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What is unearned revenue?

What is unearned revenue?

Aug 9, 2023
Checkout.com

The payments ecosystem gives businesses and their customers a huge variety of ways to make and receive payments, opening up a wealth of opportunities for growth and new ways to attract customers and build loyalty. 

Unearned revenue is a byproduct of this diverse payments landscape, and refers to money that a business has received for a product or service that they haven’t yet delivered to their customer. This is usually in the form of a subscription or advance payment.

This unearned sum can play a vital role in maximizing revenue in the long-run and boosting cash flow for small businesses. 

In this article, we’ll help you understand unearned revenue, provide examples of how it works in commerce, and explain how it benefits your business and how you can take advantage of it by offering subscriptions with Checkout.com

What is unearned revenue?

Also known as advanced payments or deferred revenue, unearned revenue is simply when a business receives prepayment for goods or services they haven’t yet provided. 

Until you’ve delivered the goods or service, you record the sum as a liability on your balance sheet that’s equal to the revenue earned. Once delivered to the customer, you can change the unearned revenue to revenue on your income statement. 

Unearned Revenue Examples

Unearned revenue serves a function in both the offline commerce and ecommerce worlds, but is most commonly found in: 

  • Subscription-based payments - music and video streaming services, as well as concepts like weekly recipe-box deliveries, all rely on unearned revenue in the form of subscription or recurring payments. In this scenario, a customer might pay $120 up front, or $10 a month, for an entire year of use. Whatever the frequency of payments, until the period paid for has elapsed, the money is recorded as deferred revenue and then deducted and recorded as revenue as and when the service is delivered 
  • Installment payments - like subscriptions, installments are a form of advance payment where the customer breaks down a larger sum into more manageable chunks. As the goods or services aren’t delivered until the full amount has been paid, the revenue is deferred until the customer has met their obligation 
  • Deposit - a deposit as security on a house or other asset is recorded as unearned on a balance sheet until, for example, the contract is concluded and the sum is either returned to the customer or retained and recorded as revenue

Is unearned revenue an asset or liability?

As stated earlier, until the goods or service paid for have been provided, unearned revenue remains a liability. This revenue is usually considered a short-term liability, but if it takes more than a year to deliver the service in full, it should be recorded as a long-term liability.

Let’s look in a bit more detail at its journey from liability to asset in your accounting. 

  1. A customer makes an advance payment for a service
  2. You record the payment as a liability on your balance sheet
  3. The customer receives the service for which they have paid 
  4. You reduce the unearned revenue account with debit and credit the same amount to your revenue account, following standard double-entry bookkeeping 

It’s essential to record this revenue correctly. If you were to enter the amount as an asset rather than a liability, your profit would be overstated for the accounting period, resulting in an imbalance in your books. At best, this inaccuracy could cause a mild headache and poorly-informed decision-making. At worst, you could be accused of cooking the books and face legal action. 

Benefits of installments/subscriptions for small Businesses vs full payments

Taking prepayments in the form of installments or subscriptions has numerous benefits for businesses. 

For example, one of the small business community’s most persistent issues is late payments from suppliers, which can strain cashflow and delay growth. Advance payments give businesses a way to redress this balance. By taking an injection of credit from their customers in exchange for the future provision of a service, businesses get upfront capital that can be used to fuel growth plans and improve their offering. 

Taking installment payments can also benefit both you and your customers. You don’t get a payment in full upfront, but you do get to attract customers and receive cash that you wouldn't otherwise have if those customers couldn’t afford to pay for your services. Likewise, by paying in installments, your customers have a simple and affordable way to boost their purchasing power. 

Manage your cashflow with Checkout.com

Improve your cashflow, reduce churn and grow your business by offering subscription payments with Checkout.com. 

Our subscription payment services come with a wealth of tools and benefits that can help you optimize your payments and grow revenue. That’s because Checkout.com’s unified payment solution enhances your decision making with better data and business analytics. You get granular data on pricing and billing schedules, which you can use to refine your subscription model, increasing authorization rates and growing revenue, all while improving security and cutting compliance costs.

Find out more about Checkout.com’s subscription solution.

Unlock your payments potential today

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August 9, 2023 16:20
August 9, 2023 16:20