Client Deposit Accounting for Professional Services: US GAAP Requirements and Month-End Reconciliation

Why Client Deposits Are Liabilities, Not Revenue, Under US GAAP

Receiving a significant upfront payment from a new client feels like a major win. The cash provides a welcome buffer to your startup’s runway, and the immediate instinct for many founders is to book it as revenue. However, this common mistake can lead to a distorted view of your company's financial health, creating unexpected tax liabilities and difficult questions from investors. For US-based professional services firms, understanding how to record client deposits under US GAAP is a foundational pillar of sound financial management. Properly handling these advance payments ensures your books are accurate and truly reflect your business performance. For more, see the Client Deposits & Retainer Accounting hub.

The core reason a client deposit is not immediate revenue lies in the principles of accrual accounting, which US GAAP mandates. Accrual accounting separates the timing of cash collection from the process of earning revenue. The cash in your bank is not yours to claim as income until you deliver the promised service or product. As the rule states, "Under US Generally Accepted Accounting Principles (US GAAP), revenue can only be recognized when it is earned, not when cash is received." Until you perform the work, that cash represents an obligation to your client. It is money you might have to return if you fail to deliver.

In accounting terms, this obligation is a liability. This is a critical aspect of correct prepaid income treatment. The standard dictates that "A prepayment for future services or products is recorded as a liability, commonly named 'Unearned Revenue' or 'Deferred Revenue'." This liability account appears on your balance sheet, not your income statement, reflecting your promise to perform future work. It is a common point of confusion, but even non-refundable deposits are treated this way. The guidance is clear: "Both refundable and non-refundable deposits are treated as liabilities until the associated performance obligation is met." The key to converting this liability into revenue is fulfilling your contractual duties, formally triggered by "the fulfillment of a 'performance obligation' as defined by accounting standard ASC 606."

How to Record Client Deposits Under US GAAP: A 3-Step Playbook

Proper client funds management follows a clear, repeatable process. This three-step playbook breaks down the lifecycle of a deposit, from initial receipt to final revenue recognition, ensuring your financial records remain clean and compliant.

Step 1: Record the Initial Deposit as a Liability

When you first receive cash from a client for future work, you must record it correctly in your accounting system. The first action is to set up the right account in your general ledger. For those using QuickBooks, "In accounting software like QuickBooks, the 'Unearned Revenue' account should be set up with the account type 'Other Current Liability'." You can create this by navigating to your Chart of Accounts, selecting 'New', choosing 'Other Current Liability' as the account type, and naming it 'Unearned Revenue' or 'Client Deposits'.

Once the account exists, you record the cash receipt with a journal entry. "The journal entry to record an initial deposit is a Debit to Cash and a Credit to a liability account (e.g., Unearned Revenue)." This entry increases your cash and simultaneously increases your liabilities, with no immediate impact on revenue.

For example, imagine your consulting firm signs a new client and receives a $15,000 retainer. The journal entry is:

• Debit: Cash $15,000
• Credit: Unearned Revenue $15,000

The impact on your financials is specific: your Cash asset on the balance sheet increases by $15,000, and your Unearned Revenue liability also increases by $15,000. Your income statement is not affected at all, correctly showing that you have not yet earned any revenue.

Step 2: Recognize Revenue as You Fulfill Obligations

The process of converting the liability into revenue over time is often called a "drawdown." This happens as you fulfill your performance obligations. At the end of each accounting period, typically monthly, you calculate how much of the service has been delivered and recognize that portion as revenue. This process is repeated each month until the liability is zero and all the revenue has been recognized. For a detailed walkthrough, see our guide on the Deferred Revenue from Retainers: Monthly Process.

The journal entry for this step reduces the liability and increases revenue. "The journal entry to recognize earned revenue is a Debit to the liability account (e.g., Unearned Revenue) and a Credit to a revenue account (e.g., Sales Revenue)."

Continuing with the consulting firm example, the $15,000 retainer covers a three-month project. At the end of the first month, the firm determines it has completed one-third of the work and has therefore earned $5,000.

The journal entry to recognize this earned portion is:

• Debit: Unearned Revenue $5,000
• Credit: Consulting Revenue $5,000

After this entry, your Unearned Revenue liability on the balance sheet is reduced to $10,000, and your income statement now correctly shows $5,000 in revenue for the month.

Step 3: Perform a Month-End Reconciliation

To ensure your Unearned Revenue balance is accurate and auditable, a month-end reconciliation is essential. This process validates the number in your accounting system against the operational reality of your client contracts. For most early-stage startups, a simple three-way check can prevent major reporting errors and provide confidence in your financials.

This reconciliation involves matching three sources of information:

1. General Ledger Balance: The final balance of your 'Unearned Revenue' account in your accounting software.
2. Tracking Schedule: A detailed log, often in a spreadsheet, that lists each client’s deposit, the amounts earned each month, and the remaining liability. A simple schedule includes columns for Client Name, Deposit Amount, Date Earned, Amount Earned, and Remaining Liability.
3. Client Contracts: The source documents, such as Statements of Work, that outline the total scope and value, confirming what performance obligations have been met.

The goal is simple: the total remaining liability across all clients on your tracking schedule must equal the Unearned Revenue balance in your QuickBooks general ledger. This check keeps your records audit-ready and provides clear visibility for investors.

From Manual Tracking to Automated Retainer Accounting

For a founder managing the company's finances, getting retainer fee accounting right is more than a compliance exercise; it's a critical part of understanding your business. The core principle of unearned revenue US GAAP is to separate cash collection from revenue recognition. The cash you receive upfront is not revenue until you have delivered the agreed-upon service.

Setting up a dedicated 'Other Current Liability' account in QuickBooks for professional services deposits is the first practical step. This structure prevents the overstatement of revenue and the associated miscalculation of tax obligations, directly addressing a primary pain point for early-stage companies.

While a spreadsheet is sufficient for tracking drawdowns for a few client deposits, it quickly becomes error-prone as your business grows. Manual data entry, complex formulas, and the risk of version control issues can lead to significant inaccuracies. Almost every founder reaches the point where manual tracking is no longer sustainable. As a general rule, when you have more than five to ten active retainers, it’s time to consider more automated solutions to maintain accuracy and save time.

Ultimately, disciplined advance payments accounting provides a true and fair view of your company's financial position. It ensures your revenue figures are defensible, your runway calculations are based on earned income rather than cash in the bank, and your business is built on a solid, auditable financial foundation. For broader best practices, refer to the Client Deposits & Retainer Accounting hub.

Frequently Asked Questions

Q: What is the difference between unearned revenue and a client retainer?
A: A retainer is a pricing model, while unearned revenue is the formal accounting classification for the cash received under that model. When a client pays a retainer fee, that cash is recorded as unearned revenue, a liability. As you deliver the agreed-upon services, you systematically convert that liability into earned revenue.

Q: Are non-refundable deposits also treated as liabilities under US GAAP?
A: Yes. US GAAP requires that both refundable and non-refundable deposits for future services are initially recorded as liabilities. The non-refundable clause affects how you treat the funds if a contract is terminated, but it does not change the initial accounting principle that revenue can only be recognized when earned.

Q: How does this accounting change if a client cancels a project?
A: If a project is canceled, the treatment of the remaining deposit depends on your contract. If the funds are refundable, you return the cash and reverse the liability. If the deposit is non-refundable and all performance obligations are officially terminated, you can typically recognize the remaining unearned revenue balance as income at that point.