Deferred Commissions ASC 606: Journal Entries & Best Practices

Introduction

Navigating the world of accounting standards can feel like solving a complex puzzle, especially when it comes to deferred commissions under ASC 606. If you’re curious why these commissions matter and how they impact your financial reporting, you’re not alone. Deferred commissions are more than just  accounting jargon—they play a key role in accurate revenue recognition, compliance, and financial transparency. 

In this blog, we’ll demystify ASC 606 as it applies to commissions, walk through practical journal entries, and explore the best practices that streamline the entire process. Ready to understand deferred commissions? Let’s get started!

What Are Deferred Commissions Under ASC 606?

Deferred commissions under ASC 606 refer to the treatment of sales commissions as assets rather than immediate expenses. Instead of recording these commissions right away, companies spread the cost over the contract’s duration, aligning with revenue recognition principles and ensuring accurate financial reporting.

ASC 606 transformed the way businesses manage sales commissions. Previously, commissions were often expensed immediately, which could make  financial statements less reflective of the true earning process. By deferring commissions, companies not only comply with ASC 606 but also provide stakeholders with a clearer view of future earnings. This accounting shift ensures that revenue and associated expenses are recognized in tandem, creating a transparent financial record that resonates with stakeholders and auditors alike. This method also enhances consistency by matching costs with the revenue they help generate.

Why Is It Important to Defer Commissions?

Deferring commissions is crucial because it aligns with ASC 606’s revenue recognition principles, ensuring financial statements accurately reflect the timing and value of sales. By matching commission costs to revenue over the contract period, companies generate more accurate and transparent financial reports, which helps stakeholders understand long-term revenue potential.

This deferred approach prevents the misrepresentation of expenses, especially in multi-year contracts, where immediately expensing commissions would distort financial health in the initial periods. Additionally, deferred commissions support compliance, reduce the risk of audit issues, and allow for more strategic financial planning, as organizations can align expenses with revenue in a way that mirrors their operational flow.

How to Calculate Deferred Commissions?

To calculate deferred commissions, determine the total commission cost and divide it by the contract term. This allocation aligns the expense with the revenue recognized over the contract duration, keeping consistent financial reporting in compliance with ASC 606. Deferred commission calculation involves a simple formula and ensures accuracy across accounting periods.

Deferred Commission Expense per Period = Total Commission Cost ÷ Contract Term

For instance, if a salesperson earns a $12,000 commission on a two-year contract, instead of recording the full amount upfront, you would expense $6,000 each year. This approach not only enhances transparency but also smooths out expenses, giving stakeholders a true picture of revenue and costs over time. This calculated method provides greater control over expenses, ensures adherence to ASC 606, and supports balanced financial statements.

Examples of Deferred Commission Journal Entries

Recording deferred commission journal entries under ASC 606 involves several key steps to ensure accurate revenue and expense matching. Here’s a simplified guide:

Step 1: Recognize the deferred commission asset

• When a commission is paid, record it as a deferred asset instead of an expense.
• Example entry:
  • Debit: Deferred commission asset
  • Credit: Cash or commission payable

Step 2: Amortize the deferred commission over the contract period

• Spread the commission expense over the contract duration to match revenue recognition.
• Example entry (per period):
  • Debit: Commission expense
  • Credit: Deferred commission asset

Step 3: Adjust for any contract modifications

• If the contract terms change, adjust the deferred commission to reflect the new duration or revenue.
• Example entry:
  • Debit/Credit: Deferred commission asset (adjustment amount)
  • Credit/Debit: Commission expense

Following these steps ensures compliance with ASC 606, providing stakeholders with a transparent view of earnings and associated costs across reporting periods.

Common Challenges in Accounting for Deferred Commissions

Accounting for deferred commissions under ASC 606 comes with complexities that can make accurate reporting difficult. Here are some of the most common challenges companies face in this process:

1. Determining eligible commission costs
It can be tricky to decide which costs qualify as deferred commissions, as not all sales-related expenses meet ASC 606 criteria. Only direct costs tied to specific sales, like commissions, are eligible, while indirect costs are excluded.

2. Calculating the amortization schedule
Creating an accurate amortization schedule for each contract requires aligning commission expenses with revenue recognition over the contract term. This demands careful attention to contract length, revenue flow, and any early termination clauses that may impact expense timing.

3. Handling contract modifications
When contract terms change, recalculating the deferred commission can be complex. Adjustments must reflect the updated contract period or payment terms, requiring updated entries and schedules to maintain compliance.

