GSEB Class 11 Solutions Chapter 3 Provisions and Reserves

Write the correct option from those given below each question:

 

Question 1. General reserve is created by debiting
(a) Profit and Loss A/c
(b) Profit and Loss appropriation A/c
(c) Trading A/c
(d) Capital A/c
Answer: (b) Profit and Loss appropriation A/c
In simple words: A general reserve is made by reducing the Profit and Loss Appropriation Account. This account helps set aside funds for future needs.

Exam Tip: Remember that general reserves are set aside from distributable profits, which is reflected in the appropriation account, not the main P&L.

 

Question 2. Provision is created out of
(a) Profit and Loss A/c
(b) Profit and Loss appropriation A/c
(c) Trading A/c
(d) Capital A/c
Answer: (a) Profit and Loss A/c
In simple words: Provisions are made from the Profit and Loss Account to cover known future expenses or losses. This ensures accurate financial reporting.

Exam Tip: Distinguish between provisions (for known liabilities of uncertain amount) and reserves (for future contingencies), and the accounts from which they are created.

 

Question 3. Which account shows that reserves are invested outside the business.
(a) General reserve
(b) Provision
(c) Reserve fund
(d) Capital reserve
Answer: (c) Reserve fund
In simple words: A reserve fund specifically indicates that the money set aside as a reserve has been put into investments outside the company's normal operations.

Exam Tip: Understand that a "reserve fund" implies external investment of the reserve amount, unlike a mere "reserve" which might be held within the business itself.

 

Question 4. Which balance is generally not used for distribution of dividend.
(a) General reserve
(b) Provision
(c) Reserve fund
(d) Capital reserve
Answer: (d) Capital reserve
In simple words: Capital reserve is money made from capital profits and usually cannot be used to pay out dividends to shareholders.

Exam Tip: Capital reserves are typically created from capital profits (e.g., profit on sale of fixed assets) and are restricted from being distributed as dividends, unlike revenue reserves.

 

Question 5. Which of the following is not advisable to create for business.
(a) General reserve
(b) Provision
(c) Secret reserve
(d) Capital reserve
Answer: (c) Secret reserve
In simple words: Creating a secret reserve is generally not a good practice for a business because it hides true financial information.

Exam Tip: Secret reserves, while sometimes created to strengthen a company's financial position, are often discouraged due to a lack of transparency and potential to mislead stakeholders.

 

Question 2. Answer the following questions in one sentence:

 

Question 1. State types of reserves.
Answer: There are two main types of reserves: (1) Revenue reserve and (2) Capital reserve.
In simple words: Reserves are of two kinds: revenue reserves, which come from normal business profits, and capital reserves, which come from specific capital gains.

Exam Tip: Classify reserves into revenue (from operating profits) and capital (from non-operating, capital gains) to clearly differentiate their sources and uses.

 

Question 2. What is reserve fund?
Answer: When the amount of a reserve is put into securities outside the business, it is called a Reserve fund.
In simple words: A reserve fund means money saved for the future has been invested outside the company.

Exam Tip: Emphasize that a "reserve fund" specifically refers to reserves that have been invested externally, thereby distinguishing it from a simple "reserve" which may just be an appropriation of profits.

 

Question 3. What is secret reserve?
Answer: A reserve formed without showing it in the profit and loss account, intended to strengthen the business's financial position, is called a Secret reserve.
In simple words: A secret reserve is hidden money kept aside, not shown in the main profit reports, to make the company stronger.

Exam Tip: Highlight that secret reserves are hidden from financial statements and are primarily used to enhance financial strength discreetly.

 

Question 4. Which reserve is used to write off loss on sale of fixed assets?
Answer: Capital reserve is used to write off any loss when selling fixed assets.
In simple words: If a company loses money selling its assets, the capital reserve is used to cover that loss.

Exam Tip: Link capital reserve with capital losses; it's a suitable fund for absorbing losses arising from the disposal of long-term assets.

 

Question 5. Give four illustrations of capital reserve.
Answer: Four examples of capital reserve are as under:
1. Profit on the sale of fixed assets and investments.
2. Profit on the revaluation of fixed assets.
3. Premium received by the company on the issue of shares or debentures.
4. Profit made before the company's incorporation.
In simple words: Capital reserves can come from profits when selling old assets, from revaluing assets, from extra money received on new shares or debentures, or from profits made even before the company officially started.

