We know Revenue which is also called Sales or Income. Then the question comes, What is Deferred Revenue?
The Revenue for the year gets recognized to the extent it Accrues or Arises in the particular Year / Period. There are possibilities that a Company may receive the Revenue in Advance for the Sale or Services or events that are to be rendered in the future. It pertains to the next Year / Period and will get recognized only in the next Year or upon happening of an event. It means this Revenue is to be Deferred from the current Year to the Next Year. This is called, Deferred Revenue in Accounting. The amount is received now and the Revenue is recognized Later.
Why would Company Defer the Revenue? What is the need for Deferred Revenue recognition?
The Company received an advance for the contract pertaining to the Current Year & Next year. There may be a possibility that the contract of supply of goods or service or an event may get canceled & the company has to pay back the amount which was received in advance. Therefore advance received is the Liability of a Company, till the time it completes the terms of service or delivers the goods. And till that time this can’t be recognized as a Revenue and shown as a Liability.
What are the examples of Deferred Revenue?
AMC Contracts
Insurance Contracts
Service contracts like Housekeeping.
Sale of Event tickets like Sports
Rent received in Advance
Subscription-based products or services based on prepayment. (Softwares, web access, etc.)
The Company entered into an AMC contract with its customer and billed for an Advance for the year. On October’20 the AMC contract entered for $120 for the period from 1st October’20 to 30th September’21. The Company closed its books of accounts on 31st December’20. The monthly amount arrived at will be $10. The revenue will be recognized as below.
| Period of contract | Oct-20 | Nov-20 | Dec-20 | Jan-21 | Feb-21 | Mar-21 | Apr-21 | May-21 | Jun-21 | Jul-21 | Aug-21 | Sep-21 |
| Monthly charges received in advance | $10 | $10 | $10 | $10 | $10 | $10 | $10 | $10 | $10 | $10 | $10 | $10 |
| Accounts closed on December | $ 30 pertains to the Year 2020 | $ 90 pertains to the Year 2021 | ||||||||||
| Revenue recognition | Revenue for the year 2020 | Deferred Revenue in 2020 | ||||||||||
Deferred Revenue Accounting / Deferred Revenue Journal entry:
Situation 1 :
# Entry 1 : $ 120
The company raises the Invoice on its customer for the AMC for a year and account below entry.
Customer A/c Dr.
To Sales
# Entry 2 : $ 120
Company account below entry after the receipt of money
Bank / Cash A/c Dr.
To Customer A/c.
Therefore the Sales got credited with the full amount. Say from the above example of $ 120. But only $ 30 pertains to the current year & recognized as Revenue in 2020. Therefore $ 90 needs to re-classified from Sales to Deferred Revenue as below.
# Entry 3 : $ 90
Sales A/c Dr.
To Deferred Revenue
Situation 2 :
# Entry 1 : $ 120
The Company Accounts the receipts directly in the Customer ledger.
Bank A/c. Dr.
To Customer A/c.
This is the classic example of Debtors having a Credit balance.
# Entry 2 : $30
Re-classification of above entry 1 (of Situation 2) to the extent of Revenue
Customer A/c. Dr.
To Revenue / Sales
# Entry 3 : $ 90
Re-classification of above entry to the extent of Deferred Revenue
Customer A/c. Dr.
To Deferred Revenue
Where the Deferred Revenue is presented in the Balance Sheet? And utilisation / re-classification therefrom.
If you see the entries above, it is having a Credit Balance. Mostly this is a balance for the Short Duration, less than 12 months. It is shown under the Current Liabilities on the Liability side of the Balance Sheet.
In next year while recognizing Revenue therefrom, the below entry gets accounted.
Deferred Revenue Dr.
To Revenue / Sales
Schedule of Deferred Revenue :
After accounting / re-classification of the amount to Deferred Revenue, a separate schedule has to be prepared in Excel Worksheet for the amount to appear in the Balance Sheet (Liability Side).
It contains the details of Vendors along with the duration of each of them for the amount lying t, like how it is maintained for Prepaid expenses.
