Many service companies use a static billing model to invoice their customers. They invoice the same amount monthly, bi-monthly or on some other set cadence. There are two common billing models that invoice in this manner: retainer and fixed-fee. These two billing models are very different and require distinct accounting treatments.
Fixed-fee billings are exactly what the name implies. Every month or on some other regular basis the client is billed a fixed amount agreed upon for services. It doesn’t matter if more or less work is done in a given month, the fee remains the same. It places responsibility on the service provider to run the project efficiently by managing hours and costs to be profitable while maintaining great service. Fixed fees are typically billed at the end of the month for work performed during that month. In this case, services are provided and the revenue is earned in advance of billing. The service provider has no liability or obligation for future work, unless contracted, once the invoice is issued.
Retainer billings, on the other hand, work a little differently. The retainer is billed at a flat rate at the beginning of a project or engagement. Some companies prefer to bill a monthly or quarterly retainer amount as needed, but it’s usually a flat fixed rate. The difference between the retainer billing and the fixed-fee billing is the service provider’s liability. A retainer is a cash payment to “reserve” time for future services. The provider hasn’t yet earned revenue at the time of billing because no work has been performed. There is a future obligation to perform services for the client or project. In this case, the provider needs to keep close track of the hours, milestones, or other billable units. When the work is performed, the corresponding revenue earned is recognized against the retainer. In this manner, the retainer is a declining balance. This should be reconciled regularly, typically at least monthly, for work performed to ensure that all obligations are being fulfilled. Some companies will bill to replenish the retainer when the existing retainer balance runs out and it’s time to reload the balance for future work. Other service providers bill monthly to replenish the retainer and apply either the over or under billings to the following month’s retainer. The nature of the work or services performed help determine the appropriate retainer billing approach. Project work may best be reconciled at the end of the project, ongoing engagements may be reconciled on a regular basis (monthly, quarterly or annually) depending on the circumstances.
Although both retainer and fixed-fee billing models look similar at first glance, it’s important to distinguish between the two. The fixed-fee model issues invoices after the fee is earned and there is no future obligation as the work has already been performed. However, it requires closer project management to ensure efficiency and profitability for the service provider. The retainer model bills clients prior to the fees being earned and the provider has a future obligation of either time or money. Retainers require detailed account reconciliation to ensure the client is not over or under billed for work performed.Written by: Ashley Peth TGG Accounting