Exam Tip: Provide clear and distinct examples of capital profits, focusing on their non-operating and irregular nature.

 

Question 6. Give four illustrations of provision.
Answer: Four examples of provision are as under:
1. Provision for depreciation,
2. Provision for bad debt,
3. Provision for taxation, and
4. Provision for repairs and renewals.
In simple words: Provisions include money set aside for things like assets losing value, money not collected from customers, taxes, and future repair work.

Exam Tip: List common provisions, remembering that they cover known liabilities where the exact amount is uncertain.

 

Question 3. Balances mentioned below are appropriated from profit. State whether it is reserve or provision:
1. Bad debts reserve
2. Debenture redemption fund
3. Depreciation fund
4. Workers accident compensation fund
5. Discount reserve on debtors
6. Dividend equalization fund
7. Capital reserve
8. Workers profit-sharing fund
9. General reserve
10. Capital redemption reserve
Answer:
Reserves:
(2) Debenture redemption fund
(4) Workers accident compensation fund
(6) Dividend equalization fund
(7) Capital reserve
(9) General reserve
(10) Capital redemption reserve
Provisions:
(1) Bad debts reserve
(3) Depreciation fund
(5) Discount reserve on debtors
(8) Workers profit-sharing fund
In simple words: Some funds like debenture redemption or general reserve are true reserves for future growth, while others like bad debts or depreciation funds are provisions set aside for specific, known liabilities.

Exam Tip: Clearly differentiate between reserves (appropriations of profit for strengthening the business or for general purposes) and provisions (charges against profit for specific, known liabilities but uncertain amounts).

 

Question 4. Answer the following questions in two or three sentences:

 

Question 1. What is provision?
Answer: Provision means an amount kept from profit to honor probable liabilities that can be identified, but whose exact amount cannot be known accurately. For example, Provision for depreciation, provision for bad debt, provision for repairs and renewals, provision for taxation, provident fund, pension fund, workers profit-sharing fund, and provision for voluntary retirement scheme are all examples of provisions.
In simple words: A provision is money set aside from earnings for likely future costs or debts that are known, but the exact amount is not yet certain. It covers things like asset wear-and-tear or expected losses.

Exam Tip: Define provision as an amount set aside for known liabilities of uncertain amount, and give a few common examples to illustrate its purpose.

 

Question 2. State the characteristics of provision.
Answer: Characteristics of provision are as under:
* Provision is an amount set aside from profit or income for a specific purpose.
* Provision is an amount set aside from profit for probable expenses or losses or liabilities for which the exact amount cannot be accurately determined.
* Provision is set aside out of the profit and loss account.
In simple words: Provisions are amounts saved for specific future costs or debts that are known but have an unknown value, and this money comes directly from the profit and loss account.

Exam Tip: Focus on the key traits: specific purpose, uncertain amount of known liability, and being a charge against the profit and loss account.

 

Question 3. What is the importance of provision?
Answer: The importance of provision is as under:
* True and fair profit or loss of the business can be determined.
* On the end of an asset's useful life, the managed funds (Provision) can be used to buy new assets.
* Known future liabilities can be spread evenly over certain years by making provisions.
* The assumption of going concern and the principle of prudence can be followed by making provision.
* Business capital will be maintained by making provisions.
* To show the assets and liabilities of the business at their correct and true value.
* To provide for future losses and expenses if the amount of such losses and expenses is not known in advance.
* Provision is made to prevent the impact of transactions made during the year on the financial performance in the future.
In simple words: Provisions are important because they help show a company's real profit, save money for new assets, spread out future costs, follow accounting rules, keep business capital safe, and show the true value of assets and debts. They also cover expected future expenses.

Exam Tip: Explain that provisions ensure accurate financial reporting, facilitate asset replacement, help adhere to accounting principles, and manage future uncertainties effectively.

