Revenue recognition principle

Definition

Revenue recognition principle dictates that revenue should be recognized when it is earned and realizable, regardless of when cash is received. This principle ensures that financial statements reflect the actual economic activity during a period.

5 Must Know Facts For Your Next Test

1. Revenue is considered earned when goods are delivered or services are rendered.
2. The revenue recognition principle is a cornerstone of accrual accounting.
3. This principle helps in matching revenues with expenses incurred to generate those revenues.
4. Deferred revenue occurs when payment is received before delivering goods or services.
5. Violating the revenue recognition principle can lead to misstated financial statements and potential legal consequences.

Review Questions

• When should revenue be recognized according to the revenue recognition principle?
• How does the revenue recognition principle relate to accrual accounting?
• What happens if a company receives payment for goods before they are delivered?

Related terms

Accrual Accounting:

A method where revenues and expenses are recorded when they are earned or incurred, not necessarily when cash is received or paid.

Deferred Revenue:

A liability account used when a company receives payment for goods or services that have yet to be delivered or performed.

Matching Principle:

An accounting concept that dictates expenses should be recorded in the same period as the revenues they helped generate.