Provision - What is a provision?
An amount from profits that has been put aside in a company's accounts to cover a future liability is called a provision.
A provisions main purpose is to allow a current year’s balance to become more accurate. This is because there may be costs that could be accounted for in either the previous financial year, or the current financial year. Costs that belong to one specific year could be quite misleading if accounted for in the future or in the past, depending on the circumstances.
A few facts about provisions
Though it may seem to be, a provision is in fact not a form of saving.
During accounting, provisions will be recognized on the balance sheet and also expensed on the income statement, and the resulting impact of a provision is a reduction in the firm's equity.
Setting aside a provision
There are a number of factors that could prompt provisions for liabilities, however there are certain criterions that must be fulfilled before one may view an obligation as a provision, such as:
What could a provision be?
Common provisions are:
Provision for bad debts
A provision for bad debts is one that has been calculated to cover the debts during an accounting period that are not expected to be paid.
A general provision is not allowed as a deduction for tax purposes.
A specific provision, in which specific debts are identified, is allowed as a tax deduction if there is documentary evidence to indicate that these debts are unlikely to be paid.