 

Question 4. Give the meaning of reserve.
Answer: Considering the future, an amount set apart from the profit is known as a reserve. According to accepted business principles, a reserve is the part of profit set aside for meeting known or unknown future contingencies. In short, the amount allocated from the profit for any specific purpose or without any purpose is known as a reserve. This reserve is created from the Profit and Loss Appropriation Account, e.g., General reserve, Workers accident compensation fund, Investment fluctuation reserve, Dividend equalization fund, Capital redemption reserve, Debenture redemption fund, etc.
In simple words: A reserve is a part of the profit put aside for future needs, whether specific or general. It's like savings from earnings for unexpected events or growth plans.

Exam Tip: Define reserves as appropriations of profit for general financial strengthening or specific future uses, distinguishing them from provisions which are charges against profit.

 

Question 5. What is the importance of reserve in business?
Answer: The importance of creating a reserve is as under:
* It strengthens the liquidity position for the solvency of the business.
* To meet any loss that may arise in the future or to meet future contingent losses, a reserve is maintained.
* Necessary funds required for the expansion of the business are available from the reserve or profit of the business only.
* Reserve can be used to honor long-term liabilities.
* The company can maintain dividend equalization by using a reserve.
* Cash liquidity is to be maintained in the business by using a reserve.
* A reserve is to provide for any known liabilities to be paid easily in the future like provident fund, etc.
* Reserves are created to fulfill some of the statutory requirements.
In simple words: Reserves help a business stay strong by improving cash flow, covering future losses, funding growth, paying long-term debts, keeping dividends steady, and meeting legal rules.

Exam Tip: List various advantages of maintaining reserves, focusing on financial stability, growth, and compliance with regulations.

 

Question 5. Answer the following questions :

 

Question 1. Clarify the importance of provision.
Answer:
* True and fair profit or loss of the business can be determined.
* On the expiry of an asset's useful life, the managed funds (Provision) can be used to purchase new assets.
* Known future liabilities can be spread evenly over certain years by making provisions.
* The assumption of going concern and the principle of prudence can be followed by making a provision.
* Business capital will be maintained by making provisions.
* To show the assets and liabilities of the business at their correct and true value.
* To provide for future losses and expenses if the amount of such losses and expenses is not determined in advance.
* Provision is made to prevent the impact of transactions made during the year on the financial performance in the future.
In simple words: Provisions are vital for showing correct profits, replacing old assets, managing future known costs, following accounting principles, protecting business capital, and ensuring financial statements are accurate. They also prepare for future losses.

Exam Tip: When clarifying importance, explain how provisions contribute to financial accuracy, long-term stability, and adherence to accounting standards like prudence.

 

Question 2. Why a reserve is created in business?
Answer: Considering the future, the amount set apart from the profit is known as a reserve. According to accepted business principles, a reserve is the portion of profit set aside for meeting known or unknown future contingencies. In short, the amount which is allocated from the profit for any specific purpose or without any purpose is known as a reserve. This reserve is created from the Profit and Loss Appropriation Account, e.g., General reserve, Workers accident compensation fund, Investment fluctuation reserve, Dividend equalization fund, Capital redemption reserve, Debenture redemption fund, etc.
* It strengthens the liquidity position for the solvency of the business.
* To meet any loss that may arise in the future or to meet future contingent losses, a reserve is maintained.
* Necessary funds required for the expansion of the business are available from the reserve or profit of the business only.
* A reserve can be used to honor long-term liabilities.
* A company can maintain dividend equalization by using a reserve.
* Cash liquidity is to be maintained in the business by using a reserve.
* A reserve is to provide for any known liabilities to be paid easily in the future like provident fund, etc.
* Reserves are created to fulfill some of the statutory requirements.
In simple words: Reserves are created in a business to save money from profits for future needs, whether expected or unexpected. They help the business stay financially strong, grow, cover potential losses, pay off debts, and maintain stable dividends.

Exam Tip: Explain that reserves provide financial stability, allow for future growth and contingencies, and help meet legal obligations, all contributing to a company's overall health.

