Revenue Recognition Principle

What is the Revenue Recognition Principle?

The revenue recognition principle, sometimes referred to as the realization concept, is one of the fundamental accounting principles which is used to determine when revenue is recognized in accounts.

Generally it means that revenue is recognized when the rewards and benefits of a product or service are transferred to the customer and the customer incurs liability for them. In addition, to be recognized, the revenue must also be reliably quantified and recoverable.

Normally, the revenue recognition principle means that the revenue is recognized when the product is delivered to the customer of the service is performed, not when the order is received or the contract signed or when the goods or services are paid for.

For example, suppose a business charges an annual subscription of 1,200 in advance for use of its online service. The order has been placed by the customer and cash has been received from them.

Applying the revenue recognition principle means that revenue is only recognized when the customer has used the service, in this instance, this means that each month the business will recognize 1,200 / 12 = 100 of revenue. As the revenue is quantifiable (100) and recoverable, the amount will be brought into the accounts.

For further information see the Wikipedia revenue recognition principle definition.

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