The problems related to revenue recognition arises when these two essential GAAP conditions mentioned above take place at different accounting periods. For instance, how to account for payment received in April for a product sold in January? When payment does not accompany point of sale, GAAP recommends recording revenue on account.
Record revenue when “earned," that is when “billed" and payment received. If actual transaction takes place in an earlier period, create a credit entry for the revenue earned, and a simultaneous debit entry for the same amount as account receivables, in the balance sheet for the period when the actual transaction takes place. Adjust the account receivable as income in the balance sheet for the period when receiving payment. When selling on credit, record the same as account receivables, and adjust the account receivables as income on receipt of payment. Advance payments are unearned revenue, and recorded as liabilities or accounts payable, reflecting the company's obligation to deliver product in the future. Adjust such accounts payables to income on completion of the transaction.
Adjustments usually occur at the end of each accounting period. Every situation is unique, and requires thoughtful consideration. For instance, adjusting multiple payments, or installments make adjustment complex, as does bundled items, such as a product sold with a service contract that may extend for two years, or even lifetime replacement guarantee! The same principles nevertheless apply.
One important point to consider is the “matching principle," or associating cause and effect. Recording expenses related to the income generated, such as commissions, cost of inventory, and others in the same period of revenue recognition. Record costs not linked to any production of revenue at time of occurrence.