Cash in the bank is not the same as income earned. A customer who pays £6,000 in January for a year’s support has given you a year’s obligation, not £6,000 of January profit. Deferred income (also called income received in advance or contract liabilities) is the balance sheet account that holds that money until you have done the work.
Getting this right matters for any business that sells subscriptions, annual contracts, retainers, courses, memberships or service packages paid upfront. Without it, the month a big annual renewal arrives looks spectacular and the following eleven look like losses.
The principle
Under UK GAAP (FRS 102, Section 23 for the revenue rules), revenue is recognised when you deliver what you promised the customer: over time as a service is performed, or at a point in time, usually delivery, for goods. For accounting periods beginning on or after 1 January 2026, Section 23 sets this out as a five-step model built around performance obligations; for a simple subscription or retainer the practical result is the same as before. Smaller entities applying FRS 102 Section 1A follow the same recognition rules, and micro-entities under FRS 105 apply a simpler version of the same idea. In plain terms:
- Earned means you have delivered what the customer paid for, in whole or in part.
- Received is just cash. It can come before, at the same time as, or after the revenue is earned.
When it comes before, the gap sits in deferred income.
Typical sources of deferred income
| Arrangement | How revenue is usually earned |
|---|---|
| Annual software or support subscription paid upfront | Evenly over the subscription period |
| Retainer for a fixed monthly service, billed quarterly in advance | Month by month as each month’s service is given |
| Training course paid in advance | When the course is delivered |
| Membership with a fixed term | Evenly over the membership term |
| Set-up fee that has no value to the customer on its own | Usually spread over the period of the service it relates to |
| Gift vouchers | When the voucher is redeemed (or when it expires unused, depending on your policy) |
A deposit for goods or a one-off service that has not yet been delivered is similar, but usually sits in a customer deposits account until the job is done; see customer prepayments in the chart of accounts.
Worked example: an annual subscription
On 1 October a customer pays £7,200 including VAT (£6,000 net) for a twelve-month subscription. Your financial year ends 31 December.
On invoicing and receipt (1 October)
| Account | Debit | Credit |
|---|---|---|
| Bank | £7,200 | |
| Output VAT | £1,200 | |
| Deferred income | £6,000 |
Each month, from October
| Account | Debit | Credit |
|---|---|---|
| Deferred income | £500 | |
| Subscription revenue | £500 |
At 31 December, three months have been earned: £1,500 of revenue is in the profit and loss account, and £4,500 remains in deferred income as a liability in creditors due within one year.
An alternative is to post the full £6,000 to revenue and make one adjustment at month end moving the unearned portion to deferred income. Both reach the same result. The monthly release is easier to review because the deferred income balance always matches a schedule.
Keep a deferred income schedule
For every item in the account, track customer, invoice, total amount, start and end date, monthly release and remaining balance. At each month end the schedule total must equal the nominal ledger balance. If you have many subscriptions, a billing system that handles revenue schedules will do this for you; if you invoice from your accounting software, a spreadsheet updated with each new invoice works.
VAT follows different rules
Revenue recognition and VAT are separate. VAT is due according to the tax point, which for a payment received in advance or an invoice issued in advance is generally the earlier of the payment and the invoice. In the example above, the full £1,200 of VAT belongs in the VAT return covering 1 October, even though only £500 of revenue is earned that month. Do not spread the VAT along with the revenue. The tax point rules for advance payments are covered in VAT on advance payments and tax points, and subscriptions in particular in VAT on subscriptions and recurring billing.
Mistakes to look for
- Recognising annual renewals in one month. Look for spikes in revenue that match renewal dates.
- Deferring income that is already earned. A deferred balance that never reduces usually means the release journal is missing.
- Refunds and cancellations not taken out of deferred income, leaving a liability for a service you no longer owe.
- Mixing deferred income with customer deposits or accruals. Keep them in separate accounts so each can be reconciled.
The opposite case, revenue earned before you invoice, is covered in unbilled revenue at period end.