What is Unearned Revenue?

Definition

Revenue is the money generated by the sale of goods or services. It is something every business would like to see. What is unearned revenue then? Unearned revenue exists because customers pay the business in advance for services yet to be performed or products yet to be delivered. You might have heard of deferred revenue or prepaid revenue. Well, all of these are actually the same thing. They are just different ways of saying unearned revenue.  

What is unearned revenue on the company’s Balance sheet? Unearned revenue is considered a company’s liability because it received payment from a customer in advance and still needs to earn it. If the company for some reason does not fulfill its obligation before the customer, the money received in advance will need to be returned. Thus, initially, this revenue is recorded as a current liability. Accordingly, you will not see the unearned revenue listed on the Income statement. 

What are some examples of unearned revenue? You own, for example, apartment buildings. Every time you rent an apartment to your tenants, you will receive a payment for the upcoming month or any other period. This payment from the tenants is initially recorded as a liability. Other examples include software subscriptions, prepaid insurance, and the airline or other tickets.

Example Journal Entry

ABC Solutions received a cash advance of $4,800 from a customer for the work it will perform this and next month. In this example, the company is getting the money before it does the work. It is receiving the money today and will do the work later. So, how do we record this in the journal? Since the company already has the money, its cash just went up, and we are going to debit the Cash account. 

What account do we credit? We cannot credit the Revenue account because we have not yet done the work. As you might have already guessed, we are going to use the Unearned Revenue account.

Let’s assume that the company has done half of the work by the end of this month. To reflect this in its bookkeeping records, the company can now credit the Revenue account for the amount of the work performed. At the same time, the Unearned Revenue account will go down because the company has already earned a portion of that unearned revenue. The journal entry will look as follows: