How do I record income from deposits that later become non-refundable?

Understanding the question: what “deposit” really means for income

Deposits are common in many industries: construction, events, hospitality, consulting, rentals, custom manufacturing, software implementation, creative services, and more. A customer pays money up front to hold a date, reserve capacity, secure materials, or demonstrate commitment. Later, one of two things usually happens: the customer follows through and the deposit is applied to the final bill, or the customer cancels and the deposit becomes non-refundable (either because the contract says so or because refund conditions were not met).

The accounting challenge is that a deposit can look like income when it hits your bank account, but it often isn’t “earned” yet. In most sensible accounting approaches, the key question is not “Did I receive cash?” but “Have I satisfied what I promised the customer in exchange for that cash?” If the answer is “not yet,” then the deposit is typically a liability at first, not revenue. When the deposit later becomes non-refundable, you must decide whether (and when) it turns into revenue.

In plain language: cash receipt does not automatically equal revenue. Your job is to record the deposit in a way that matches the reality of what you owe the customer (goods, services, or a future credit) until you no longer owe it.

Why timing matters: earned vs unearned amounts

Most accounting systems distinguish between amounts you’ve earned and amounts you’re holding for future performance. A deposit paid before you deliver anything is typically “unearned,” because you haven’t performed the work or delivered the goods yet. The deposit can represent an obligation: you owe a service, a product, a reservation, or at least a credit toward future services.

When a deposit is refundable under certain conditions, it’s even clearer that you have an obligation. The customer can, at least in principle, demand the money back if conditions are met. Even if your policy says “non-refundable,” there may still be some obligation: for example, you may owe them the reserved date, or you may owe them delivery if they proceed. Until you’ve done something that justifies keeping the money, treating it as revenue immediately can overstate income and distort profit reporting.

Timing also matters for internal decision-making. If you book deposits as revenue right away, your monthly revenue may spike during busy booking periods and collapse later, even though the work occurs steadily over time. That makes planning harder and can mislead you about performance, staffing needs, and cash runway.

Common scenarios where deposits later become non-refundable

Not all deposits behave the same way. Understanding the scenario helps you choose the right accounting treatment. Here are typical patterns:

1) Reservation or booking deposit. A customer pays to reserve a date (wedding venue, photographer, consultant availability, holiday rental). If they cancel within a specified window, they may receive a refund; after a deadline, the deposit becomes non-refundable.

2) Security deposit vs service deposit. A security deposit is usually refundable (subject to damage or contract terms) and is not intended to be income. A service deposit is typically applied to the invoice later and might become non-refundable if the customer cancels.

3) Custom work or materials deposit. A customer pays upfront so you can purchase materials or start custom production. Often the deposit becomes non-refundable once materials are ordered or once work begins, because costs have been incurred.

4) Milestone-based projects. A deposit is paid at contract signing and later becomes non-refundable upon reaching a milestone, even if the customer cancels after that point.

5) Minimum commitment or cancellation fees. Instead of “deposit,” the contract might describe an upfront payment that converts to a cancellation fee if the customer backs out.

These distinctions matter because the “moment” the deposit becomes non-refundable might correspond to performance, a contractual right, or a penalty. Your accounting needs to align with the substance of the arrangement.

The core approach: record deposits as a liability first

A widely used approach is to record the deposit as a liability when received, because at that moment you typically owe something to the customer. The label in your chart of accounts might be “Customer Deposits,” “Unearned Revenue,” “Deferred Revenue,” or “Contract Liabilities.” The idea is the same: money received for which you haven’t yet earned revenue.

When the customer later buys the service or product, the deposit is applied against the final invoice. That is usually a reclassification from liability to revenue (or to accounts receivable offset), depending on how your invoicing workflow operates.

When the deposit becomes non-refundable without the customer proceeding, you recognize revenue at the point it becomes non-refundable (or at the point you’ve earned it through performance). The right point depends on how the deposit becomes non-refundable, which we’ll explore in detail.

Journal entries: a practical walkthrough

To make this concrete, imagine a customer pays a £500 deposit to book services. You receive the cash today, but the work will happen later.

Step 1: When you receive the deposit

At the moment of receipt, you typically record:

Debit: Cash (or Bank) £500

Credit: Customer Deposits / Unearned Revenue £500

This records that you have the cash, but you also have an obligation to provide services or credit the customer in the future.

Step 2A: If the customer proceeds and the deposit is applied to the final invoice

Suppose later you deliver services worth £2,000 and issue an invoice. There are different workflows, but one common method is:

Debit: Accounts Receivable £2,000

Credit: Revenue £2,000

Then apply the deposit to reduce what they owe:

Debit: Customer Deposits / Unearned Revenue £500

Credit: Accounts Receivable £500

The customer then pays the remaining £1,500. The deposit has been “used” as part of the sale.

Step 2B: If the customer cancels and the deposit becomes non-refundable

Now assume the customer cancels and, under your contract, the deposit becomes non-refundable because they canceled after the allowed refund period. At the moment it becomes non-refundable, you typically recognize income:

Debit: Customer Deposits / Unearned Revenue £500

Credit: Revenue (often a specific revenue account like “Cancellation Fees” or “Forfeited Deposits”) £500

This reflects that you no longer owe the customer that money. It has become earned—either because you provided something of value (like holding the date) or because the contract entitles you to keep it as compensation for the cancellation.

When exactly does “non-refundable” mean “revenue”?

This is the most important decision point: the date you move the deposit from liability to income. “Non-refundable” is a legal and contractual concept, but revenue recognition is about when you have earned the amount. Often these align, but not always.

Here are the most common moments when a deposit might appropriately become revenue:

1) When the refund deadline passes. If your agreement says the deposit is refundable until a specific date and becomes non-refundable afterward, then revenue recognition often occurs when that date passes—assuming you have done what you promised in exchange for the deposit (for example, holding the booking and turning away other business).

2) When a triggering event occurs (ordering materials, starting work). If the deposit becomes non-refundable once you order materials or begin work, then the moment you do that can be the recognition point. This matches the idea that you’ve begun fulfilling the contract and/or incurred costs that justify keeping the deposit if the customer cancels.

3) When the customer cancels. In some arrangements, the deposit is non-refundable from the start, but practically it only becomes “earned” when the customer cancels and you are allowed to retain it as compensation. If the customer proceeds, it will be applied to the invoice instead.

4) Over time as you perform. Sometimes the deposit effectively pays for a portion of ongoing services. In that case, you might recognize it gradually, matching revenue to performance (for example, a retainer that secures availability over a period).

What you want to avoid is recognizing revenue too early when you still have an obligation to the customer, or too late when you have clearly earned the amount and no longer owe anything.

How to handle deposits that are “non-refundable” from day one

Some businesses state that deposits are non-refundable immediately upon receipt. Even then, it can still be appropriate to record the deposit as a liability initially, because you still owe performance: the deposit is often intended to be applied to the final service or product. “Non-refundable” mainly means the customer cannot demand cash back, not that you have fully earned the money the second it arrives.

Consider a photographer who takes a “non-refundable booking deposit” that will be credited against the total package price. If the event happens, the deposit is part of the sale; it is not separate revenue at the time of receipt. If the client cancels, the photographer keeps it as compensation. That suggests liability first, then either (a) reclassify to revenue when the job is done and it is applied, or (b) reclassify to forfeited deposit revenue when the client cancels.

However, there are cases where a non-refundable upfront amount is more like an immediate fee for a distinct service (for example, a non-refundable application fee that covers administrative processing). If that fee corresponds to a service performed immediately (or shortly after receipt) and is not credited toward future purchases, then recognizing revenue earlier could be appropriate. The key is whether the customer receives a distinct benefit right away.

Deposits vs cancellation fees: choose the right revenue account

If a deposit becomes non-refundable because the customer cancels, many businesses prefer to recognize it as a cancellation fee or forfeited deposit revenue rather than lumping it into regular sales. This can be helpful for analysis because it separates income from completed work from income due to cancellations.

Two practical benefits come from separating these:

1) Better operational insight. If forfeited deposits rise, you can investigate whether your cancellation policy is too strict, your scheduling process is causing friction, or your marketing is attracting poorly qualified leads.

2) Cleaner forecasting. Regular revenue should reflect your core delivery. Cancellation income can be unpredictable and shouldn’t be the basis for staffing or growth plans.

You can still present both categories as revenue in financial statements, but internally you’ll see what’s driving results.

What if you partially refund a deposit?

Sometimes a deposit becomes “partially non-refundable.” For example, you keep £200 as an admin fee and refund £300. In that case, you split the liability accordingly when the outcome is known:

Debit: Customer Deposits / Unearned Revenue £500

Credit: Cash £300 (refund issued)

Credit: Revenue (forfeited deposit / admin fee) £200

The idea is simple: reduce the liability to zero, with some portion returning to cash outflow and some portion recognized as income.

Handling deposits applied to future work rather than refunded

In some businesses, a customer cancels one booking but you allow the deposit to be applied to a rescheduled date or different service. In that case, the deposit remains a liability because you still owe the customer a credit. It has not become revenue yet.

Even if your policy says the deposit is “non-refundable,” allowing it to be used later means it is still a customer obligation. Only once the credit expires (or once you deliver the work it is applied to) would it convert to revenue.

This is a common area where bookkeeping goes wrong: businesses treat “non-refundable” as “income now,” but operationally they still provide value later by honoring the deposit as a credit. That is effectively deferred revenue.

Breakage: when deposits are never claimed and credits expire

Sometimes customers simply disappear. They paid a deposit, you held availability, but they never book again and never request a refund. Or you gave them a credit with an expiration date, and they never use it. The accounting concept often used here is “breakage,” meaning value that will not be redeemed.

From a practical standpoint, you generally have two common approaches:

1) Recognize revenue when the right to a refund or redemption expires. If your terms specify that a deposit credit expires after, say, 12 months, then when that date passes, you can move the remaining liability into revenue.

2) Recognize revenue when it becomes clear redemption is remote. Some businesses estimate breakage based on historical patterns and recognize it gradually. This is more complex and usually only worthwhile if amounts are large and patterns are stable.

If you’re a small business, the simplest operationally is often: keep it as a liability until the customer either uses it, cancels under non-refund terms, or the credit/refund window expires. Then move it to revenue.

Tax considerations: why your accounting choice might not match tax timing

Income recognition for tax can differ from how you record revenue for management or financial reporting, depending on your jurisdiction and tax basis (cash basis vs accrual basis) and the specific rules that apply to deposits, advance payments, and forfeited amounts.

If you report taxes on a cash basis, you may be required to include deposits in taxable income when received, even if you treat them as liabilities for internal financial reporting. On the other hand, some tax regimes distinguish between refundable deposits (not income) and non-refundable advance payments (income when received). There can also be special rules about advance payments for services to be performed in a later period.

If you report taxes on an accrual basis, the timing might align more closely with when the deposit becomes earned, but there can still be differences.

The safest operational approach is to keep your bookkeeping clean (liability first, revenue when earned) and then, if needed, make tax adjustments with your accountant based on the tax rules you follow. That way your internal books reflect performance accurately, and your tax filings reflect the required tax treatment.

Practical bookkeeping workflows for common software

You can apply the same logic in most accounting systems, whether you use a dedicated platform, a spreadsheet, or custom bookkeeping. The important part is using the right accounts and keeping a clear audit trail.

Workflow A: Use a “Customer Deposits” liability account

This is the classic method:

1) Create a liability account called “Customer Deposits” or “Unearned Revenue.”

2) Record deposits to that account, not to sales.

3) When the deposit is applied to an invoice, move it from deposits to accounts receivable (or reduce the invoice using a payment/credit mechanism that maps to the deposit liability).

