An advance from customer is a liability account used to record cash a business has received from a customer before it has actually delivered the related goods or performed the related service. It is also commonly called a customer deposit or, more broadly, unearned revenue, and it exists because of a basic rule under the revenue recognition principle: cash received does not automatically count as earned revenue.
Why the cash is recorded as a liability, not revenue
Recognizing an advance payment as revenue immediately would overstate the company's performance for the period, since it has not yet actually done anything to earn that money — it still owes the customer a product or a service, or a refund if it cannot deliver. By recording the cash received as a liability instead, the company's books accurately reflect that it has an outstanding obligation, even though the cash itself is already safely in hand.
How the liability is eventually cleared
As the company delivers the goods or performs the service the customer paid in advance for, it reduces the Advance from Customer liability and recognizes revenue by the corresponding amount. For a single, immediate delivery this happens all at once; for a service delivered gradually over time, such as a prepaid subscription or a long-term contract, the liability is released to revenue incrementally as performance progresses, rather than all in one lump sum.
Common situations that create advances from customers
Businesses that require deposits before starting custom work, such as manufacturers building made-to-order equipment or contractors beginning a renovation, routinely carry this liability, as do subscription businesses collecting a full year's payment upfront, and retailers taking pre-orders for products not yet available. In each case the common thread is the same: the customer's money has arrived before the company's side of the exchange has been completed.
Why the distinction matters to financial statement readers
A company with a large and growing balance of advances from customers may actually be in a strong position — it indicates demand strong enough that customers are willing to pay ahead of delivery — but it also means a meaningful portion of reported cash and current liabilities represents obligations still to be fulfilled, not profit already earned. Investors and lenders reviewing a company's balance sheet distinguish this kind of liability clearly from debt owed to lenders or suppliers, since the “repayment” here takes the form of future goods or services rather than cash.
What happens if the order cannot be fulfilled
If a company is ultimately unable to deliver the goods or services a customer paid in advance for, the advance typically has to be refunded, which simply reverses the liability and reduces cash rather than ever touching revenue at all. This is one more reason accounting standards insist on recognizing the cash as a liability first: treating it as revenue up front would overstate performance and would then require an awkward reversal of previously recognized earnings if the order later fell through. Keeping it as a liability from the start avoids that problem entirely, since a refund then simply unwinds a balance sheet item rather than clawing back previously reported income.