The IRS wants the revenue collected to be accounted for over the period the payment entitles the customer to get the service.
In the case of software sales and SaaS this is called revenue recognition.
Presently, GAAP has complex, detailed, and disparate revenue recognition requirements for specific transactions and industries including, for example, software and real estate. As a result, different industries use different accounting for economically similar transactions.
Revenue Recognition is the process of converting cash from ‘bookings’ into ‘revenue’.
Under the Generally Accepted Accounting Principle (GAAP), revenue recognition is the condition under which revenue is recognized and provides a way to account for it in the financial statements. It is as simple as it sounds but taking the literal value of it might not be the best way to account for revenue in SaaS businesses.
Let’s say a customer has signed an annual contract of $12,000 at $1,000 per month. Can the $12,000 be recognized as revenue immediately? Not really. From a SaaS accounting perspective, the revenue can be recognized only when the said product/service obligations are satisfied. So in this basic example, $1,000 revenue can be recognized every month in return for the product/service delivered, until the end of the contract.
Simply put, revenue recognition is about when a performance obligation is satisfied with a customer.
Revenue recognition is important for SaaS businesses because the amount of revenue that may be earned in a given period may not relate to the amount billed or cash collected.
