insurance is one of those things that you pay for it before you get the coverage by definition. Now, if you pay for it every month, even though you pay for it before you get the coverage on like a telephone bill where you pay for it after you get the coverage, because you're paying monthly it might still be pretty easy to kind of just record it each month as an expense. But if you pay for a whole year in advance then you start getting this big distortion again between when you paid the bill. You can see it on the income statement if I had a $12,000 expense in January and then I compare January to February, January would look much worse and it's not really fair for January to look worse because the insurance was paid and will be covering will be benefiting multiple periods into the future. Therefore, we would want to do this kind of a cruel concept thing. Now note that doing the accrual thing as opposed to the cash thing is more difficult. It takes more steps. So if it's an irrelevant change then possibly doing a cash based system would be the easy kind of thing to do often times. And so with the insurance you got to kind of make a call, you got to talk to your accountant in terms of how you're going to deal with these kind of prepaid accounts. Insurance is the most common example but you could prepay anything. You can imagine going to having a business deal with your landlord who's giving you the business office building and then asking them if you can prepay the rent in advance in exchange for some kind of discount or something like that. And if that was the case then you might have prepaid rent. You paid for a whole years of rent upfront, right? And that would be more common in a business kind of deal where arrangements like that might happen than renting a personal apartment or something like that. So if you're going to deal with prepaid insurance and do it on an accrual basis method then you're going to want to put it on the books when you buy it as an asset as opposed to an expense. And that's the thing that we, you have to kind of set up in advance. What am I going to do with the prepaid insurance from the bookkeeping side versus the adjusting entry side of things? You want to separate your mind into two separate categories with those kind of categorizations. And you could, and then you can try to automate your system. So from the bookkeeping side of things from the accounting side of things as I pay the insurance bill I would like to automate the pain of the insurance bill possibly doing it through the bank feeds to make it as easy and automated as possible. So then the question would, do I automate it always go into an expense account which you can do if you're just going to be in a cash-based system and possibly at the end of the year the accountant might be able to take it out of the cash account if they need to do an accrual adjusting entry and record the prepaid portion of it. But that's not really the natural thing to do if you're going to do an adjusting entry. The natural thing to do if you're doing adjusting entry is to record it whenever you pay the insurance as an asset of prepaid insurance. And you can set that up just as easily as you can set up making it an expense by just always going to an asset account instead of an expense whenever you pay the insurance company. The reason we typically put it into prepaid insurance rather than an expense is that it makes it easier for us to do the adjusting process and it's more correct when we put it on the books, right? We put it on the books as prepayment and then we expense it as we consume it. But also you might say, well, why don't I just expense it like I do with everything else? And then I make an adjusting entry or my tax preparer makes an adjusting entry. Another reason that's more complicated is because the income statement closes out to the equity section at the end of the period whereas the balance sheet accounts are permanent accounts, they don't close out. So it puts another kind of wrinkle in the equation when you've got it on the income statement side of things if you're trying to do an adjusting entry at the end of the period to figure out how much of it should be prepaid as opposed to an expense. So the easy way to do it if you're working with your accountant again would be to say, you might set up a system and say, here's my insurance accounts. You might have multiple insurance accounts. You might break out your insurance by liability insurance, auto insurance or whatever other insurances you have and then keep your insurance statements so that you can provide those to your accountant at the end of the year. And if they need to do an adjusting entry to break out the asset portion and the expense portion then they can do that on a periodic basis and that allows you to just record everything to one account, automating it with a cash based system in that you're taking it from the register as you pay it with the bank feeds possibly and then just make an adjusting entry. Although you're doing an accrual thing with like a cash based system in that you're taking the information directly from the bank when you pay it recording it not as an expense which would be the cash based system thing to do versus accrual based but putting it on the books as an asset letting the accountant do the adjusting entry at the end of the period.