Below we dive into defining deferred revenue vs deferred expenses and how to account for both. Unearned revenue is a liability since it refers to an amount the business owes customers—prepaid for undelivered products or services. In addition, it denotes an obligation to provide products or services within a specified period. On a balance sheet, the «assets» side must always equal the «equity plus liabilities» side. Hence, you record prepaid revenue as an equal decrease in unearned revenue (liability account) and increase in revenue (asset account).

• After two months, she attends five personal training session.
• For simplicity, in all scenarios, you charge a subscription fee of $25 per month for clients to use your SaaS product.
• Therefore, you will debit the cash entry and credit unearned revenue under current liabilities.
• Note that when the delivery of goods or services is complete, the revenue recognized previously as a liability is recorded as revenue (i.e., the unearned revenue is then earned).
• Unearned revenue shows up in two places on the balance sheet.
• When it comes to B2B payment methods, two widely used options are ACH checks and physical checks.
• In addition, it denotes an obligation to provide products or services within a specified period.
• Some common prepaid assets include prepaid rent and prepaid insurance.
• As per basic accounting principles, a business should not recognize income until it has earned it, and it should not recognize expenses until it has spent them.

Whereas recognized revenue refers to the point at which a booking or deferred revenue becomes actual revenue for your business after delivering on the agreement as promised. A common scenario that many technology startups have is when they have a platform that is sold to the customer for a monthly fee. An example of unearned revenue in this scenario would be if a customer were to purchase a full year of access to the company’s tech stack for $1200/year. In order to get this deal, the customer is required to pay the company in full on the spot. Below is an example of a journal entry for three months of rent, paid in advance. In this transaction, the Prepaid Rent (Asset account) is increasing, and Cash (Asset account) is decreasing.

The Endless Possibilities of Unearned Revenue

Generally, unearned revenues are classified as short-term liabilities because the obligation is typically fulfilled within a period of less than a year. However, in some cases, when the delivery of the goods or services may take more than a year, the respective unearned revenue may be recognized as a long-term liability. Unearned revenue is recorded on the liabilities side of the balance sheet since the company collected cash payments upfront and thus has unfulfilled obligations to their customers as a result. A business generates unearned revenue when a customer pays for a good or service that has yet to be provided. In addition to correctly reporting all those transactions on financial statements, businesses should also keep track of all such prepayment transactions. Some common prepaid assets include prepaid rent and prepaid insurance.

As the papers are delivered, the liability decreases and the newspaper’s income increases. If a company takes a deposit for a project, until the portion of the project the deposit represents is completed, it is considered unearned revenue. You’ve decided to begin a new revenue stream for your mid-sized employee engagement what is unearned revenue company. Where before you would facilitate similar programming across your book of business, you now want to offer premium services to enterprise level clients. To sign on to the premium experience, clients may opt-in by paying $5,000 for events, perks, and quality assurance that will occur over the next 6 months.

Is unearned revenue a liability?

Baremetrics makes it easy to collect and visualize all of your sales data so that you always know how much cash you have on hand, which clients have paid, and who you still owe services to. This recognized revenue will appear on the income statement. Below you’ll find everything you need to know about unearned revenue and how it affects your small business. Revenue recognition is one reason why the Financial Accounting Standards Board (FASB) issued the Generally Accepted Accounting Principles (GAAP). GAAP accounting metrics include detailed revenue recognition rules tailored to each industry and business type. Companies need to carefully review the FASB guidance to ensure their revenue recognition is properly in line with the new revenue standard.

• Therefore, you cannot report these revenues on the income statement.
• In case of Unearned fees, it results only in benefit inflow but there is no benefit outflow.
• A prepayment adjusting entry would be noted on the books for January.
• The subscription for monthly accounting service is considered a short-term liability on the balance sheet.
• As you can see, the unearned revenue will appear on the right-hand side of the balance sheet in the current liabilities column.
• Learn more about the pros and cons of revenue sharing, whether it is the right revenue model for you, and how to draw up a revenue sharing agreement.

For example, imagine that a customer purchases an annual subscription for a streaming music service. The customer pays $50 up front for the full year of service. This would initially be marked as unearned service revenue because the company has received a full payment for services not yet provided. The full $50 would need to be recorded as unearned service revenue on the company’s balance sheet. As each month of the annual subscription goes by, the monthly portion of this total can be deducted and recorded as revenue. Once goods or services have been rendered and a customer has received what they paid for, the business will need to revise the previous journal entry with another double-entry.

Reporting

However, a business owner must ensure the timely delivery of products to its consumers to keep transactions steady and drive customer retention. This is why it is crucial to recognize unearned revenue as a liability, not as revenue. In terms of accounting for unearned revenue, let’s say a contractor quotes a client $5,000 to remodel a bathroom. If the contractor received full payment for the work ahead of the job getting started, they would then record the unearned revenue as $5,000 under the credit category on the balance sheet. The contractor would also record the $5,000 in cash under the debit category. In accrual accounting, it is important to organize income properly, especially when it comes to prepaid services.