What is a revenue recognition principle violation and how should it be corrected?

• A. Not recognizing revenue until cash is received; adjust by deferring until performance occurs.
• B. Recognizing revenue before performance is complete; correct by deferring revenue or adjusting when performance occurs.
• C. Recognizing revenue after performance is complete; adjust by recognizing at time of payment.
• D. Recognizing expenses as revenue; adjust by reclassifying.

Answer: (B)

Revenue should be recognized when the company has satisfied its performance obligation and transferred control of the goods or services to the customer, not before the work is done or when cash is received. Recognizing revenue before completion violates this principle because it records income before the economic event (the performance) has occurred.

If revenue has been recorded too early, the correction is to defer it as unearned revenue (a liability) until the performance obligation is fulfilled. Alternatively, you can adjust the previously recognized amount to reflect the portion of the work that has actually been completed. For long-term contracts, revenue can also be recognized over time as work progresses (percentage-of-completion), rather than waiting until full completion. The key idea is match revenue recognition to the point at which the performance obligation is satisfied.