How to record accrued revenue correctly

Running a business isn't always as simple as trading your product or service for cash up-front. When managing large orders and long projects, you may not see a payment right away. While you earn revenue after selling a product or service, payment delays lead to accrued revenues. This accrual accounting contrasts standard cash accounting. 

While accrued revenue doesn't create problems in itself, businesses need to account for this lack of cash flow in financial statements. If a company fails to adjust for accrued revenues, it risks accounting errors and a lower ROI. To help you along, we'll explain accrued revenue and show how you can record it to improve your bookkeeping.

What is accrued revenue?

For most companies, accrued income is a crucial aspect of business accounting. Think of it like an unpaid bill your customer owes you. 

Accrued revenue is most common in B2B industries where clients receive invoices after receiving a service. Whether you work in construction or SaaS, these invoices can take months to process. Generally accepted accounting principles (GAAP) explain that revenue only accrues after you provide a service.

Why is accrued revenue important for business?

Most businesses accrue revenue and expenses as a part of their standard operations. In verticals like construction, firms earn most of their income as accrued revenue. Conversely, a standard brick-and-mortar retailer accrues expenses when they receive new inventory before an invoice. No matter your field, accrual accounting can affect your bottom line.

By properly managing accrued revenue and expenses, a business can:

• Accurately represent their cash flow on financial statements
• Account for revenue and expenses before a payment
• Tie their transactions to the time they occurred
• Follow GAAP and provide consistent financial reports

When do you earn accrued revenues? 

Accrued revenue shows up on a balance sheet when there’s a mismatch between the service you provide and the amount of money you receive. Most retail transactions are fast enough to avoid this mismatch. Accrued income shows up more often with:

Milestones

On large orders, you can book revenue when you reach project milestones. Milestones refer to specific points in your project schedule. For example, if you’re contracted to build a half-dozen nightstands, every nightstand represents a milestone. The number of milestones and their exact purview varies from project to project. 

Long-term projects

With long-term projects, you accrue revenue based on the percentage of work finished. There isn’t a hard and fast definition for “long-term,” so project durations vary by industry. In accrued accounting, suppose a school hires you as a long-term substitute. Every day you work corresponds to a percent of the job duration, and you make money based on the percentage worked. 

Loans

If you loan out money, the interest counts as accrued revenue. Lenders incur interest at a steady rate, but customers pay that interest back after it’s accrued. So, whether interest payments occur month by month or after paying off the principal, lenders receive their money down the line. You can refer to this income as accrued interest.

How accrued revenues fit in the accrual accounting method

Under accrual accounting, you should record revenue with two principles in mind:

Matching principle

The matching principle asks you to record expenses and the revenue they generate in the same accounting period. 

For example, assume you’re hired to build a dresser in the first half of May. In this two-week span, you spend $60 on raw materials and earn $200 for finishing the project. Even if your pay comes later, the matching principle makes you record your expenses and revenue at the same time.  

Revenue recognition principle

Revenue recognition involves recording revenue during the accounting period it’s earned. Additionally, you only earn money after delivering a product or service.

As an example, assume you spend five weeks developing a piece of software. Most of the work took place in February, but you finished the project in March. Based on revenue recognition, you would record the revenue for the accounting period in March since you earned your income upon completion. 

Accrual accounting example

Suppose you run a SaaS company and provide one month of service to a client in September. However, your customer won’t pay for the service until October. 

• With revenue recognition, you record transactions when you earn payment in September, and not when you receive it in October. 
• The matching principle states you must record revenue at the same time you record expenses for a project. So, if installing the software incurred technical and labor costs, list those expenses in September. 

In short, you need to account for all expenses and revenue in the time span you provided a good or service. Accrued revenue stands in for income until that money arrives. 

What is the entry for recording accrued revenue?

You need to record accrued revenue on different financial documents. On your company income statements, list it as earned revenue. Next, accrued revenues will appear on the balance sheet as an adjusting journal entry under current assets. Finally, once the payment comes through, record it in the revenue account as an adjusting entry.

You can break the process into five steps:

1. Tender the service you will earn accrued revenue for. 
2. Upon completion, debit the amount of accrued revenue you earned to accounts receivable. You can list this information under the current assets section of your balance sheet. 
3. Credit your revenue account the same amount you debited accounts receivable. This will list your funds as earned revenue on the income statement. 
4. When your payment comes through, credit your total accrued revenue to accounts receivable. 
5. Debit your revenue account the amount of accrued revenue you earned. 

What are adjusting journal entries? 

Adjusting journal entries are financial records you make at the end of an accounting period to note income and expenses in the period when they occurred. Adjustment for accrued revenues lets you cover items on your balance sheet that otherwise wouldn’t appear until your pay come through. 

Note: Each transaction will appear on the income statement as earned revenue and on the balance sheet as a current asset. Before the adjusting process, you have earned accrued revenue, but not recorded it. 

