Last reviewed October 7, 2026 · By the NYBACS advisory team
Short answer
Prepare revenue for audit by applying the ASC 606 five-step model to each type of customer arrangement, writing a short revenue policy memo, and keeping evidence the auditor can trace: a contract inventory, invoices, delivery or usage records, and a deferred revenue schedule that reconciles to the ledger and the billing system. Revenue is usually the highest-risk area in an audit, so cutoff and gross-versus-net presentation deserve particular attention.
Key takeaways
- ASC 606's core principle is to recognize revenue when control of goods or services passes to the customer, in the amount the company expects to be entitled to.
- The five steps are: identify the contract, identify the performance obligations, determine the transaction price, allocate the price, and recognize revenue when (or as) each obligation is satisfied.
- Auditing standards presume a risk of fraud in revenue recognition, so auditors typically test revenue more heavily than most other accounts.
- Cash received in advance is a liability (deferred revenue or a contract liability) until the related service or product is delivered.
- Whether revenue is shown gross or net of a third party's share depends on whether the company is the principal or an agent in the arrangement.
The five steps in plain English
- Identify the contract. An agreement with a customer that creates enforceable rights and obligations: a signed order form, accepted online terms, or a purchase order. Collection of the consideration must be probable.
- Identify the performance obligations. The distinct things you promised: software access, onboarding, hardware, support, a consulting deliverable.
- Determine the transaction price. The amount you expect to receive, adjusted for discounts, rebates, refunds, credits and other variable amounts.
- Allocate the price. Split the transaction price across the obligations based on their relative standalone selling prices.
- Recognize revenue when (or as) each obligation is satisfied. At a point in time, such as delivery of goods, or over time, such as a 12-month subscription.
For a simple business selling one product per invoice, the steps collapse into "recognize on delivery". The work lies in businesses with bundles, upfront fees, multi-year contracts or usage pricing.
How common startup models usually play out
| Model | Typical treatment to evaluate | Audit focus |
|---|---|---|
| Annual SaaS paid upfront | Recognize ratably over the subscription; unearned portion is deferred revenue | Deferred revenue roll-forward |
| SaaS with implementation fee | Assess whether setup is a distinct service or part of the subscription | Policy memo and consistency |
| Usage or consumption pricing | Recognize as usage occurs | Usage data reconciled to invoices |
| Marketplace or platform sales | Determine principal vs agent; agent reports only its commission | Contract terms and control analysis |
| E-commerce product sales | Recognize when control passes, usually at shipment or delivery per terms | Cutoff around year-end; returns reserve |
| Fixed-fee consulting projects | Over time if criteria are met, otherwise on completion | Measure of progress support |
These are starting points, not conclusions. The specific contract terms decide the answer.
Build the evidence before the auditor asks
Auditors test revenue from two directions: from the ledger back to the contract (did this sale happen and was it recorded correctly?) and from contracts and shipments forward to the ledger (was everything recorded, in the right period?). Prepare:
- A revenue policy memo of one to three pages describing each revenue stream and how each of the five steps applies.
- A contract inventory listing customers, contract dates, terms, pricing, start and end dates and any non-standard clauses.
- A deferred revenue schedule rolling forward the opening balance, billings, revenue recognized and the closing balance, reconciled to the trial balance.
- Billing-system reconciliations tying invoices or charges in tools such as Stripe or a subscription platform to revenue in the ledger, with fees, refunds and chargebacks shown separately.
- Cutoff support for sales in the last and first weeks around year-end: delivery records, activation dates or acceptance emails.
Where revenue preparation usually goes wrong
Most revenue adjustments in early audits come from a few patterns. Payment-processor deposits are booked as revenue net of fees, understating both revenue and expenses. Annual plans are recognized on the payment date. Discounts, free months and credits granted by sales teams are not reflected in the transaction price. Side agreements by email change the terms of a signed contract but never reach finance.
Sales commissions paid to win multi-year contracts can also be relevant: US GAAP may require incremental costs of obtaining a contract to be capitalized and amortized, subject to a practical expedient for shorter contracts. Decide the policy deliberately and document it.
Keep metrics and GAAP revenue reconcilable
Founders report ARR, MRR, bookings and GMV to investors. None of these is GAAP revenue, and an auditor will not test them, but investors comparing a pitch deck to audited statements will notice unexplained gaps. Maintain a simple bridge from bookings or ARR to recognized revenue and deferred revenue each period, so differences are explained by timing and definitions rather than surprise. Include contract changes in the bridge too: upgrades, downgrades, cancellations and renewals priced differently from the original contract each affect recognized revenue in ways a simple ARR figure hides.
Common mistakes to avoid
- Recording payment-processor payouts as revenue net of fees, refunds and chargebacks.
- Recognizing annual or multi-year prepayments as revenue on receipt.
- Ignoring discounts, credits and free periods when determining the transaction price.
- Applying a different treatment to the same type of contract in different months.
- Leaving email side agreements and non-standard clauses out of the contract inventory.
- Presenting marketplace sales gross without analyzing whether the company is principal or agent.
NYBACS 360° support
How NYBACS helps
- Maps each of your revenue streams to the five-step model and drafts a revenue policy memo for management to approve and discuss with the auditor.
- Builds a contract inventory from your CRM, order forms and billing data.
- Reconciles Stripe, PayPal, Amazon or subscription-platform data to the ledger, separating gross sales, fees and refunds.
- Prepares a deferred revenue roll-forward that ties to the trial balance.
- Creates a bookings or ARR to GAAP revenue bridge for investor and board reporting.
Frequently Asked Questions
Does ASC 606 apply to private companies?
Yes. It applies to private companies reporting under US GAAP; private companies adopted it later than public companies, and it is now the standard for any company preparing US GAAP statements.
Is deferred revenue taxed the same way as for books?
Not necessarily. Tax rules for advance payments differ from GAAP in some situations, so the tax return and the audited statements can show different timing. Keep a reconciliation and confirm the tax position with your tax preparer.
We only have click-through terms, not signed contracts. Is that enough?
Accepted online terms can form a contract under ASC 606 if they create enforceable rights. Keep the version history of your terms and evidence of acceptance, such as account creation logs, so the auditor can link each customer to the terms in force.
How do auditors test usage-based revenue?
Typically by tracing usage data from the product system to invoices and to the ledger, and by assessing controls over the usage data itself. Exportable, timestamped usage records make this far easier.
