What is Unearned Revenue, and Is It a Liability?

Since it is a cash increase for your business, you will debit the cash entry and credit unearned revenue. Where unearned revenue on the balance sheet is not a line item, you will credit liabilities. At the start of February, you what is unearned revenue need to record the first month of service as income. Think of it as a customer paying for monthly service, but you already have the money. This decreases your unearned revenue liability because you performed the service.

• For example, getting paid upfront means you don’t need to chase up customers for overdue invoices or wonder when you’re going to receive the money.
• FreshBooks has online accounting software for small businesses that makes it easy to generate balance sheets and view your unearned revenue.
• No revenue is reported in December for this special order since the company did not perform any work.
• It is the seller’s choice to prorate the refund or to charge additional fees.
• When the transaction occurs, such as a publishing company selling a magazine subscription, the journal entry includes a debit to cash and a credit to unearned revenue.
• Since prepaid revenue is a liability for the business, its initial entry is a credit to an unearned revenue account and a debit to the cash account.

This approach can be more precise than straight line recognition, but it relies upon the accuracy of the baseline number of units that are expected to be consumed . This is also a violation of the matching principle, since revenues are being recognized at once, while related expenses are not being recognized until later periods. Unearned revenue can provide clues into future revenue, although investors should note the balance change could be due to a change in the business. Morningstar increased quarterly and monthly invoices but is less reliant on up-front payments from annual invoices, meaning the balance has been growing more slowly than in the past. The concept of accounts receivable is thereby the opposite of deferred revenue, and A/R is recognized as a current asset. The recognition of unearned revenue relates to the early collection of cash payments from customers.

What are the tax rules for deferred revenue?

In similar fashion to the query, the report will list all payments, along with the grand total Credit Amount. If all iMIS transactions have been exported and imported into the General Ledger, this grand total should match the current balance in the General Ledger’s Unearned Income liability account. When a paid invoice is reversed , then the payment becomes fully or partially unapplied and the unapplied portion of the payment is represented as an unearned income liability. A company informs a customer that a $5,000 deposit is required before it will begin work on the customer’s special order. The customer gives the company $5,000 on December 28 and the company will begin work on the special order on January 3. On December 28 the company will debit Cash for $5,000 and will credit a liability account, such as Customer Deposits for $5,000. No revenue is reported in December for this special order since the company did not perform any work.

Since the customer may have the option to cancel their order, or the product or service may not get delivered for other reasons, the payment is considered a liability for the company receiving it. In any case where the customer doesn’t receive what they ordered, then the company would need to repay the customer. This is why unearned revenue is recorded as an equal decrease in unearned revenue and increase in revenue .

Financial report:

The web development firm would then recognize $7,500 in revenue for that period. Most unearned revenue will be marked as a short-term liability and must be completed within a year.