---
name: "revenue_recognition"
description: "Apply ASC 606 revenue recognition to real contracts: walk the five-step model, identify distinct performance obligations, allocate transaction price by standalone selling price, and build defensible recognition schedules for SaaS and multi-element deals. Triggers when revenue timing, deferred revenue, contract analysis, or audit questions come up."
metadata: { "includeInPrompt": true }
---

# Revenue Recognition (ASC 606)

## Purpose

Turn a contract with a customer into a defensible answer: how much revenue,
in which periods, with what audit trail. Covers the full five-step model,
contract analysis, SaaS and multi-element arrangements, variable
consideration, and the common pitfalls that draw audit findings.

The core principle of ASC 606: recognize revenue when control of goods or
services transfers to the customer, in an amount reflecting the
consideration you expect to receive. (FASB issued ASC 606 as ASU 2014-09 in
May 2014; the IASB's IFRS 15 is nearly identical.)

## Workflow

1. **Collect the contract.** Get the signed agreement, amendments, SOWs,
   order forms, and the billing schedule. Verbal terms and side emails
   count if they create enforceable rights. If there is no enforceable
   agreement, stop: revenue recognition starts at Step 1, not at the
   invoice.
2. **Walk the five steps**, in order. Each step has decision criteria,
   listed below. Document the judgment at each step, especially Step 2
   (distinct obligations) and Step 4 (SSP evidence), where audit findings
   cluster.
3. **Build the schedule.** Allocate the transaction price to obligations
   by relative standalone selling prices, then map each obligation to its
   recognition pattern: point in time or over time. Use
   `bin/allocate.py` for the allocation math and a first-draft schedule.
4. **Sanity check.** Roll-forward test: opening deferred balance plus
   billings minus recognized revenue must equal closing deferred balance,
   and the closing balance must tie to the GL. Total recognized over the
   contract's life must equal the transaction price exactly.
5. **Write the memo.** One short memo per material arrangement: contract
   summary, obligations identified and why, transaction price including
   variable consideration, SSP evidence and allocation, timing and
   method, entries, and open judgments. See `references/` for templates
   and two worked examples.

### The five steps, operationally

**Step 1: Identify the contract.** All must hold: the parties approved it
and are committed; each party's rights are identifiable; payment terms are
identifiable; the contract has commercial substance; collection of the
consideration is probable.

**Step 2: Identify performance obligations.** A promised good or service is
a distinct obligation when (a) the customer can benefit from it on its own
or with readily available resources, and (b) it is separately identifiable
in the contract. Implementation work that a third party could perform is
usually distinct. Work so customized and integral to the software that the
software is unusable without it is usually NOT distinct and gets bundled
into the subscription.

**Step 3: Determine the transaction price.** The amount you expect to
receive. Watch for: variable consideration (discounts, rebates, refunds,
usage fees, milestone payments) which must be constrained so that a
significant reversal is improbable; significant financing components
(payment more than a year ahead of or behind delivery); noncash
consideration; and amounts payable back to the customer.

**Step 4: Allocate the price.** Allocate by relative standalone selling
prices (SSPs). A bundle discount spreads proportionally across obligations
by default; it moves to specific deliverables only with evidence it relates
to them. SSP evidence hierarchy: (1) observable standalone price,
(2) adjusted market assessment, (3) expected cost plus margin,
(4) residual method, but only when the price is highly variable or
uncertain.

**Step 5: Recognize revenue.** Point in time when control transfers:
indicators include legal title, physical possession, right to payment, and
customer acceptance. Over time when any one holds: the customer receives
and consumes benefits as you perform (e.g. cleaning services); your work
creates or enhances an asset the customer controls (e.g. construction on
their site); the deliverable has no alternative use to you AND you have an
enforceable right to payment for work done.

### Journal patterns

- Annual SaaS of 12,000 invoiced up front on Jan 1:
  `Dr AR 12,000 / Cr Deferred revenue 12,000`, then monthly
  `Dr Deferred revenue 1,000 / Cr Revenue 1,000`.
- Revenue earned but not yet billable is a **contract asset**;
  payment received before performance is a **contract liability**
  (deferred revenue); a plain receivable exists only when the only thing
  left is the passage of time.
- When estimates change mid-contract, book a documented catch-up entry;
  never just adjust forward silently.

## Output Contract

Given a contract plus facts about what was delivered and billed, deliver:

- The five-step walkthrough with each judgment stated and sourced
- The allocation table (obligation, SSP, SSP share, allocated amount)
- The period-by-period recognition schedule
- Journal entries for the current and upcoming periods
- A roll-forward tie-out (opening deferred + billings - recognized =
  closing deferred, tied to GL)
- A memo listing open judgments, SSP evidence, and assumptions made

## Operating Rules

1. Never invent numbers, dates, quotes, or events. Every factual claim in
   the analysis must come from the contract, the client's books, or a
   verified source. Unverifiable goes in the memo as an open judgment, or
   gets cut.
2. Do the steps in order. Skipping Step 2 for bundled contracts is the
   most common substantive error.
3. Revenue is not recognized on invoice or cash receipt. Invoicing sets up
   the receivable and the contract liability; recognition follows
   transfer of control.
4. Document SSP evidence as you go. An allocation without supportable SSPs
   will not survive audit scrutiny.
5. Constrain variable consideration. If you cannot say reversal is
   improbable, hold the amount back.
6. This skill does not give legal or tax advice and does not sign an
   audit opinion. For material arrangements, route the memo to a licensed
   CPA before it ships.