Posted on January 23rd, 2026

 

Understanding ASC 606 is essential for accurate financial reporting, audit readiness, and compliance. This guide breaks down the five‑step model, performance obligations, pricing and SSP allocation, and how companies recognize revenue over time… 

Full ASC 606 Revenue Recognition Guide

ASC 606, Revenue from Contracts with Customers, is the accounting standard that provides a unified framework for recognizing revenue across all industries. This guide explains each part of the standard in clear, practical language to help businesses improve accuracy, reduce audit risks, and maintain compliance.

What Is ASC 606?

ASC 606 establishes when and how revenue should be recognized. It replaces industry‑specific rules with a single principle:

Revenue must be recognized when control of goods or services transfers to the customer—not when an invoice is issued or cash is received.

This means businesses must analyze contracts, obligations, and performance before recognizing revenue.

Why ASC 606 Matters?

ASC 606 significantly impacts:

• Financial reporting
• Audit outcomes
• Government contracting compliance
• Cash‑flow timing
• Investor and lender confidence
• Internal controls and documentation requirements

One major shift:

Billing no longer determines revenue.

Revenue follows performance and delivery, not payment.

The 5‑Step Revenue Recognition Model

ASC 606 requires using this structured five‑step framework for every customer contract.

Step 1: Identify the Contract

A contract must meet all of the following before revenue can be recognized:

• Approved by all parties
• Rights and responsibilities are clearly defined
• Payment terms are clear
• It has commercial substance
• Collection is probable

Without these elements, there is no valid contract for ASC 606 purposes.

Step 2: Identify Performance Obligations

A performance obligation is a distinct good or service promised to a customer.

A promise is distinct if:

• The customer can benefit from it on its own, and
• It is separately identifiable within the contract

Examples of performance obligations include:

• Software licenses
• Implementation or installation
• Training or onboarding
• Professional services
• Monthly maintenance or support
• Design, consulting, or advisory deliverables

Identifying obligations correctly determines how revenue is split and recognized.

Step 3: Determine the Transaction Price

The transaction price is the amount the company expects to receive for fulfilling its obligations.

It may include:

• Fixed fees
• Variable consideration (bonuses, discounts, penalties, incentive payments)
• Time‑and‑material components
• Price concessions
• Significant financing components

Variable consideration can be included only if it is unlikely to cause a revenue reversal.

Step 4: Allocate the Transaction Price

If a contract contains multiple obligations, the total transaction price must be allocated to each obligation based on its Standalone Selling Price (SSP).

SSP can be determined using:

• Market‑based pricing
• Cost‑plus‑margin
• Actual standalone sales for similar customers

Correct allocation ensures revenue is proportional to the value delivered.

Step 5: Recognize Revenue

Revenue is recognized when the business satisfies a performance obligation. This happens in one of two ways:

Revenue Recognized Over Time

Use this when:

• The customer receives benefits as work is performed
• The customer controls the asset as it is created
• The asset has no alternative use and payment is enforceable

This is typical for:

• Government contracts
• Consulting
• Professional services
• Monthly support or maintenance
• Construction or project‑based work

Methods to measure progress:

• Cost‑to‑cost
• Labor hours
• Milestones
• Time elapsed

Choose the method that best reflects how value is delivered.

Revenue Recognized at a Point in Time

Use this when control transfers at a specific moment.

Common indicators include:

• Customer acceptance
• Physical delivery
• Transfer of title
• Transfer of risks and rewards

Examples:

• Software license activation
• Delivery of goods
• Completion of a one‑time deliverable

Contract Assets and Contract Liabilities

ASC 606 introduces new balance‑sheet classifications:

Contract Asset

Revenue recorded before billing (e.g., work performed but not yet invoiced).

Contract Liability (Deferred Revenue)

Billing or cash received before fulfilling the related work.

Both must be monitored throughout the contract lifecycle.

Contract Modifications

Contract changes must be evaluated to determine whether they:

• Create a new contract, or
• Modify the existing contract

Factors to consider:

• Are new goods or services distinct?
• Do they have standalone selling prices?
• Does the modification add new obligations?

Proper documentation is essential for audit trail and compliance.

ASC 606 for Government Contractors

Government contractors frequently meet the criteria for over‑time revenue recognition, especially under:

• Cost‑plus contracts
• Time & materials contracts
• Incrementally funded contracts

Must monitor:

• Funding limits
• Contract ceilings
• Burn rate
• Indirect rates
• Changes in scope
• Performance obligations

Contractors must comply with ASC 606 + FAR + CAS, making documentation critical.

Common ASC 606 Mistakes

Businesses often struggle with:

• Recognizing revenue based on billing instead of performance
• Misidentifying or combining performance obligations
• Incorrect SSP allocation
• Poor documentation of estimates
• Inaccurate progress measurement
• Failing to analyze contract modifications
• Ignoring variable consideration
• Weak disclosure support

Fixing these issues strengthens financial reporting and reduces audit risk.

Key Takeaway

ASC 606 is grounded in a single principle:

Recognize revenue when control transfers to the customer — not when cash is collected.

Applying the 5‑step model correctly improves accuracy, transparency, compliance, and audit readiness.