Day-to-day bookkeeping is essential for a company to track the cash flow and prepare accurate tax reports. However, deferred gain poses a peculiar challenge to the bookkeepers.
An important question arises here – what is deferred revenue journal entry? Deferred revenue is the amount the company receives for a product that will be delivered to the customer. Therefore, you should record them as a liability and not as a revenue. A bookkeeper must know how to record the deferred gain journal entry.
What is Deferred Revenue Journal Entry?
Let us understand what deferred revenue journey entry in detail is.
Deferred revenue, also called unearned revenue, is the money the company has received but not yet earned. In layperson’s terms, it is the money the company gets for the product or service that the client hasn’t received yet. Suppose the client pays for a product or service that is to be delivered in the future. The money received will be noted as a deferred gain journal entry.
The deferred revenue is reported as a liability, denoted as a product or service owed to the clients. It is recorded in the income statement once it is delivered or performed after some time.
Examples of deferred revenue scenarios in the marketplace:
- A customer subscribes to a magazine subscription.
- A customer pays a deposit for a product or service date for the future.
When Is Deferred Revenue Applicable?
Companies use two types of accounting, namely cash-based accounting and accrued accounting. The companies using cash accounting consider revenue when they receive the money. Therefore, the referred revenue doesn’t apply to them.
The companies that use accrual-based accounting consider revenue when they perform a service. These companies record this revenue as deferred after receiving the money and until the service is performed. After they deliver the product or service, it becomes a part of the income statement.
Does Deferred Revenue Journal Entry Belong to Asset or Liability?
Deferred revenue is a future obligation that the company has to the customer. Therefore, it is entered as a liability instead of an asset. Deferred revenue increases the short-term liabilities of a business and the financial institutions take them into consideration when they apply for loans. The company should consider future obligations and ensure they allocate sufficient funds to handle them.
Difference Between Deferred Revenue vs. Accrued Expense
Accrued expenses are the expenses the company records before making a payment. The companies using cash-based accounting record accrued expenses. Cash-based accounting companies don’t record the expenses before they pay the vendor.
You should not confuse accrued expenses with the accounts payable. An expense can only be recorded in accounts payable once an invoice or payment request is received. In the case of accrued expenses, the invoice might not be received yet, and the amount due might not be certain.
How Does Deferred Revenue Expenditure Journal Entry Work?
It is a multi-step process to note the deferred gain journal entry, perform the service in the future, and then transfer the deferred revenue to the revenue. Here is how deferred revenue expenditure journal entry works.
The company receives the funds or deposits from the client for a product or service to be delivered in the future.
The company notes this amount as a deferred revenue.
The company performs the service or delivers the product over time.
The amount is debited from deferred revenue liability and credited to revenue in the income statement.
The deferred revenues are liabilities since the company might have to pay back the client.
- If the product is not delivered.
- The company has to allocate funds to deliver the service in the future.
Therefore, the amount received is deferred revenue even if an invoice was generated for the customer.
How To Record Deferred Revenue Expenditure Journal Entry?
A payment is an asset, but the prepayments come in liabilities. Let us see how to record deferred revenue expenditure journal entries.
- You need to create a liability account named deferred revenue liability account.
- If the project is short-term, consider it as a current liability. However, if the project might take a more extended period of time, you should consider it as a long-term liability.
- When you receive an amount in your bank account for a future obligation, here’s how to record it. Debit the amount from your cash account and reflect the same as credited to your deferred revenue.
|Cash in Bank||$Money|
- However, in case you generate the invoice for the customer for a future obligation, the journal entry will debit the amount from the accounts receivable instead of the cash account.
- When the company delivers the product or performs the service, the amount is debited from the deferred revenue account and credited to the revenue account.
How to Calculate Deferred Revenue?
The deferred revenue can be quite confusing and trigger mistakes in the overall revenue and profit if not calculated wisely.
Therefore, one should know how to calculate deferred revenue.
- When you receive an advanced payment or deposit from a client, record it in a deferred account in liabilities.
- As you keep receiving these payments, the deferred revenue account will increase.
- Once you deliver the service or products, debit the required amount from the deferred account and credit the revenue account.
- As you deliver the services or products to the clients, the revenue account will increase.
Deferred Revenue Journal Entry Example
Consider the case of a small information technology consulting company that offers its accounting services on a subscription basis to the companies it works with. These memberships are for 12 months and cost $500 a month, invoiced as a one-time fee of $6,000.
Let us imagine that on July 1st, Company A purchases a membership from this particular IT company. The specialized accountants for small businesses that work for the IT company would make an entry in the balance sheet that looks like this:
|Deferred Revenue (Subscription Fee From Company A)||$6000|
Given that a monthly membership to the service costs $500, it will generate the first $500 in income on August 1st. The accountants for the IT company will make a notation of the realized revenue on the income statement before making an entry on the balance sheet that looks like this:
|Realized Revenue (Subscription Fee From Company A)||$500|
|Deferred Revenue (Subscription Fee From Company A)||$500|
Does Deferred Revenue Affect the Working Capital of the Business?
The deferred revenue directly impacts the working capital of a business. This is because the deferred revenue is a future obligation of the company to the customer. Therefore, this amount affects the working capital and stays a liability on the balance sheet for small businesses.
However, the working capital includes current liabilities such as deferred revenue. When the working capital is calculated, the current liabilities, such as deferred revenue, are deduced from it. Thus, the deferred revenue directly reduces the working capital.
Let’s Conclude it
This was all on what is deferred revenue journal entry and how to record it in the journal. The deferred revenue affects the working capital and increases the liabilities of the company. When the company applies for a loan, the banks and financial institutions consider it. Therefore, you should take care of the deferred revenue timely.
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