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Each person should consult his or her own attorney, business advisor, or tax advisor with respect to matters referenced in this post. Bench assumes no liability for actions taken in reliance upon the information contained herein. Sign up for a trial of Bench. No pressure, no credit card required. For Partners. Contents What is revenue recognition? Do I need to worry about it? The rules of revenue recognition have changed How revenue recognition works under ASC Do these changes affect my business?
Has the sale been earned? A sale has been earned when an entity has substantially accomplished whatever is needed in order to be entitled to the benefits represented by the revenue. More specifically, an entity can record revenue when it meets all of the following criteria:.
The buyer has either paid the seller or is obligated to make such payment. The payment is not contingent upon the buyer reselling the product. The buyer has economic substance apart from the seller. The seller does not have any significant additional performance obligations related to the sale.
If a customer returns any items of merchandise, the store separately records such transaction on its books, reducing overall revenues accordingly. More complicated scenarios may occur. For example, suppose a city's transit authority contracts an engineering firm to construct a major highway. Assume this a vast and complex undertaking that's expected to take five years to complete. Depending on the agreed-upon payment schedule, the engineering firm may record revenues in various ways, although the end total would be the same.
For example, if the municipality pays for the entire project upfront, the engineering firm would record all of the revenue from this service contract at that time. But in the more-likely scenario where the municipality doles out installments over the life of the project, the engineering firm would record the revenues on a periodic basis, as monies are collected. In this example, the critical event is the signing of the contract, and the measurable transactions are the occasions when the engineering firm bills the municipality for services rendered.
GAAP stipulates that revenues are recognized when realized and earned, not necessarily when received. But revenues are often earned and received in a simultaneous transaction, as in the aforementioned retail store example. But the engineering firm example illustrates how there can be delays between the realization of earnings and the receipt of payment. According to GAAP, if the engineering firm bills for work done in , the revenue for that work should be recognized in — even if the city doesn't cut the check until But exceptions can be made in certain industries.
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