15. The corporation paid $6,000 cash for a one-year insurance policy effective February 1. What is the impact on the January 31 balance sheet?
Answer: A
Prepaid expenses increase by $6,000
The payment for the one-year insurance policy results in an increase in prepaid expenses by $6,000 on the balance sheet as of January 31. This reflects the asset created by the advance payment for insurance coverage that extends into the future.
A) Prepaid expenses increase by $6,000
This option is correct because the payment for the insurance policy is recorded as a prepaid expense, an asset, reflecting the future benefit that will be received over the policy period. Since the insurance coverage starts on February 1, this expense is recognized as an asset until that date.
B) Cash increases by $6,000
This option is incorrect. The cash account would actually decrease by $6,000 due to the payment made for the insurance policy. This transaction results in an outflow of cash rather than an increase.
C) Retained earnings increase by $6,000
This option is also incorrect. Retained earnings are affected by revenues and expenses, but in this case, the payment for insurance is not an income-generating activity and thus does not increase retained earnings. The expense will only affect retained earnings when it is recognized as an expense in the future.
D) Accounts payable increase by $6,000
This option is incorrect. Accounts payable would not increase because the insurance policy was paid for in cash rather than being incurred as a liability. There is no obligation to pay in the future in this instance.
Conclusion
The correct answer, "Prepaid expenses increase by $6,000," accurately reflects the accounting treatment of the cash payment made for the insurance policy. All other options fail to align with the principles of accounting related to asset recognition and liability management, making them incorrect in the context of the January 31 balance sheet.