What is Deferred Revenue for Small Businesses?
Deferred revenue is one of the most important accounts in accounting for some businesses. It is also known as deferred income, unearned revenue, or deferred sales.
This deferred revenue refers to money received by a business but not yet recognised as revenue. It occurs when businesses receive money ahead of providing future goods or services and must be deferred until performance takes place.
For example, a business may offer yearly subscriptions to their service and receive a payment upfront; this money – deferred revenue – is essentially held until the subscription is provided.
Deferred revenue can help small businesses improve their cash flow by allowing them to receive payments ahead of providing future goods or services. It also allows them to track their revenue streams better, as the deferred income is easily identifiable and separately reported on the balance sheet.
Understanding deferred revenue is essential for small business owners and managers to ensure proper financial tracking and reporting.
Deferred Revenue Account
Deferred revenues are recorded as liabilities because they are not yet earned. That means deferred payments are found on the balance sheet with other current liabilities such as short-term debt, employee benefits, and accounts payable.
How to prepare Deferred Revenue Journal Entry
There is a debit and credit to record deferred revenue transactions by journal entry, as with all double entry bookkeeping.
The entry is posted directly to the deferred revenue account when the money is received in the bank or cash account. The journal will therefore look like this:
| Debit | Credit | |
|---|---|---|
| Cash Account | 1000 | |
| Deferred Revenue | 1000 |
The journal entry is then reversed when the sale takes place to move the money from the deferred account to sales on the income statement.
| Debit | Credit | |
|---|---|---|
| Deferred Revenue | 1000 | |
| Sales | 1000 |
Examples of Deferred Revenue
Below are several examples of deferred revenue:
Subscription-based services – If a customer pays in advance, the amounts are deferred until they are recognised during the membership period.
Deposit for goods or Services – If you receive a deposit for goods or services, this is treated as deferred revenue and will appear in the income statement when the goods or services are delivered.
Insurance – If insurance is received in advance, it is accounted for during the year.
Is a deposit always deferred Revenue or unearned Revenue?
A deposit might differ from deferred revenue if the deposit is due to be repaid. An example is a deposit for a rental that is held until the end of the rental period and then refunded. The deposit is therefore held in a different account, ensuring it is not used.
Deferred Revenue on the Cash Flow Statement
A cash flow statement shows when a cash payment is received or spent on a prior period. It usually shows a year. A business will therefore show the deferred revenue when the payment is received rather than when it is recognised as revenue on the income statement.
Accrued Revenue vs Deferred Revenue
One pair of terms that can get confusing is deferred and accrued revenue. Deferred revenue is money a company receives in advance for services or products it will deliver later.
Accrued revenue refers to income earned by providing services or products already delivered but not yet invoiced or paid. An example is if you are working on a large project that takes several months but gets paid at the end of the project. The revenue is reported when the work takes place each month.
Deferred Revenue Conclusion
Deferred revenue is essential to small businesses, as it provides a sense of security and stability. We have looked at the basics of deferred revenue, including how to record transactions by journal and what constitutes deferred revenue. We’ve also looked at examples such as subscription-based services, deposits for goods or services, and insurance.