Types of adjusting journal entries

Accountants use adjusting journal entries for more than accrued revenue. Instead, they have to make balance sheet adjustments for a range of transactions:

• Accrued revenue: Money earned you will receive at a later date
• Accrued expenses: Money owed you will pay at a later date
• Deferred revenue: Payment for a service you have yet to perform 
• Deferred expense: Advance payment for a service or product
• Estimates: Tentative payment that may or may not cover a service
• Depreciation expense: One-time-payment relative to equipment’s drop in value
• Provisions: Money provided in anticipation of future costs

Managing revenue and expense types

Inexperienced accountants can lose track of revenue accrual on a balance sheet. Certain financial statements call it unbilled revenue, and others set it next to other types of income. To help you manage these revenue types, we’ll break them down below. To recap:

• Accrued revenue is an asset.
• You should record it after performing a service.
• It appears on financial statements before the actual payment comes through.

Accrued revenue vs. deferred revenue

You earn deferred revenue when customers pay for a service before you provide it. Accrued revenue uses the reversed process where payment follows a service. So, while you recognize accrued revenue before receiving cash, you recognize deferred revenue afterward. Other differences include:

• Deferred revenue is a liability because you still need to earn it 
• You can spread deferred revenue across multiple entries.

Example: A subscription service uses deferred revenue. Customers pay up-front for months or a year of access to a service. After a transaction goes through, the subscription begins. 

Earned revenue vs. accrued revenue 

Earned revenue refers to the money you get for providing a good or service. Unlike accrued revenue, you make earned revenue right after the transaction ends. Earned revenue is more common in retail and e-commerce. 

• Earned revenue is an asset
• You record it after providing a service, the same time you earn the revenue

Example: Retail storefronts base their business model on earned revenue. When a customer chooses to leave with your product, they pay you at the same time you provide the good. With earned revenue, the monetary transaction and exchange of goods occur at once. 

Accrued expenses vs. accrued revenue

Similar to accrued revenue, you record accrued expenses after incurring them. Unlike accrued revenue, an accrued expense refers to money a company owes, not income it’s due to receive. For example, purchasing goods from a supplier is an accrued expense until you pay the invoice. 

• Accrued expenses are liabilities 
• You record them upon incurring a charge and pay them later.

Example: Employee wages, bonuses, and commissions also count as accrued expenses. Because wages accrue in the period they occur but reach employees later, they're an accrued expense the company owes. 

Still not quite sure how to manage the different revenue and expense types? Look into payment services to streamline accrual accounting in your business.

Accrued revenue examples

Accrued revenue often pops up with long-term projects and B2B services. However, it can occur in some B2C contexts. Check out the examples below:

B2B Example

Suppose you sell office supplies to small businesses. When a customer orders equipment, you send them an invoice, including the due date. Once your supplies reach a client, they have a couple of weeks to pay your invoice. In the time between your shipment and their payment, you have earned accrued revenue. 

B2C Example

Suppose you rent rooms in an apartment where you charge rent at the end of each month. You can book accrued revenue if you record a rent payment at the beginning of a month but receive it at the end. In other words, the tenant’s rent is accrued revenue for the month leading up to their payment due date. 

Example of how to record accrued revenue 

Suppose you land a two-month coding project for $20,000. Each month represents a milestone for which you’ll earn $10,000. However, you won’t get paid until the project ends. As a result, you have to create an accrued revenue journal entry twice throughout the project– one for each milestone. 

Accrued revenues benefits

On the surface, accrued revenue can sound overcomplicated. While it does add extra steps to accounting, the benefits justify your effort. Accrued revenue helps with long-term financial planning and budgeting. Specifically, it provides these benefits:

Functions as an asset (with the potential for interest)

Accrued revenue is a current asset that contributes to your bottom line. While it takes longer to reach, the wait doesn’t make this income less value. Additionally, if you accrued revenue from offering a loan, the accrued interest adds to your total payment. In this case, longer delays before repaying your loan leads to a higher ROI overall. 

Accrued interest = loan principal x daily interest rate x accrual period

For example, assume you lend a friend $100 with a daily interest rate of 5%. In this case, your friend takes a full week to pay you back. So, you’d calculate the accrued interest with 100 x 0.05 x 7. On top of the $100 principal payment, your friend owes you $35 in accrued interest.

Gives a clear picture of your cash flow

Accrued revenue ensures that you record income and expenses all at once. So, you can compare the cost of completing a project with the amount you earned. This complete cash flow projection will show where you can afford to invest and where you should save. It can also reveal your overall financial health. 

Ensures consistency in reporting

Accrued revenue allows for accurate and consistent financial reporting. GAAP enforces the matching and revenue recognition principles across industries. As a result, any good accountant can manage accrued revenue since it's always calculated the same way. 

Groups services rendered in one period

Recording services at the time of payment decouples each transaction from the time you complete each task. Accrued revenue remedies this by grouping all the services you performed around the same time. That way, you can show how much you delivered in a single period.

Anticipate earnings and expenses with accrual accounting 

Accounting for accrued revenues takes training and attention to detail. However, accounting for this revenue keeps your business reactive and flexible. Calculating income with expenses in the same period allows you to lay out long-term financial plans. On the whole, this will help you stay ahead of incoming financial changes. 

If you’re short on time or resources, you can use accounting software to streamline your financial management.