4) If the deposit is forfeited, reclassify it from the liability to revenue (forfeited deposits/cancellation fees).

This method preserves the truth: until the deposit is applied or forfeited, it is not earned.

Workflow B: Use a clearing item or “holding” product/service line

Some systems encourage you to create an item called “Deposit” and map it to a liability account. When you receive the deposit, you create a sales receipt or invoice for the deposit item, but it posts to the liability account rather than revenue. Later, you create the final invoice and apply the deposit as a credit.

This approach can be convenient because it uses normal invoicing tools while still maintaining correct accounting classification.

Workflow C: If you must use cash basis tracking, still tag deposits carefully

If your internal tracking is cash-oriented, you might be tempted to record deposits as revenue. If you do, it’s easy to lose track of the obligation you owe customers. A compromise is to record deposits as revenue in a separate bucket and maintain a deposits schedule that shows outstanding deposits owed as credits. But this is more prone to errors than simply using a liability account.

If at all possible, use a liability account even if you track cash flow closely. You can still see cash movements in your bank account while keeping revenue accurate.

How to document the “conversion to non-refundable” event

The cleanest books are supported by good documentation. When a deposit becomes non-refundable, you want a clear reason and date. That can be as simple as:

1) A policy rule. “Deposit becomes non-refundable 30 days before event date.”

2) A timeline event. “Customer canceled on 10 March; cancellation terms apply; deposit forfeited.”

3) Evidence of performance. “Materials ordered on 5 April; deposit non-refundable once materials ordered.”

Attach or reference the contract, booking confirmation, email thread, or cancellation notice. If your system allows notes on transactions, add a note indicating the trigger.

This documentation matters when you review customer disputes, when you analyze cancellation patterns, and if you ever need to explain your accounting decisions to an advisor or auditor.

Recognizing revenue over time: when a deposit pays for “standing ready”

Some deposits effectively pay you to be available, not just to deliver a future service. For example, a consultant might charge a monthly retainer to reserve capacity. A venue might charge a fee that compensates for holding a date during a high-demand season.

In these cases, you may be earning the deposit over time as you “stand ready” to perform, even before the final service occurs. That could mean recognizing a portion of the deposit as revenue each month between booking and event date.

This approach can be more accurate, but it requires a consistent method and clear contractual support. If you decide to recognize revenue over time, keep your method straightforward: define the service period, allocate the deposit across that period, and recognize revenue on a regular schedule.

For many small businesses, it’s perfectly acceptable to keep deposits in a liability account and recognize them when applied or forfeited, unless the amounts are large and the timing differences are significant.

What about costs you incur: should they affect deposit revenue?

A common misconception is that you should only recognize forfeited deposit revenue to the extent it covers costs you incurred. In reality, revenue recognition is about your right to keep the money and the performance obligations you’ve satisfied, not merely cost reimbursement.

That said, costs matter for profitability and decision-making. If a customer cancels and you keep a deposit, you may also have expenses you already incurred (materials, subcontractors, admin time). Those costs should be recorded as expenses when incurred, regardless of when you recognize the deposit as revenue.

Separating “forfeited deposit revenue” from “regular revenue” can help you see whether cancellation income is masking underlying cost issues, such as non-recoverable procurement or staffing inefficiencies.

Edge cases and how to treat them sensibly

Deposits can get messy. Here are several tricky situations and reasonable ways to handle them.

Edge case 1: Deposit becomes non-refundable, but you still deliver something later

Suppose the customer cancels a project, forfeits the deposit, and later returns and asks you to do a smaller project. You decide to honor part of the forfeited deposit as goodwill. In this case, you may have already recognized the forfeited amount as revenue. If you later grant a credit, that credit is usually treated as a discount or concession on the new work, not a reversal of past revenue, unless you specifically agree to reinstate the original deposit as a deposit liability.

The practical approach is to document the concession clearly and keep the accounting consistent: either re-establish a liability (if you are truly reinstating a deposit credit) or treat it as a discount on the new sale.

