Deferred Revenue

What Is Deferred Revenue?

Deferred revenue, otherwise called unearned revenue, alludes to advance payments a company gets for products or services that are to be delivered or performed from here on out. The company that gets the prepayment records the amount as deferred revenue, a liability, on its balance sheet.

Deferred revenue is a liability since it reflects revenue that has not been earned and addresses products or services that are owed to a customer. As the product or service is delivered over the long haul, it is recognized proportionally as revenue on the income statement.

How Deferred Revenue Works

Deferred revenue is recognized as a liability on the balance sheet of a company that gets an advance payment. This is on the grounds that it has an obligation to the customer as the products or services owed. The payment is viewed as a liability to the company since there is as yet the possibility that the great or service may not be delivered, or the buyer could drop the request. Regardless, the company would have to reimburse the customer, except if other payment terms were unequivocally stated in a marked contract.

Contracts can specify different terms, by which it's conceivable that no revenue might be recorded until the services or products have been all delivered. At the end of the day, the payments collected from the customer would stay in deferred revenue until the customer has received in full the thing was due as per the contract.

Generally accepted accounting principles (GAAP) require certain accounting methods and shows that support accounting conservatism. Accounting conservatism guarantees the company is reporting the most reduced conceivable profit. A company reporting revenue safely will possibly perceive earned revenue when it has completed certain tasks to have full claim to the money and when the probability of payment is certain.

Normally, as a company conveys services or products, deferred revenue is bit by bit recognized on the income statement to the degree the revenue is "earned." Categorizing deferred revenue as earned revenue too rapidly, or basically bypassing the deferred revenue account all together and posting it straightforwardly to revenue on the income statement, is considered aggressive accounting and successfully exaggerates sales revenue.

Deferred revenue is regularly reported as a current liability on a company's balance sheet, as prepayment terms are commonly for a very long time or less. Notwithstanding, on the off chance that a customer made an up-front prepayment for services that are expected to be delivered north of several years, the portion of the payment that relates to services or products to be given following 12 months from the payment date ought to be classified as deferred revenue under the long-term liability section of the balance sheet.

Illustration of Deferred Revenue

Deferred revenue is common with subscription-based products or services that require prepayments. Instances of unearned revenue are rent payments received in advance, prepayment received for paper subscriptions, annual prepayment received for the utilization of software, and prepaid insurance.

The other company engaged with a prepayment situation would record their advance cash outlay as a prepaid expense, an asset account, on their balance sheet. The other company perceives their prepaid amount as an expense after some time at a similar rate as the main company perceives earned revenue.

Consider a media company that gets $1,200 in advance payment toward the beginning of its fiscal year from a customer for an annual paper subscription. Upon receipt of the payment, the company's accountant records a debit entry to the endlessly cash equivalent account and a credit entry to the deferred revenue account for $1,200.

As the fiscal year advances, the company sends the paper to its customer every month and perceives revenue. Month to month, the accountant records a debit entry to the deferred revenue account, and a credit entry to the sales revenue account for $100. Toward the finish of the fiscal year, the whole deferred revenue balance of $1,200 has been continuously reserved as revenue on the income statement at the rate of $100 each month. The balance is currently $0 in the deferred revenue account until next year's prepayment is made.

Features

• On the off chance that the great or service isn't delivered according to plan, the company might owe the money back to its customer.
• Deferred revenue is a liability on a company's balance sheet that addresses a prepayment by its customers for goods or services that presently can't seem to be delivered.
• The utilization of the deferred revenue account adheres to GAAP rules for accounting conservatism.
• Deferred revenue is recognized as earned revenue on the income statement as the great or service is delivered to the customer.