DIFFERENCE BETWEEN PROVISIONS AND RESERVES

Before understanding the difference between Provisions and Reserves, the two concepts must be understood:

PROVISIONS

Provisions meaning states the amount set aside by charging to the Profit and Loss Account, to provide for any known liability, the amount of which cannot be determined with accuracy.

ACCORDING TO COMPANIES ACT 2013:

“Provision usually means an amount written off or retained by the way of providing depreciation, renewals or dimunitions in the value of the assets or retained by the way of providing any known liability, of which the amount cannot be determined with the substantial accuracy.”

RESERVES

It refers to the amount set aside out of profits of the business to strengthen its financial position or to meet future contingencies or losses. Reserves Accounting aims to provide the firm with sufficient finance to safeguard itself for upcoming adverse situations.

Usually the firm does not distribute the whole amount of profits. It retains the amount of profits to use it for upcoming contingent losses and future projects. The creation of reserves are

• For redeeming liabilities
• To replace the depreciable assets
• For declaring uniform rate of dividend throughout the years.

Reserves are created only in that year in which the firm earns sufficient profit. It means no reserves can be created in the year firm suffers losses.

ACCORDING TO WILLIAM PICKLES

“Reserves mean the amount set aside out of profits and surpluses which are not earmarked in any way to meet any particular liability, known to exist on the date of the balance sheet.”

DIFFERENCE BETWEEN PROVISIONS AND RESERVES

BASIS OF DIFFERENCE	PROVISIONS	RESERVES
Nature	It is a charge against profit	It is an appropriation of profit
Purpose	It is created to meet known liability	It is created to strengthen the financial position and to meet an unknown liability.
Utilization for dividend	It cannot be used for distribution by the way of dividend	It can be used for distribution as dividend.
Effect on profit	Provision is debited to Profit and Loss a/c. So, it reduces the profit.	Reserve is an appropriation of profit. So, it reduces the divisible profit.
Investment	It’s amount is not invested in outside business..	It’s amount is invested outside the business.
Legal necessity	It is made due to legal necessity	It is creates as a matter of prudence.
Presentation in balance sheet	It is shown either as liability under the head ‘Current liabilities” or as a deduction from the asset.	It is shown on the liability side of the Balance Sheet under the head ‘ Reserve and Surplus’
Sufficiency	Its amount must be sufficient to meet the loss or liability.	Its amount is generally determined by management on the basis of the amount of profits earned.
Impact on working capital	It cannot increase the working capital- it is utilized for meeting the specific loss or liability.	It increases the working capital thereby strengthens the financial position of a business concern.
Owner’s Claim	The owner of the business cannot have any claim over it, since it is created for meeting specific loss or liability.	The owner can claim it, since it is created out of profit.
Utilization	It is utilized for the specific purpose for which it has been created.	It can be utilized for the purpose whatsoever.
Adequacy	Auditor must check its adequacy.	Auditor is not required to check its adequacy.

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Difference between cost accounting and financial accounting	Financial accounting, cost accounting and management accounting	Difference between hire purchase and instalment system	Financial ratio analysis
Difference between transaction and event	Transactions	Users of Accounting	Ratio analysis
Limitation of Accounting	Capital Expenditure	Instalment System	Difference between consignment and sale
Book Keeping	Revenue Expenditure	Reserves Accounting	Abnormal loss vs normal loss in consignment
Accountancy	Difference between capital and revenue expenditure	Provisions	Treatment of loss on consignment
Accounting as science or an art	Accounting Equation	Single entry system	Accounting treatment of consignment
Book Keeping vs accounting	Deferred Revenue Expenditure	Difference between statement of affairs and balance sheet	Joint venture vs consignment
Book keeping vs accountancy	Capital receipt	IFRS	Departmental Accounting
Accounting vs accountancy	Revenue receipt	Balance Sheet	Methods of departmental accounting
Basis of Accounting	Difference between capital and revenue receipt	Profit and loss Account	Allocation of expenses in departmental accounting
Branches of accounting	Difference between accounting concepts and conventions	Trading Account	Inter-departmental transfers
Cash and mercantile system of accounting	Accounting Standards	Voyage Account	Different types of branches
Accounting Principles	Objectives of Accounting	Accounting for Incomplete Voyage	Departmental vs Branch accounting
Golden ru les of accounting	Process of Accounting	Joint venture	Methods of branch accounting
Double entry system of book keeping	Scope of Accounting	Joint Venture Vs Partnership	Incorporation of branch trial balance
Double entry vs Single entry system	Accounting Concepts vs Accounting conventions	Methods of recording transactions in Joint Venture	Garner VS Murray Rule
History of Accounting	Difference between provisions and reserves	Consignment