Revaluation reserve

The companies registered in India have to follow the specific format of recording and reporting the financial statements. These are known as the Indian Accounting Standards. India has also integrated and adopted the IFRS (International Financial Reporting Standards) as the businesses are going global.

Therefore, the reporting of various aspects in the books of accounts has to be in line with such reporting requirements. As per these accounting standards, there are many types of reserves that a company needs to create in their books of accounts for different purposes. The usage of such reserves is restricted depending on the nature of the reserve. These reserves are a charge in the company’s profits or an addition to them. One such important reserve is the revaluation reserve and it is reflected in the balance sheet of the organization. 

Given below are the meaning of the revaluation reserve and a few details relating to this concept. 

What is a revaluation reserve?

Let us first begin with the meaning of revaluation reserve in the books of accounts. The term revaluation literally means a reassessment of the value of something. A revaluation reserve is created when the company reevaluates the value of its assets or liabilities of the company and reports them at their true value in the books of accounts.

There are two methods to create a revaluation reserve, namely, the indexation method and the current market price method. In case the value of the revalued asset is higher than the original book value, the difference will be credited to the revaluation reserve account. In case the value of the revalued asset is lower than the original book value, the difference will be debited to the revaluation reserve account. The revalued asset is both the cases will be reflected at the revised revalued value in the books of account. 

This is a non-cash reserve as it has a mere book entry effect on the assets of the organization. The revaluation reserve is also held in the balance sheet of the organization on the asset side of the liability side of the company depending on the positive or negative reserve. Since the revaluation reserve is a non-cash reserve, the company cannot charge any cash expenses or losses as it would amount to setting off actual losses against unrealized gains. 

Any loss from the sale of such asset is first adjusted against the revaluation reserve earlier created. After such charge, if there is any surplus left in the revaluation reserve account is to be transferred to the General Reserve account. This amount is then available for distribution to the owners. Also, as per the provisions of AS 10 and guidelines of IFRS in this regard, any accumulated losses or depreciation can also not be set off against the revaluation reserve. However, any additional depreciation on account of upward revaluation of the assets has to be adjusted against this reserve to utilize it. 

What is the formula for revaluation reserve?

Revaluation reserve is the difference between the fair market value and the book value of an asset. Therefore, the formula for the same is mentioned below,

Revaluation Reserve = Market value of the asset – book value of the asset. 

When the market value of the asset is higher than the book value a positive revaluation reserve is created. When the market value of the asset is less than its book value, it implies that the asset is overvalued. A negative revaluation reserve is therefore created with a charge to the value of the asset. 

How is revaluation reserve accounted for in books of accounts?

The journal entries for the creation of the Revaluation Reserve are mentioned below.

1. When the current market value is higher than the book value, the journal entry for creating the revaluation reserve is mentioned below

Particulars	Debit Amount	Credit Amount
Asset account	XXX
To Revaluation Reserve Account		XXX

2. When the current market value is lower than the book value, the journal entry for creating the revaluation reserve is mentioned below

Particulars	Debit Amount	Credit Amount
Revaluation Reserve Account	XXX
To Asset account		XXX

How is revaluation reserve different from capital reserve?

A capital reserve is another important reserve to be created in the books of account. The key differences between the capital reserve and revaluation reserve are highlighted below.

Category	Revaluation Reserve	Capital Reserve
Meaning	Revaluation reserve is created on account of the difference between the market value and the book value of the asset of liability of the organization	Capital reserve is created out of non-operational activities like sale of an asset or investment, issue of shares or debentures at premium
Purpose	The purpose of this reserve is to account for the true value of the asset or liability in the books of account.	This reserve is created to fund any future projects or to finance any business expansion
Disbursal	This reserve is carried in the books of accounts till the asset is disbursed or till the fund is exhausted on account of a charge of excess depreciation.	This reserve is carried in the books of accounts till the purpose for which it is created is achieved.

Conclusion

It is considered to be a healthy practice to reassess the value of the assets and liabilities of the organization from time to time to understand the true position of the business and the extent of liabilities. Creating a revaluation reserve may be a normal course of business but the disbursal of the same has to be as power the directions or guidelines of the accounting standards and IFRS in place. If the accounting treatment of this reserve is not in accordance with the relevant guidelines, the same has to be reported in the books of accounts in the audit report. The organization will have to remedy the same at the earliest report to the shareholders and owners accordingly in the following audit report. 

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