What is a statutory reserve? Explanation and calculation.

A statutory reserve is a mandatory reserve that must be recognised in a company’s financial statements. It is designed to help preserve capital, manage financial risks, and maintain the financial health of a business. A statutory reserve cannot be distributed as dividends until specific legal or financial obligations have been met.

Examples of statutory reserves include revaluation reserves or reserves set aside when profits are not yet realised. In this article, we explain the statutory reserve meaning, when you are required to maintain one, how to calculate it, and how to properly present it in your balance sheet.

Table of contents:

1. When is a statutory reserve required?
2. The 6 different types of statutory reserves
3. How to calculate a statutory reserve?
4. How to book the statutory reserve on the balance sheet?
5. When to use a statutory reserve for subsidiaries?
6. Optimise your credit control process with Payt
7. Frequently asked questions

When is a statutory reserve required?

Under UK company law (Companies Act 2006), a statutory reserve is required in specific situations—most notably when a company issues shares at a premium (share premium account) or revalues fixed assets. The statutory reserve rate is not fixed, but certain events trigger the obligation to retain part of the profit or equity.

Common scenarios include:

• Revaluation of property or investments
• Retained earnings from subsidiaries not yet received
• Repurchase of own shares (treasury shares)
• Translation differences in foreign currency accounts
• Issuing shares above nominal value

Who needs to maintain statutory reserves?

All limited companies, including private limited companies (Ltd) and public limited companies (Plc), may be required to maintain statutory reserves depending on their activities. Some types are legally required, while others are recommended under UK GAAP for fair presentation.

This should not be confused with central banking terms like the cash reserve ratio and statutory liquidity ratio, which apply to banks and financial institutions under Bank of England rules.

The 6 different types of statutory reserves

These statutory reserves contribute to a strong and reliable equity position in the company’s balance sheet.

How to calculate a statutory reserve?

The statutory reserve calculation depends on the type of reserve and applicable event. For example, when a company receives profit from a subsidiary but has not yet received the dividend, a reserve should be created based on the difference between the investment’s book value and actual payment received.
Other statutory reserves are based on the revaluation amount, share premium, or retained profit not yet distributable. The general rule is to restrict distribution of those amounts until the related obligation is resolved.

Example:
Imagine your company holds a subsidiary valued at £100,000. You received only £ 25,000 in dividends in the last year.

• Book value of investment: £ 100,000
• Dividend received: £ 25,000
• Statutory reserve: £ 75,000

In this case, £ 75,000 should be allocated to the statutory reserve and not made available for distribution.

How to book the statutory reserve on the balance sheet

A statutory reserve is recorded under the “reserves” section within equity on the balance sheet. It may appear as “revaluation reserve”, “capital redemption reserve”, or “undistributable reserve”, depending on the context. It is important not to confuse this with general or voluntary reserves, which may be distributable.
The booking typically takes place during the preparation of the year-end accounts, in line with UK GAAP and legal obligations from the Companies Act 2006.

When to use a statutory reserve for subsidiaries?

A statutory reserve should be created when profits from a subsidiary are recognised in the accounts but not yet received as a dividend. This ensures that only realised profits are available for distribution to shareholders. This situation often arises when the equity method is used for accounting for subsidiaries.

How to determine the reserve amount?

Identify the proportion of profit from the subsidiary that has been included in your net profit but not yet paid out. This is booked under the statutory reserve for subsidiaries. Once the dividend is actually paid, the reserve can be reclassified or released.

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When your credit management process runs efficiently, you always have the right data to correctly calculate and apply statutory reserves. Want to see how Payt can help your business? Download our brochure below.

Frequently asked questions