Edge case 2: Chargebacks and disputes after “non-refundable”

A deposit can be non-refundable under your terms, yet still challenged through a payment processor dispute. If you lose the dispute and must return the funds, you would reverse revenue (if already recognized) or reduce the liability (if still outstanding) and record any fees as expenses. The accounting reflects the outcome: if you no longer have the money, you cannot keep it recorded as revenue or liability.

To reduce disputes, keep cancellation policies prominent, confirm them in writing, and keep records of customer acknowledgments.

Edge case 3: Multiple deposits for a single job

Some contracts require an initial deposit and later progress payments that are also “non-refundable.” Treat each payment according to the same principle: if it pays for future performance, record as a liability until earned. If it pays for a distinct deliverable already provided (like a completed milestone), recognize revenue at that milestone.

If you can clearly separate milestones, your accounting will be clearer and your customer communications will be less confusing.

Edge case 4: Bundled goods and services

If the deposit is for a bundle (for example, product plus installation), and cancellation terms vary, you may need to think about what portion of the deposit relates to each part. If cancellation happens after installation planning but before product shipment, the deposit might reasonably be treated as earned for planning work, while the remainder stays refundable or creditable. Even if you keep the whole deposit, understanding the underlying obligations helps you treat revenue in a way that matches reality.

Creating a policy that keeps your books consistent

Consistency is crucial. A simple written policy will make bookkeeping easier and reduce judgment calls. A strong internal policy might include:

1) Definitions. Define “deposit,” “retainer,” “security deposit,” and “cancellation fee” for your business.

2) Default accounting treatment. “All customer deposits are recorded to Customer Deposits (liability) upon receipt.”

3) Clear recognition triggers. Examples: “Deposits are recognized as revenue when applied to an invoice, when a cancellation occurs after the refund deadline, or when a credit expires.”

4) Documentation requirements. “Any forfeiture must reference a cancellation notice or the policy date trigger.”

5) Review schedule. Monthly review of outstanding deposits older than a set period (e.g., 90 or 180 days) to identify credits nearing expiration or customers who need follow-up.

Having this policy makes training easier, reduces mistakes, and keeps your financial reporting stable.

How to present deposits in your financial statements

Deposits recorded as liabilities will appear on your balance sheet, typically as a current liability if the service is expected to be delivered within the next 12 months. This can be a useful indicator of future work already booked and cash collected.

When deposits are forfeited and recognized as revenue, they move onto your profit and loss statement as income. If you separate forfeited deposits into a dedicated account, your income statement will show both core revenue and cancellation-related revenue, improving clarity.

If you have significant deposits, consider adding internal notes for management: total deposits outstanding, deposits by event month, deposits at risk of cancellation, and deposits likely to convert to revenue soon. These metrics help with staffing, cash planning, and customer communications.

Examples by industry

Sometimes the easiest way to understand the concept is to see it applied in specific contexts.

Example: Event venue

A venue receives a £2,000 deposit to reserve a date six months in advance. The deposit is refundable up to 90 days before the event; after that it is non-refundable. The venue records the deposit as a liability upon receipt. If the client cancels 60 days before the event, the venue reclassifies the deposit to forfeited deposit revenue on the cancellation date. If the event proceeds, the deposit is applied to the final invoice at the time of billing or service delivery.

Example: Contractor ordering materials

A contractor receives a 30% deposit to start a renovation. The contract states the deposit is refundable until materials are ordered; after ordering, it becomes non-refundable. The contractor records the deposit as a liability initially. When the contractor orders materials, they do not automatically recognize revenue solely because a purchase occurred; rather, they consider whether the deposit now represents earned compensation or whether it should remain a liability until work is completed. If the contract and business practice treat the deposit as the customer’s commitment to the project and the contractor’s compensation for mobilization and procurement, the contractor might recognize a portion as revenue at that point, especially if that milestone is a distinct deliverable. Otherwise, the contractor may leave it as a liability and recognize revenue as work progresses, using the deposit later to settle the final invoice. If the customer cancels after materials are ordered and the deposit becomes non-refundable, the contractor reclassifies the appropriate portion of the deposit to revenue at cancellation or milestone completion, depending on the agreement.

