Meaning of Reserves
Reserves are part of profits or gain that has been allotted for a specific purpose. Reserves are usually set up to buy fixed assets, pay bonuses, pay an expected legal settlement, pay for repairs & maintenance and pay off debt.
What are Reserves in Accounting?
When an enterprise earns a profit during the end of a year, a certain part of it is retained in the trading concern to meet future exigencies, growth outlooks etc., The amount of money that is kept aside is known as Reserves in Accounting.
They assist in securing the financial situation of an enterprise and can be utilised for different purposes such as stable dividend repayments, expansion, meeting contingencies, legal requirements, investments, improving the financial situation, etc., It is also termed as retained earnings.
For instance – Reserve for Dividends Equalisation, General reserve, Reserve for Increased Cost of Replacement, Reserve for Expansion, etc.,
Inside Financial Statements
It is shown on the liability side of a balance sheet (B/S) below the heading ‘Reserves and Surplus’ with capital if an enterprise suffers losses, then it is not created.
Types of Reserves
- Capital Reserve
- Revenue Reserve
What is Capital Reserve?
The capital reserve is established out of capital profits and are normally not allocated as dividends to the shareholders. It cannot be established out of profits acquired from core operations of an enterprise.
- Profit earned before an enterprise’s embodiment
- Premium acquired on the issue of debentures and shares
- Gain on re-issuance (redistribution) of forfeited shares
- Profit kept aside for redemption of debentures or preference shares
- Gain on sale of fixed assets
- The surfeit on revaluation of liabilities and assets
- Capital redemption reserve
What is Revenue Reserve?
Revenue reserves are established out of gains acquired from operations of an enterprise. Reserves are shown under Reserves and Surplus section on the liabilities side of a balance sheet. It can be utilised for the following :
- Dividend to shareholders
- Expansion of trading concern
- Balance the dividend rate