Unearned Income (Revenue)
Definition
In the field of accounting, unearned income, also known as unearned revenue or deferred revenue, is income received by a company for goods or services not yet rendered or delivered. Such income is typically classified as a current liability on the company’s balance sheet until the related goods or services are provided, at which point it is recognized as earned revenue.
In the context of taxation, unearned income refers to income received from sources other than employment wages, salaries, tips, and other employee compensations. Examples of unearned income for tax purposes include dividends, interest, rents, royalties, and annuities.
Examples
- Advance Rent Payment: A landlord receives rent payment for the next six months in advance from a tenant. This rent received in advance is considered unearned income until the corresponding months’ services are provided.
- Annual Subscription Fee: A software company receives an annual subscription payment from a customer at the beginning of the year. The company considers this payment as unearned revenue until it provides software services to the customer throughout the year.
- Prepaid Insurance Premiums: An insurance company receives a premium payment for an annual insurance policy. The amount is recorded as unearned revenue and gradually recognized as revenue each month as the insurance coverage is provided.
Frequently Asked Questions (FAQs)
Q1: Why is unearned income considered a liability in accounting?
A1: Unearned income is considered a liability because the company has received payment for goods or services it has yet to deliver. This creates an obligation to provide those goods or services in the future.
Q2: How is unearned revenue different from earned revenue?
A2: Unearned revenue is income received before the related goods or services have been provided, whereas earned revenue is income recognized when goods or services have already been delivered or completed.
Q3: Can unearned revenue be found in the income statement?
A3: No, unearned revenue appears on the balance sheet as a current liability. It only moves to the income statement as earned revenue once the associated services or goods are delivered.
Q4: Is unearned income taxed differently from earned income?
A4: Unearned income, such as interest, dividends, and rent, can be subject to different tax rules, rates, and benefits compared to earned income, which includes wages, salaries, and tips.
Q5: How do businesses typically manage unearned revenue?
A5: Businesses manage unearned revenue by initially recording it as a liability and systematically transferring parts of it to earned revenue as the goods or services are provided over time.
Related Terms
- Current Liability: Obligations a company must pay within one year, including unearned revenue.
- Balance Sheet: A financial statement that reports a company’s assets, liabilities, and shareholders’ equity at a specific point in time.
- Deferred Revenue: Another term for unearned revenue, indicating income received but not yet earned.
- Earned Revenue: Income recognized when goods or services have been delivered or completed.
- Accounts Receivable: Money owed to a company by its customers for goods or services already delivered.
Online References and Resources
Suggested Books for Further Studies
- Intermediate Accounting by Donald E. Kieso, Jerry J. Weygandt, and Terry D. Warfield
- Financial Accounting by Robert Libby, Patricia A. Libby, and Daniel G. Short
- Accounting Principles by Jerry J. Weygandt, Paul D. Kimmel, and Donald E. Kieso
Fundamentals of Unearned Income (Revenue): Accounting and Taxation Basics Quiz
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