Provisions and reserves are similar as they both deal with losses and liabilities and reduce a business’s net assets and equity. The main way they differ in that provisions are created to meet known losses and liabilities where the amount is not certain, while reserves are created to meet future unknown losses and liabilities.
Generally the provisions and reserves recorded in business financial statements are not tax deductible until the expenses are actually incurred. An expense will be incurred where there is a commitment or obligation to pay the actual expense (not just a provision for a future expense that may or may not be paid).
Common provisions and reserves include:
- Directors’ fees,
- Employee wages,
- Warranty repair costs,
- Legal reserve fund,
- Employee and management bonuses reserve,
- Workers compensation claims, and
- Contingent liabilities.
Employee wages will be incurred and deductible where the employee has worked up to 30th June, but not been paid up to 30th June. This occurs where employees are paid weekly or fortnightly and the pay period ends prior to 30th June.