Deferred Revenue Explained With Examples

Solutions such as Stripe can simplify some of these complexities, making it easier for businesses to stay on top of their obligations and maintain a positive relationship with their customer base. When you finally deliver what you promised, you can then move that money over to the revenue column in your financial statement. While deferred revenue is a liability, a growing deferred revenue line item on a company’s balance sheet is usually a good thing.

The Motley Fool reaches millions of people every month through our premium investing solutions, free guidance and market analysis on Fool.com, top-rated podcasts, and non-profit The Motley Fool Foundation. Deferred revenue appears to be an asset in some situations, yet it is always classified as a liability in accounting. Since you haven’t delivered on all the website support throughout the year yet, you should classify the support fee separately in your contract, and only recognize that revenue as you earn it.

The Impact of Deferred Revenue on Financial Statements

Erase any worry about accidentally misclassifying revenue—the RightRev team knows just how to handle deferred revenue and everything that comes with it. Industries like construction and software development also frequently rely on deferred revenue. They typically receive payments before the deferred revenue is classified as job is completed, necessitating the usage of deferred revenue on their balance sheets. Revenue recognition principles define when and how a business’s revenue should be recognized. Revenue recognition defines the accounting period to which a business’s revenue and expenses are attributed.

• For example, suppose a newspaper company spends $1,000 for a future paper contract with a paper-producing company.
• Understanding the differences between deferred and accrued revenue and deferred and accrued expenses is essential for sound financial management and reporting.
• A company incurs deferred revenue by following through on its end of the contract after payment has been made.
• Also, incorrectly classified revenue can also affect how a company manages its cash flow.
• The company that receives the prepayment records the amount as deferred revenue, a liability, on its balance sheet.

Deferred revenue is a short term liability account because it’s kind of like a debt however, instead of it being money you owe, it’s goods and services owed to customers. Gradually, as the product or service is delivered to the customers over time, the deferred revenue is recognized proportionally on the income statement. No, accrual accounting records revenue for products or services that have been delivered before payment has been received. In a way, this is the opposite of deferred revenue, which records revenue for services or products yet to be delivered. Accrual accounting records revenue for payments that have not yet been received for products or services already delivered.

Recognition of Deferred Revenue

In other words, the products or services for which payment has been received will be provided at some time in the future. As a consequence, the client is owed what was purchased by the business, and payment can be returned before delivery. If your business collects lots of unearned revenue, it can be hard to read your financial statements and take stock of how your business is doing without understanding the difference between earned and unearned revenue. It’s also good practice to generate cash flow statements to best understand how deferred revenue affects cash going in and out of your business. A similar term you might see under liabilities on a company’s balance sheet is accrued expenses. Whereas deferred revenue is money that a business has received but hasn’t provided the good or services for, accrued expenses are incurred when a business has received the good or service, but hasn’t paid the money.