How to Record Customer Deposits Without Inflating Your Revenue

A landscape design-build firm takes a 50% deposit before it will schedule anything — $9,000 on an $18,000 patio, collected on April 8. The crew starts in late May. The stone is delivered in June. Somewhere in those two months sits the moment that $9,000 stops being a debt and becomes a sale, and getting the date wrong quietly rewrites two quarters of results.

Prepaid money is one of the few things in small business bookkeeping where the honest answer and the intuitive answer point in opposite directions. This piece covers how to record customer deposits from collection through completion, using that patio project as the running example, plus a second thread most service businesses will recognise: an annual maintenance plan billed up front at $1,440.

The Only Question a Deposit Ever Asks: Have You Earned It?

Accrual accounting has one governing idea about revenue — it belongs to the period in which you did the thing, not the period the money moved. On April 8 the firm has $9,000 and a bare yard. If the client walked away that evening, most of that money would be going back.

An amount you may have to return is a liability by definition. So it goes on the balance sheet and waits there, an obligation expressed in work rather than cash: we owe this client a patio. Only delivery converts it into revenue. (If the two-sided nature of that entry is unfamiliar territory, double-entry bookkeeping explained is a short read.)

Does a customer deposit count as revenue?

On the accrual basis, no. The deposit is unearned, so it belongs in a liability account until the obligation is discharged. Call it a sale in April and you flatter a quiet month, starve the busy one, drag a tax liability into the wrong year, and hand yourself a profit and loss statement that no longer describes what the crew actually built.

Cash-basis books work differently on purpose — income is recorded when the cash arrives, and that is perfectly legitimate for plenty of small businesses. Which basis suits you is a separate decision, covered in cash basis or accrual basis. Everything that follows assumes accrual, because deposits are precisely where the two methods part company.

Where the Money Should Sit While You Wait

Prepaid cash goes astray mainly because nobody built it a home in advance. Four accounts cover almost every case — add them to your chart of accounts before you take the first payment:

Entry One: Collecting the Deposit

April 8. The client signs and transfers $9,000 against an $18,000 project.

Notice what is absent: any income account, and any invoice. That second omission surprises people. There is nothing to invoice yet, because nothing has been delivered — a deposit is not a receivables transaction at all, and forcing it into one is where credit balances in A/R come from.

Is sales tax due when you take a deposit?

Check your own jurisdiction before you decide, because practice varies more than you would expect. Many places treat delivery as the taxable event, which puts the tax on the closing invoice and leaves the deposit tax-free. Others levy it the moment a non-refundable deposit changes hands. The real stakes are which return period the tax lands in — get that wrong and the fix is an amended filing rather than a corrected journal. Once you know your rule, recording sales tax correctly covers the mechanics.

Bank account or Undeposited Funds?

Treat it like any other client payment. Cheques that go to the branch in a batch should route through Undeposited Funds so the bank line matches the slip you handed over. A card settlement or transfer landing on its own can post straight to the bank. The credit side never changes — it is the liability either way.

Entry Two: Releasing It When the Work Is Done

June 12. The patio is finished and signed off, so the revenue is finally earned. The invoice goes out for the whole project and the deposit is released against it. With sales tax at 6% on $18,000, the invoice totals $19,080:

Look at the shape rather than the numbers: the full $18,000 reaches income, the liability empties, and receivables carry only the $10,080 still genuinely outstanding. That last point has teeth — a deposit left un-released means your A/R aging report spends the next quarter chasing money already sitting in your bank.

Liabilities that only ever climb are one of the loudest signals in a small company’s books. A deposits balance is supposed to breathe — up when you win work, down when you finish it. If yours only inhales, jobs are closing without anyone releasing them.

How do you handle a project that spans several months?

Release the deposit alongside the work rather than in a single lump at handover. Break the patio into stages — design signed off, base and drainage laid, stone set — and recognise a share of the revenue as each stage completes, drawing the deposit down in step. That is percentage-of-completion in miniature, and it is the same discipline that makes job costing worth doing: costs and revenue land in the same month, so each project’s margin reflects the work instead of the client’s payment habits.

The annual maintenance plan is the tidier cousin. Collect $1,440 in January, credit Deferred Revenue, then move $120 a month into income as each month is served. Twelve small entries, and the liability winds down to zero by December on its own schedule. Where contracts get genuinely complex — several deliverables bundled at one price, or milestones spread over years — the formal frameworks are ASC 606 under US GAAP and IFRS 15: identify each promise, allocate the price across them, recognise as each is satisfied.

Deposits, Deferred Revenue and Retainers Are Not Interchangeable

Everyday speech blurs these three. Your ledger shouldn’t.

One distinction is not merely tidy-mindedness: money held in trust, such as a law firm’s client funds, is not a deposit you may spend. It belongs in a segregated bank account with a liability that matches it to the cent, and letting it mingle with operating cash is a regulatory problem long before it is an accounting one.

