Deferred Revenue for SaaS Businesses (With a Simple Worked Example)

Deferred revenue is one of the most common sources of confusion for SaaS founders — and one of the most important concepts to get right if you want accurate numbers.

If you’ve ever looked at your bank balance and thought “we’re doing great”, only to be told by your accountant that profits are much lower, deferred revenue is usually the reason.

This guide explains what deferred revenue is, why it exists for SaaS businesses, and how it works in practice — with a clear example.

What is deferred revenue?

Deferred revenue is money you’ve already been paid, but haven’t yet earned.

In a SaaS business, customers usually pay:

• monthly in advance, or
• annually upfront for a discount

From a cash point of view, that money is yours the moment it hits your bank account.

From an accounting point of view, it isn’t fully revenue yet — because you still owe the customer access to your software over time.

Until you deliver that service, the unearned portion sits on your balance sheet as deferred revenue (a liability).

Why deferred revenue matters for SaaS

Deferred revenue exists to stop SaaS businesses from overstating performance.

Without it:

• profits would spike whenever annual plans renew
• results would be lumpy and misleading
• founders would make decisions based on inflated numbers

Deferred revenue smooths revenue recognition so your financials reflect:

• what you’ve actually delivered
• not just what you’ve invoiced or collected

This matters for:

• understanding true profitability
• managing runway
• investor reporting
• R&D claims
• VAT and audit readiness

Deferred revenue vs cash (important distinction)

A key mental shift for founders:

Cash tells you what you’ve been paid.
Revenue tells you what you’ve earned.

Deferred revenue is the gap between the two.

You can be:

• cash-rich but low-profit, or
• profitable but cash-poor

SaaS accounting is about understanding that difference early — before it catches you out.

A worked example: annual SaaS subscription

Let’s make this concrete.

The scenario

• A customer buys an annual SaaS plan
• Price: £1,200
• Billing: paid upfront on 1 January
• Service period: 1 January → 31 December

What happens in the bank

On 1 January:

• £1,200 hits your bank account
• Cash balance increases by £1,200

So far, so good.

What happens in accounting

You have not earned £1,200 on 1 January.

You’ve only earned the portion relating to the service delivered so far.

That means:

• Monthly revenue earned: £1,200 ÷ 12 = £100
• Revenue earned in January: £100
• Revenue not yet earned: £1,100

The accounting treatment

On 1 January:

• £100 → revenue (P&L)
• £1,100 → deferred revenue (balance sheet liability)

Each month:

• £100 moves from deferred revenue to revenue

By 31 December:

• Deferred revenue = £0
• Total recognised revenue = £1,200

The cash never changes — only how it’s classified.

How this looks on your reports

Profit & Loss (P&L)

• Shows £100 per month, not £1,200 upfront
• Reflects steady, recurring performance

Balance sheet

• Deferred revenue starts high
• Gradually reduces over the year
• Represents your obligation to deliver future service

This is why SaaS balance sheets often look “weird” to founders early on.

Common mistakes founders make with deferred revenue

1. Treating deferred revenue as “extra money”

Deferred revenue is not free cash.

It’s money you owe service against. Spending it without understanding that can lead to:

• overhiring
• runway miscalculations
• nasty surprises later

2. Ignoring deferred revenue in management decisions

If you only look at:

• Stripe
• bank balance
• top-line billings

You’ll miss what’s actually happening underneath.

Good SaaS decisions are based on earned revenue, not invoices raised.

3. Not setting it up early

Founders often delay proper deferred revenue tracking until:

• investors ask
• a buyer appears
• HMRC or auditors get involved

By then, fixing it retrospectively is painful and expensive.

Setting it up early avoids months of cleanup later.

How deferred revenue works with monthly plans

Monthly subscriptions are simpler, but still involve deferral.

If a customer pays £120 on 1 March for March access:

• the whole £120 is typically recognised in March
• deferred revenue exists only briefly

The concept still applies — it’s just less visible.

Annual plans are where problems usually arise.

Do all SaaS businesses need deferred revenue?

If you:

• bill in advance, and
• provide access over time

Then yes — deferred revenue applies.

Even small SaaS businesses benefit from handling this properly because it:

• gives cleaner numbers
• improves decision-making
• makes scaling smoother

The takeaway for SaaS founders

Deferred revenue isn’t an accounting trick — it’s a reality check.

It forces your numbers to answer one simple question:

“How much value have we actually delivered so far?”

If you understand deferred revenue:

• your P&L makes sense
• your runway calculations improve
• your confidence in the numbers goes up

And that’s exactly what founders need as they scale.