Q.Distinguish between a Provision and a Reserve, with one example of each.

A provision is a charge against profit for a known liability or an anticipated fall in asset value; a reserve is an appropriation of profit, made only after profit has already been earned, to strengthen the business or fund a future purpose.

A provision reduces profit BEFORE it is calculated; a reserve is set aside only AFTER profit has already been calculated.

A Provision is an amount set aside as a CHARGE against profit — that is, it is debited to the Profit and Loss Account BEFORE the figure of net profit is even arrived at — to meet a liability or an anticipated reduction in an asset's value that the business KNOWS it must provide for, even though the exact rupee amount involves an estimate. Provision for Depreciation, Provision for Doubtful Debts, and Provision for Taxation are everyday examples; a business must create these whether it earns a profit in a given year or not, because the underlying liability or loss in value is genuinely expected to occur.

A Reserve, by contrast, is an amount set aside as an APPROPRIATION of profit — that is, only OUT OF profit that has already been calculated and genuinely earned — to strengthen the business's general financial position or to fund a specific future purpose that the owners or management choose to plan for. A General Reserve (kept for no single specific purpose, simply to strengthen the business) or a Dividend Equalisation Reserve (kept to allow a steady dividend even in a lean year) are typical examples. A reserve can only be created when the business has sufficient profit; unlike a provision, a general reserve remains available for future use, including for paying out as a dividend if the owners so decide.

Students often treat 'provision' and 'reserve' as interchangeable everyday synonyms — in accounting they are fundamentally different: a provision is deducted BEFORE profit is arrived at (an expense), while a reserve is set aside AFTER profit is arrived at (an appropriation of an already-earned surplus).