Revenue Recognition for Startups: When and How to Record Income Accurately

For startups, especially those navigating the early revenue phase, understanding when to record revenue isn’t just a matter of habit—it’s a compliance issue and a crucial signal to investors, accountants, and future acquirers.

The concept may sound simple: "We got paid, let’s count it as revenue." But if you're recording income when cash hits the bank rather than when it's earned, you could be misleading your financials.

Let’s break down how revenue recognition works—especially under ASC 606, the US GAAP standard—and what that means for your startup.

What is Revenue Recognition?

Revenue recognition is the process of determining when revenue should be recorded in your financial statements. Under U.S. GAAP, and specifically ASC 606, revenue is recognized when it is earned and realizable, not just when cash is received.

The 5-Step Model (ASC 606)

ASC 606 introduced a unified framework for revenue recognition across industries. Here's the 5-step model:

1. Identify the contract

Agreement (written or oral) between the startup and customer that creates enforceable rights and obligations.

2. Identify performance obligations

What are you delivering? A software subscription? A one-time setup service? Each item delivered to the customer may be a separate obligation.

3. Determine the transaction price

How much will the company receive for delivering the promised goods or services?

4. Allocate the transaction price

If multiple obligations exist, allocate the price proportionally. E.g., $1,000 for software and $200 for onboarding.

5. Recognize revenue when/as performance obligations are satisfied

This is the core. Revenue is recognized over time or at a point in time, depending on delivery.

Examples of Revenue Recognition for Startups

Let’s look at how this plays out in different startup models:

🌐 SaaS Startup

Scenario: You offer a $120/month subscription billed annually at $1,440.

Wrong way: Record full $1,440 in January. Right way: Recognize $120/month for 12 months. Record the rest as deferred revenue (a liability).

🛒 Ecommerce Startup

Scenario: You sell a product for $50. The customer pays today; you ship in 5 days.

Wrong way: Record $50 as revenue today. Right way: Record revenue when the product ships, assuming delivery is your performance obligation.

👨‍💻 Service-Based Startup

Scenario: You offer a $10,000 project with milestone payments.

Right way: Recognize revenue as milestones are completed (or % of work completed), not when invoices are sent.

⚠️ Common Mistakes to Avoid

Recording deposits or prepayments as revenue → Should be recorded as liabilities until service is delivered.

Recognizing full contract value upfront → You need to spread it over the service period.

Using cash basis accounting in accrual settings → Most investors and GAAP-based books require accrual accounting.

🗃️ Deferred Revenue: The Flip Side

Deferred revenue (or unearned revenue) is a liability, not income.

Why? Because you've received money for services/products you haven't delivered yet.

Example: You receive $1,200 in January for a 12-month service

• Recognize $100/month as revenue

• $1,100 is deferred at end of January

• By December, deferred revenue is $0

This concept is critical when preparing books for fundraising or due diligence.

Build a Simple Revenue Recognition Tracker (Template Available)

Use Google Sheets or Excel to track:

Customer	Invoice Date	Amount	Period	Revenue Recognized	Deferred Revenue
ABC Inc.	Jan 1	$1,200	Jan–Dec	$100	$1,100

🧠 Real-World Anecdote

“We had raised a seed round and looked profitable—until our new controller adjusted for deferred revenue. Suddenly, our ‘profits’ disappeared, and we realized how off our tracking had been.” — Founder of a B2B SaaS company

✅ Checklist: When to Recognize Revenue

✔ Is there a valid contract? ✔ Have you delivered all or part of the promised service/product? ✔ Have you recorded prepayments as deferred revenue, not income? ✔ Are you using accrual accounting standards?

If all signs point to “yes,” you’re safe to recognize revenue.

📘 Final Thoughts

Getting revenue recognition right early is critical for:

• Reliable internal metrics

• Tax filings

• Fundraising and audits

• Eventual exit or acquisition

It doesn’t need to be overly complex—but it does need to be intentional.