A customer deposit is cash paid to a company by a customer, for which the company has not yet provided goods or services in exchange. The company has an obligation to provide the indicated goods or services, or to return the funds. Customer deposits are commonly used in four situations:
- Poor credit. When a customer has such a poor credit record that the company requires it to pay in advance.
- High cost. When the goods ordered are so expensive for the company to produce that it requires a deposit from the customer in order to pay for the production of the goods.
- Customized. When goods are custom-designed to the specifications of the customer, and so cannot be resold if the customer were to renege on its purchase order.
- Held goods. When the customer wants to reserve goods without yet taking delivery.
The company receiving a customer deposit initially records the deposit as a liability. Once the company performs under its contract with the customer, it debits the liability account to eliminate the liability, and credits a revenue account to record the sale. This may occur in stages, if deliverables are sent out over a period of time.
The company does not initially incur any sales tax liability when it accepts a deposit from a customer. This liability is only created once the company delivers under its contract with a customer and converts a deposit into a sale transaction.
A customer deposit is usually classified as a current liability, since the company typically provides services or goods within one year of the deposit being made. If the deposit is for a longer-term project that will not be resolved within one year, it could instead be classified as a long-term liability.