Prison accommodates 12 – it's a small building (7)
I believe the answer is:
cottage
'a small building' is the definition.
'prison accommodates 12 it's' is the wordplay.
'prison' becomes 'cage' (I've seen this before).
'accommodates' is an insertion indicator.
'ot' becomes 'ot' (I can't explain this - if you can you should give a lot more credence to this answer).
'it' becomes 't' (abbreviation. e.g. in 'tis).
'ot'+'t'='ott'
'cage' enclosing 'ott' is 'COTTAGE'.
(Other definitions for cottage that I've seen before include "building" , "bungalow" , "Small house with a single storey" , "Modest accommodation" , "Rural house" .)