Provision and

Reserves

CLASS 11
ACCOUNTS
 NOTES
PROVISION AND RESERVES
Since Business work on "Going concern concept"
ie... life of Business is not limited.
In order to determine net profit of each year,
not only current year contingencies but future contingencies should
also be considered.
This is done by provisions & reserves.

Provisions
In simple words, Provision refers to the estimated amount set
aside to meet an uncertain loss or expense in future.

It is a charge against profit, and reflect in P&L A/c or Statement of

P&L.
Example Provision for depreciation, Provision for Tax, provision for
doubtful debts etc.

It is an estimated amount, not the actual amount of loss as exact

loss can't be determined in advance.

It is based on prudence / conservatism principle. ie.. "provide all

the anticipated expenses and losses but do not provide for
anticipated income.

They are made to retain future operating performance

undisturbed by losses arising out of transaction of prior period.

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Reserves
It refers to the amount set aside out of profit to strengthen the
financial position of the Business.
They are appropriation of profits
They are not set aside to meet a liability or depreciation, but will
meet known or unknown contigency that may arise in future.

Ex general reserve, workmen compensation reserve, Investment

fluctuation reserve etc.

↓
not shown in P&L, will directly reflects in B/Sheet

Reserve fund Amount of reserve is invested in outside security

Importance of Reserves

meeting legal
requirements
(Some reserves
helps in are to be
improvement
Expansion helps in meeting future
compulsorily
difficult in financial uncertainities
times position made) (DRR)

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Types of reserves

Revenue Reserves Capital Reserve

↓ ↓
Set aside out of set aside out of capital profit
revenue profit
↓ ↓
Can be used for normally not available for
distribution of distribution of dividend
dividend ↓
↓ created to meet capital losses
or specific purpose
Types of Revenue Reserve
↓
Ex
Premium on issue of Shares
premium on redemption,
Profit on sale of fixed asset
Profit on revaluation of fixed
General Reserve Specific Reserve asset etc.

↓ ↓
no specific use can for specific purpose can be used only for
be used whenever that purpose
required ↓
Ex
workmen compensation Reserve
for paying compensation Reserve
Investment fluctuation Reserve
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redemption reserve etc
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The Debit Balance of P&L (if any) should be shown as a deduction

from the reserve fund or general reserve under the head "Reserve &
surplus" on the liability side of B/sheet and vice-versa

Secret Reserve
It refers to the reserve who's existance or amount is not disclosed in
B/sheet.
Also known as hidden Reserve
ie.. their exist surplus of Asset over liabilities and that the surplus is not
disclosed ( Shown by the B/sheet)

Creation of such reserve

By creating
Excessive provision
By Charging By under By deducting for Bad debts
extra valuing capital
depreciation stock and expenditure in
goodwill P&L

Advantages Loss
1. More working capital 1.Misleading B/Sheet
2. Support of unfavourable time 2.unfair dividend to shareholders
3. unexpected losses can be met 3.Reduces the value of shares

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