Page 119 - DEBK-XI(2020)

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C H A P T E R

Provisions and Reserves

MEANING OF KEY TERMS USED IN THE CHAPTER

1. Provision Provision is an amount set aside by charging it to profits to meet a
known liability, amount of which is not determined and is accounted by
making best estimate.
2. Reserve It is an amount set aside out of profits to meet an unknown contingency
or to strengthen the financial position.
3. Revenue Reserve It is the amount of reserve set aside out of revenue profits.
4. Capital Reserve It is the amount of capital profit transferred to Capital Reserve.
5. General Reserve It is the amount set aside out of profits not for any specific purpose.
6. Specific Reserve It is the amount set aside out of profits for a specific purpose, say,
Reserve for Expansion.
7. Secret Reserve or It is a reserve the existence and/or the amount of which is not disclosed
Hidden Reserve in the Balance Sheet.
8. Reserve Fund Amount of reserve invested outside the business, i.e., reserves against
which investment exist is termed as Reserve Fund.

CHAPTER SUMMARY

• Provision is providing for a liability the amount of which is not certain. In other words, the
amount provided is an estimate. Examples are: Provision for Doubtful Debts, Provision for
Discount on Debtors, etc.
• Concept of Provision is to provide for liabilities, losses and expenses, whether the amount
thereof is ascertained or not.
• Objective of Provision is to show correct profit or loss and liabilties and assets are shown
at correct values.
• Reserve is an amount set aside out of profits to meet future contingencies or to strengthen
the financial position of the enterprise. Examples of reserves are General Reserve, Reserve
for Expansion, Dividend Equalisation Reserve, etc.
All Reserves appear on the liabilities side of the Balance Sheet.
• Reserves are generally classified into:
(a) Revenue Reserves and (b) Capital Reserves.
(a) Revenue Reserves: They are created out of revenue profits which are available for
distribution as dividend. Examples are: General Reserve, Debentures Redemption
Reserve, Dividend Equalisation Reserve, etc.
Revenue Reserves can further be classified into:
(i) General Reserve and (ii) Specific Reserve.
(i) General Reserve: This reserve is not created for any particular purpose. It is
available for any future contingencies or expansion of the business.
(ii) Specific Reserves: Specific Reserves are those reserves which are created for specific
purpose and are utilised for that purpose.
(b) Capital Reserve: It is created out of capital profits. Examples are: Profit prior to
incorporation, Premium on issue of securities, Profit on forfeiture of shares, etc.