When the Client Walks Away

Everything turns on whether the money goes back. A refund settles the obligation in cash — debit Customer Deposits $9,000, credit the bank $9,000 — and never touches the profit and loss statement, which is correct, because nothing was ever earned.

Is a forfeited deposit taxable income?

It is. If the deposit is non-refundable and the client cancels, your duty to deliver has ended and the amount has been earned on the cancellation date:

Give forfeits their own income account rather than blending them into sales. They are genuine income, but they are not landscaping work, and mixing the two makes your revenue line overstate how much you actually built. A partial refund is simply both treatments at once: the returned share against the bank, the retained share to Forfeited Deposits. Moving a deposit onto a different job for the same client changes nothing at all in the ledger — only the note about which project it is holding.

Five Ways the Balance Goes Wrong

1. Booked straight to income. Inflates the month the cash arrived and hollows out the month you delivered. Look hard at any suspiciously strong quiet month.
2. Collected but never released. The client is billed the full price on top of what they already paid, and the liability climbs forever. This is the failure, by a distance.
3. Applied to an invoice that doesn’t exist yet. Leaves a credit balance in receivables that quietly nets against real debtors and makes the aging report untrustworthy.
4. Tax charged at the wrong moment. Lands the sales tax in the wrong period. Trivial to avoid, tedious to unwind.
5. Never reviewed. List open deposits by client during each month-end close and tie the total back to the account balance.

How Kantivo Handles Prepayments

Deposits are exactly the kind of work software should carry, because nothing ever errors — the balance simply drifts away from reality.

• Prepayments are a first-class concept. Record a client payment with no invoice selected and Kantivo holds the unapplied amount as a customer credit, waiting for the invoice that eventually bills the job.
• Releasing it takes one step. Apply the held credit to the closing invoice and the liability clears itself, leaving only the true balance on the aging report.
• The liability accounts already exist. Customer Deposits and Deferred Revenue ship as Other Current Liability accounts, so nobody has to invent a destination halfway through entering a payment.
• Undeposited Funds groups several client payments into a single bank deposit, so what your statement shows and what your ledger shows are the same line.
• Full ASC 606 revenue recognition is built in for contracts that warrant it — straight-line, milestone and percentage-of-completion schedules that post their own entries, plus audit disclosures including a deferred revenue rollforward.
• A genuine double-entry ledger underneath means the liability, the income and the bank can never silently disagree; an unbalanced entry never posts in the first place.

Frequently Asked Questions

How do you record a deposit from a customer?

Two lines. Debit the bank, or Undeposited Funds if it’s going in with other payments, for the cash received; credit a liability called Customer Deposits or Deferred Revenue. Revenue is untouched, because nothing has been delivered. A later entry clears the liability and books the sale, leaving only the unpaid remainder as a receivable.

Does a customer deposit count as revenue?

Not on the accrual basis. Revenue is recognised when the work is delivered, and a deposit precedes that, so it’s an obligation rather than a sale. Treating it as revenue flatters the month the money arrived and starves the month you did the work. Cash-basis books are the exception — they record income as cash comes in.

Customer deposit or deferred revenue — which account should I use?

Customer Deposits for money attached to one identifiable job; Deferred Revenue for amounts earned steadily, like an annual plan or subscription. Both are current liabilities, so the balance sheet reads the same — but separating them makes month-end quicker, because each empties on a different rhythm.

Is sales tax due when you take a deposit?

Your state or province decides, and the rules are inconsistent. Commonly, delivery is the taxable event and the tax goes on the closing invoice; elsewhere a non-refundable deposit triggers it straight away. Confirm your local rule — the consequence is which return period the tax belongs to, and a mistake there means amending a filing.

Is a forfeited deposit taxable income?

Yes. Once the client cancels and you’re entitled to keep the money, the obligation has ended and the amount is earned. Debit the deposit liability and credit a separate income account so your sales trend still reflects work shipped. Refunding instead just reverses the original entry and creates no income at all.

Why won’t my customer deposits account come down?

Because deposits are collected but not released when the finished job is invoiced — which also means those clients are asked to pay full price on top of what they already sent. Review it monthly: list the open jobs that should make up the balance and compare. Anything older than your longest project is a completed job with an unreleased deposit.

Where This Leaves You

The whole subject collapses into one line: money you hold but haven’t earned is a debt, and it becomes revenue on the day you deliver rather than the day it arrives. Two entries carry that idea from start to finish — one when the cash lands, one when the job closes.

Post the first one by hand so the shape stays with you. After that the only habit that matters is a monthly glance at the liability: it should rise as you win work and fall as you finish it. A deposits balance that only ever climbs is trying to tell you something, and September is a much better time to hear it than the following April.

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