Unearned Revenue
Cash received from customers before the related goods or services have been delivered.
What is Unearned Revenue?
Unearned revenue (also called deferred revenue) is a liability recorded when a company receives payment before it has fulfilled its obligation to deliver goods or services. Under accrual accounting, cash received is not recognized as revenue until performance obligations are met. Common examples include annual software subscriptions billed upfront, airline tickets sold before the flight date, and advance payments for construction projects. As the company delivers on its obligations, the liability is reduced and revenue is recognized in the income statement. Carrying unearned revenue as a liability prevents overstating revenues and ensures that financial statements reflect the economic substance of transactions.
Example
A SaaS company receives $1,200 for an annual subscription on January 1. Rather than recording $1,200 of revenue immediately, it records $1,200 of unearned revenue (a liability). Each month, it recognizes $100 of revenue as it provides the service, reducing the liability by $100. By December 31, all $1,200 has been earned and the liability is zero.
Source: FASB Accounting Standards Codification — ASC 606 Revenue Recognition