A reserve is an account that appears on liability and owners’ equity side of the statement of financial position (balance sheet) constituting appropriation of profits (earnings and/ or retained earnings) for a specific purpose. It is a component of equity (belonging to shareholders and maybe also to non-controlling interest) that is set aside as appropriation from respective earnings or retained earnings as well as value adjustments relating to respective categories of stakeholders. Reserves in general are designed to address specific risk management requirements. In accounting parlance, “reserve” always has a credit balance and can have many connotations depending on source and intended use: it might be a part of shareholders’ equity, a liability for estimated claims, or contra-asset for uncollectible accounts.

On the other hand, a provision is a liability whose timing and/ or amount are uncertain (whether arising from a legal or constructive obligation). It is an amount put aside in an entity’s accounts to cover a liability that may arise in the future. Setting up a provision involves a large degree of estimation and judgment given the fact that the amount, timing, and in many cases the parties in question are not known with certainty.

To recap, a reserve, forward-looking in nature, represents an appropriation out of earnings or accumulated earnings, while a provision is a direct charge to the income statement which is backward looking in nature.