When businesses receive advance payments, they don’t immediately record this money as revenue—instead, they treat it as a liability until they deliver the promised goods or services. Called deferred revenue, this approach ensures financial statements accurately reflect what the company owes and what it has genuinely earned.
In subscription-based industries with software services, prepaid service agreements, and professional retainers, deferred revenue can be a significant part of a company’s operations.
- Payment in advance: This kind of revenue is only recorded when the customer pays the company before the goods or services are supplied. It could be for a subscription, service contract, product preorder, or any arrangement for later delivery.
- Liability classification: Initially listed as a liability, it remains on the balance sheet until the company delivers what the customer purchased
- Recognized over time: Deferred revenue stays on the balance sheet as a liability until the company provides the service or product. As the company meets these obligations, it gradually moves deferred revenue to actual revenue on the income statement. This continues step-by-step until the company fulfills all obligations