Reserve and Provision are two common terms often discussed in business. Both these terms are important for maintaining the integrity of a business.
Difference Between Reserve and Provision
| Reserves | Provisions |
| 1. Reserves are made to strengthen the financial position of a business and meet unknown liabilities & losses. | 1. Provisions are made to meet specific liability or contingency, e.g. a provision for doubtful debts. |
| 2. Reserve is only made when the business is profitable. | 2. Provisions are made irrespective of profits earned or losses incurred by a business. |
| 3. They can be used to distribute dividends to shareholders. | 3. They cannot be used to distribute dividends as they are made for a specific liability. |
| 4. They are made by debiting P&L Appropriation Account. | 4. They are made by debiting P&L accounts. |
| 5. It is not mandatory to create reserves for the business, it is mainly done for prudence. | 5. It is mandatory to create provisions as per various laws. |
| 6. Reserves are shown on the liability side of a balance sheet. | 6. Provisions are either shown on the liability side of a balance sheet or as a deduction from the concerned asset. |
| 7. It may be used for investment outside the business. | 7. It can not be used for investment purposes. |
Meaning of Reserve
Reserve is the term that refers to a sum or percentage of profit that a company retains or keeps aside at the end of a financial year towards meeting future contingencies that may occur. It helps to strengthen the business. Stabilizes the financial position of a company by being used for expansion of assets, dividend payments, and investments.
There are two types of reserves in an organization
- Capital Reserve
- Revenue Reserve
Meaning of Provision
The provision refers to an amount that is kept aside from a company’s profit to cover probable expenses arising in the future or a possible reduction in the value of an asset. Provisions are important for a business as they address certain expenses in business and payments made for them.