Example: Software implementation or consulting

A consultant charges a £1,000 “reservation fee” credited against the first month of services, and it becomes non-refundable after 14 days. If the consultant spends those 14 days preparing a plan and reserving a schedule slot, the fee could be treated as deferred revenue initially and then recognized when the non-refundable condition is met (or recognized over the preparation period, if that better reflects the service provided). If the client proceeds, the deposit is applied to the first invoice.

Example: Rental security deposit vs cleaning deposit

A landlord collects a security deposit intended to cover damage. That is generally a liability and should stay a liability unless and until it is used to cover actual costs (damage repair, unpaid rent where allowed). If a portion is retained at move-out for damage, that retained amount can be recognized as income or offset against repair expense depending on your accounting approach, but it should not be treated as rental income at the time of receipt. A separate “cleaning deposit” that becomes non-refundable if the property is left in poor condition should still be treated as a liability until the condition is assessed. Only when you know it is being retained does it become income (or an offset).

Building a simple deposits schedule to stay in control

Even if your accounting entries are correct, you need operational control over deposits to avoid missed revenue recognition or missed refunds. A deposits schedule is a simple list that tracks:

Customer name, deposit amount, date received, related job/event date, refund deadline, status (booked, completed, canceled, refunded, forfeited), and the date it was applied/refunded/recognized.

Review this schedule monthly. This helps you catch deposits that should have been applied to invoices, deposits that are nearing a refund deadline (which may affect customer communication), and deposits that may have become forfeited or expired without being reclassified to revenue.

Mistakes to avoid

Here are common errors that cause confusion and messy books:

1) Recording deposits as revenue immediately. This can overstate income and understate liabilities, especially when you have many future bookings.

2) Forgetting to clear deposits when invoicing. If you issue an invoice but don’t apply the deposit, you might accidentally charge the customer twice or leave liabilities sitting on the balance sheet indefinitely.

3) Treating security deposits like income. Security deposits are usually not revenue unless and until you keep a portion under the contract.

4) Not documenting cancellations and triggers. Without notes, it becomes difficult to justify why a deposit was forfeited and when it became income.

5) Mixing deposits and retainers without clarity. Retainers can be deposits, but they can also be payment for ongoing availability or services. Define them clearly.

A step-by-step template you can apply today

If you want a straightforward process, here is a practical template that works for many businesses:

Step 1: Create a liability account called “Customer Deposits / Unearned Revenue.”

Step 2: When a deposit is received, post it to the liability account, not revenue.

Step 3: Track each deposit with a status and a key date (event date, refund deadline, credit expiration).

Step 4: When the customer proceeds and you invoice, apply the deposit against the invoice by reducing accounts receivable and reducing the deposit liability.

Step 5: If the customer cancels and the deposit becomes non-refundable, reclassify the deposit liability to a revenue account named “Forfeited Deposits” or “Cancellation Fees.”

Step 6: If you refund any amount, reduce the liability and record the cash outflow at the time of refund.

Step 7: If a credit expires unused, reclassify the remaining liability to revenue on the expiration date.

This template keeps your books accurate and makes it easy to explain deposit balances at any point in time.

Final thoughts: match the accounting to the obligation

When you receive a deposit, you’re usually holding money tied to a promise: a future service, a product delivery, a reservation, or a credit. The cleanest way to record that promise is as a liability. When the deposit is applied to a sale, you clear the liability as part of the transaction. When the deposit becomes non-refundable—because a deadline passes, a cancellation occurs, a milestone is reached, or a credit expires—you reclassify it to revenue at the point you’ve earned the right to keep it.

If you anchor your process on one question—“Do I still owe the customer something for this money?”—your deposit accounting will stay consistent, defensible, and easy to manage. You’ll see a clearer picture of your true revenue, your future commitments, and the real health of your business.