 

Question 3. What is specific reserve? State its types.
Answer: Meaning: When a revenue reserve is created out of the profit and loss appropriation account for a specified purpose, it is known as a Specific reserve or Special reserve. Such a reserve is used for the same purpose for which it is created. When the purpose of such a reserve is over, the balance of the Specific reserve is to be transferred to the General reserve and used for any other purpose.
Types of specific reserve :
* Investment fluctuation fund,
* Debenture redemption fund,
* Sinking fund,
* Dividend equalization fund, and
* Workers accident compensation reserve (fund).
In simple words: A specific reserve is money set aside from profits for a single, clear purpose, like an investment fund or a fund to pay off debentures. Once its job is done, any remaining money can be moved to a general reserve.

Exam Tip: Define specific reserve by its dedicated purpose and list common examples, highlighting that its use is restricted to that particular objective.

 

Question 4. How the secret reserve is created?
Answer: Secret reserve can be created as follows:
* By undervaluing closing stock.
* By showing more contingencies than required, e.g., provision for bad debt.
* By showing contingent liability as actual liability.
* By making more provision for depreciation.
* By recording capital expenditure in Profit and Loss Account.
* By showing more expenses than actual.
In simple words: Secret reserves can be made by valuing stock lower, overstating provisions or liabilities, making too much depreciation, or recording capital costs as regular expenses, which all reduce reported profits.

Exam Tip: Explain methods of creating secret reserves, focusing on how accounting policies can be manipulated to understate profits or assets, or overstate liabilities or expenses.

 

Question 5. What is capital reserve? State its uses.
Answer: Meaning: The reserve which is created out of capital profit and cannot be used for the distribution of dividend is known as Capital reserve.
Sources of capital reserve: Following are the sources of capital reserve:
* From profit on sale of fixed assets and investments.
* From profit on revaluation of fixed assets.
* From profit made at the purchase of an existing business at a lower cost than the actual one.
* From profit prior to the incorporation of the company.
* From premium received by the company on the issue of shares or debentures.
* From the balance of Share Forfeiture Account, after the reissue of forfeited shares by the company.
* From the profit earned at the time of redemption of debentures.
* From capital redemption reserve for redeeming preference shares.
Use of capital reserve:
A company cannot declare a dividend from the capital reserve, but it can be put to the following uses:
* To write off capital losses.
* To issue bonus shares; if the Articles of Association provides.
* To write off fictitious assets like goodwill, preliminary expenses, discount on debentures.
* In special circumstances under special conditions, dividends can also be declared out of capital reserve.
In simple words: Capital reserve is money saved from profits not related to normal business, such as selling old assets for more than they cost. It can't usually be given out as dividends, but it can cover big losses or be used for bonus shares if allowed.

Exam Tip: Define capital reserve by its source (capital profits) and its primary restriction (not for dividend distribution), then list its specific legitimate uses.

 

Question 6. Distinguish between :

 

Question 1. General Reserve and Provision

Answer: This table clearly outlines the key differences between general reserves and provisions across various accounting aspects. General reserves are voluntary appropriations of profit for general purposes or strengthening the business, created only when profits are earned, and can be used for dividends. Provisions, in contrast, are mandatory charges against profit for specific, known liabilities of uncertain amount, must be made even in case of losses, and cannot be used for dividends.
In simple words: General reserves are voluntary savings from profits for future growth or unforeseen events, while provisions are required funds set aside for specific, expected future costs, even if the company loses money.

Exam Tip: When distinguishing between general reserve and provision, focus on whether creation is mandatory or voluntary, their source (appropriation vs. charge), their purpose (general vs. specific), and their impact on distributable profits.

 

Question 2. General Reserve and Capital Reserve

Answer: This table highlights the distinctions between general and capital reserves. General reserves are formed from revenue profits for flexible, general uses, including dividend distribution, and are recorded in the Profit and Loss Appropriation Account. Capital reserves, on the other hand, arise from capital profits, have specific, restricted uses like writing off capital losses or issuing bonus shares, cannot generally be used for dividends, and are transferred to a separate Capital Reserve Account.
In simple words: General reserves come from normal business earnings and can be used for many things, even dividends, while capital reserves come from special profits (like selling assets) and have specific, limited uses, usually not for dividends.

Exam Tip: Differentiate general and capital reserves based on their source (revenue vs. capital profits), purpose (general vs. specific), and flexibility in use, especially regarding dividend distribution.