Question

Explain the terms Reserve and Provision with example​

Answer 1

Answer:

Reserve - Appropriation of profit

Provision - Charge against profit

Explanation:

Provision implies money set aside to cover an anticipated liability or loss.

Reserves refer to withholding some amount for any use in future.

While running a business, some expenses or losses relate to the current financial year, but their amount is not known, as they are not yet incurred. For such expenses/losses provision is created, as a charge against profit.

Examples:

 A. 1. Provision for Bad Debts

     2. Provision for Depreciation

     3. Provision for Tax

Likewise, a certain portion of the profit is retained in the business as reserves, to utilize them at the time of need, or to invest it in growth activities, or to cover future contingencies. Reserves are the only appropriation of profit.

Examples:

    1. Capital Reserve

     2. Revenue Reserve

        (i) General Reserve

        (ii) Specific Reserve

So, the basic difference between provision and reserve is that net profit is calculated only after giving effect to all provisions, whereas reserves are created only after reckoning profit.

Conclusion

Provision and Reserves both decreases the profit, but the creation of provision is a must to cope up with the known future expense. Liabilities must be recognized as and when they arise, and that is why provisions are made for the same. Reserves are a little different; they are created to preserve some money for bad days because nobody knows what will happen in future, and so experts are in favor of  creating reserves.