4. Managing compliance and audits
ASC 606 compliance is often scrutinized during audits. Proper documentation, precise calculations, and an understanding of regulatory expectations are essential to avoid discrepancies and ensure audit readiness.

By addressing these challenges, companies can streamline their deferred commission accounting, resulting in more accurate financial reporting and enhanced transparency for stakeholders. This proactive approach helps reduce compliance risks and ensures long-term alignment with ASC 606 standards.

Best Practices for Managing Deferred Commissions

Implementing artificial intelligence (AI) for deferred commission accounting can address ASC 606 complexities, making compliance more efficient. Here’s how AI can streamline the process and some best practices to consider:

1. Automating data entry and calculations
AI can automate data entry  and calculate deferred commission expenses, reducing human errors in data entry and complex amortization calculations. Automation saves time and ensures accuracy, particularly in managing large datasets.

2. Enhancing accuracy in amortization schedules
With AI, creating accurate amortization schedules becomes more efficient. AI tools can analyze contract terms, adjust for contract modifications, and ensure that expenses align with recognized revenue, maintaining compliance with ASC 606.

3. Monitoring compliance in real time
AI systems can continuously monitor commission transactions for adherence to ASC 606, flagging any discrepancies before audits. This proactive approach allows companies to detect issues early, ensuring accurate and audit-ready reporting.

4. Streamlining adjustments for contract changes
AI can simplify the process of recalculating deferred commissions when contract terms change. AI tools can auto-adjust for any new terms or modifications, creating updated entries that save time and enhance compliance accuracy.

By adopting these best practices and leveraging AI capabilities, companies can simplify deferred commission accounting, optimize compliance, and achieve transparent financial reporting.

How HighRadius Can Help with Deferred Commission Accounting

Managing deferred commissions in compliance with ASC 606 demands precise tracking, calculation, and reporting, especially for companies with high sales volumes and complex contracts. HighRadius offers robust Autonomous Accounting Solutions designed to streamline these tasks, ensuring that businesses remain audit-ready and compliant with ASC 606 standards.

HighRadius’ Financial Close Management software includes the Maker Checker Workflow tool that offers added control by introducing multi-level approval for deferred commission entries. This workflow allows businesses to set up task approvals based on the value and impact of each commission entry, reducing errors and enhancing review accuracy. By establishing a “maker” and “checker” system, where one accountant’s work is verified by another, this workflow helps companies reduce close times by up to 30%, while maintaining the preciseness  required for ASC 606 compliance.

HighRadius’ LiveCube Task Automation (excel-look alike, no-code platform) feature further enhances efficiency by automating commission-related data extraction and simplifying period-over-period rollovers with a single click. By reducing manual work, LiveCube minimizes errors, freeing up analysts to focus on key activities like preparing for audits, adjustments, and compliance reporting. This automation accelerates the overall close process, crucial for meeting ASC 606 requirements accurately and efficiently.

The Journal Entry Management module ensures accurate, transparent accounting for deferred commissions. This module records detailed transaction histories, including dates, times, and user information, which is essential for audit purposes and SOX compliance. The tool integrates seamlessly with ERP systems, supporting auto-posting, and allows for customized or auto-populated journal entries within LiveCube. This feature creates a clear audit trail, enabling precise compliance with ASC 606 and providing stakeholders with a transparent view of commission-related entries.

Through these features, HighRadius simplifies the complexities of deferred commission accounting, empowering businesses to maintain a streamlined, compliant, and audit-ready approach to ASC 606.

FAQs

1. How do you record deferred revenue journal entry?
   To record deferred revenue, debit the cash or accounts receivable account and credit the deferred revenue account. This entry shows that payment has been received but not yet earned. As services or goods are delivered, reduce the deferred revenue by debiting it and crediting revenue.
   
2. How are commissions treated under ASC 606?
   Under ASC 606, commissions are capitalized as assets when incurred to obtain a contract and are then amortized over the contract period. This treatment aligns commissions with the revenue they help generate, ensuring expenses match revenue recognition for more accurate financial reporting.
   
3. Is there deferred revenue under ASC 606?
   Yes, deferred revenue is a key component under ASC 606. Revenue is deferred when payment is received upfront, but performance obligations remain unfulfilled. Only once the promised goods or services are delivered does the deferred revenue convert into recognized revenue.
   
4. Are deferred commissions an asset or liability?
   Deferred commissions are recorded as an asset on the balance sheet. They represent costs incurred to obtain a contract, which are capitalized and amortized over time as revenue is recognized, aligning the expense with the revenue generated by the contract.