May 2022

Depending on the size of your company, its ownership profile, and any local regulatory requirements, you may need to use the accrual accounting system. While you have the money in hand, you still need to provide the services. This requires special bookkeeping measures to make sure you don’t forget about your customer and to keep the tax authorities happy. Baremetrics provides an easy-to-read dashboard that gives you all the key metrics for your business, including MRR, ARR, LTV, total customers, and more. Over time, the revenue is recognized once the product/service is delivered (and the deferred revenue liability account declines as the revenue is recognized). Closing entries are journal entries made at the end of an accounting period to transfer balances from temporary accounts to permanent accounts. Understanding these elements is crucial for accountants to evaluate a company’s financial performance and ensure accurate financial reporting over a specific accounting period. Have an idea of how other SaaS companies are doing and see how your business stacks up. As the business earns revenue, the unearned revenue balance is reduced with a debit, and the revenue account balance is increased with a credit. The business owner enters $1200 as a debit to cash and $1200 as a credit to unearned revenue. For example, suppose a business provides equipment maintenance services and invoices customers 6,000 annually in advance. When the invoice is issued, no maintenance cover has been provided and therefore the revenue of 6,000 is unearned and a journal entry is required. Failing to record unearned revenue correctly can lead to misstated earnings, compliance issues, and regulatory fines. The company, however, is under an obligation to provide the goods or render the service, as the case may be, on due dates for which advance payment has been received by it. As such, the Unearned Revenue is a Liability till the time it doesn’t completely fulfill the same, and the amount gets reduced proportionally as the business is providing the service. It is also known by the name of Unearned Income, Deferred Revenue, and Deferred Income as well. Subscription-based businesses, service providers, and companies handling pre-orders update their unearned revenue accounts monthly, quarterly, or as obligations are met. Since unearned revenue is cash received, it shows as a positive number in the operating activities part of the cash flow statement. As a simple example, imagine you were contracted to paint the four walls of a building. This model helps companies predict demand, manage supply chains, and secure funds before production is complete. The accounting principle of revenue recognition states that revenue needs to be recognized when it’s earned, not necessarily when payment is collected. Only revenue that’s been earned or recognized shows up on the income statement. This liability represents an obligation of the company to render services or deliver goods in the future. It will be recognized as income only when the goods or services have been delivered or rendered. For most businesses where prepayment terms are 12 months or less, unearned revenue is treated as a current liability on the balance sheet. This process also prepares the temporary accounts for the next accounting period, allowing for a clear and accurate recording of transactions moving forward. Closing entries represent a crucial step in the accounting cycle – the standardized sequence of accounting procedures used to record, classify, and summarize financial information. Within this cycle, closing entries come after preparing financial statements and before creating a post-closing trial balance. They bridge the gap between one accounting period and the next, ensuring that temporary accounts start fresh while permanent accounts carry forward their ending balances. Closing entries are the financial reset button that ensures your accounting records accurately reflect each period’s performance. Over time, the liability gradually gets converted into income (earned revenue) as the product or service gets delivered. There’s always a risk that a client or customer could back out of a deal, or that your business won’t be able to fulfill the order. So, unearned revenue remains a liability on the books until any risk of having to repay the money is gone. Aside from the revenue recognition principle, we also need to keep the accounting principle of conservatism in mind when dealing with unearned revenue. When the company will deliver goods to the buyer on January 15, 2022, it will eliminate the liability and recognize a revenue in its accounting records on that date. The deferred payments are recorded as current liabilities in the balance sheet of a company as the products or services are expected to be delivered within the current year. Once the goods or services are delivered, the entry is converted to a revenue entry through a journal. At the end every accounting period, entry for unearned revenue unearned revenues must be checked and adjusted if necessary. The adjusting entry for unearned revenue depends upon the journal entry made when it was initially recorded. This cycle of recognizing $5 at a time will repeat every month as Magazine Inc. issues monthly magazines. At the end of month 12, the $60 in revenue will be fully recognized and unearned revenue will be $0. For deferred or unearned revenue, the customer pays in advance for goods or services that are provided later. Unearned revenue is any money received by a company for goods or services that haven’t been provided yet. It’s a buyer prepaying for something that will be supplied at some point in the future. Although they sound similar, unearned income and unearned revenue aren’t the same thing. Accrual Concept of Accounting Preparing adjusting entries is one of the most challenging (but important) topics for beginners. In our previous example, this would be whenever the magazine company actually sends out the next issue of its magazine. Some landlords may also offer a better rate for prepaying part or all of a lease term in advance. Get a clear understanding of general ledger accounting with this straightforward guide. Download our data sheet to learn how you can prepare, validate