What does the profit and loss reserve mean, and what if it is negative?
What is the profit and loss reserve?
The profit and loss reserve is the running total of a company's results since it was formed: every year's profit after tax is added, every loss is deducted, and dividends paid to shareholders are taken off. It is also called retained earnings.
It is a figure in the books, not a pot of cash. A company can have £200,000 of retained earnings and an empty bank account because the profits were spent on equipment, stock or paying down loans.
Where it sits on the balance sheet
The profit and loss reserve is item K.V, the last line under "Capital and reserves", in the balance sheet formats of Schedule 1 to the Small Companies Regulations (SI 2008/409). Above it are called up share capital, share premium, revaluation reserve and other reserves.
- Small company accounts (FRS 102 Section 1A): shown as its own line, usually worded "Profit and loss account" or "Retained earnings".
- Micro-entity accounts (FRS 105): the micro-entity format shows "Capital and reserves" as a single heading with no sub-items. Many micro-entities still list share capital and the profit and loss reserve separately, but they do not have to.
Because capital and reserves always equals net assets, the profit and loss reserve is usually what moves net assets from one year to the next.
Worked example
Example (illustrative figures, not a real company):
| Year | Profit (loss) after tax £ | Dividends £ | Profit and loss reserve at year end £ |
|---|---|---|---|
| Year 1 | (12,000) | 0 | (12,000) |
| Year 2 | 8,000 | 0 | (4,000) |
| Year 3 | 15,000 | (6,000) | 5,000 |
With £100 of share capital, the company had net liabilities of £11,900 at the end of year 1 and £3,900 at the end of year 2. In year 3 it made enough profit to clear the earlier losses, so it could lawfully pay a £6,000 dividend and still keep a positive reserve of £5,000. A dividend in year 2 would not have been allowed.
Dividends only from distributable profits
A company may only pay dividends out of profits available for the purpose. Section 830 of the Companies Act 2006 defines these as accumulated realised profits, not previously distributed or capitalised, less accumulated realised losses. Whether a dividend is allowed is judged on the relevant accounts, normally the last annual accounts, or interim accounts where needed (s836).
So a company with a negative profit and loss reserve generally cannot pay a dividend, even if it made a profit this year, until the earlier losses are covered. A shareholder who receives a dividend knowing, or having reasonable grounds to believe, that it breaks these rules is liable to repay it (s847).
What a negative reserve tells a credit checker
A negative reserve means the company has lost more money than it has made over its life. In a young company that is often start-up losses; in an older one it can mean years of decline.
The key comparison is with share capital and other reserves. Most small companies have £1 or £100 of share capital, so almost any accumulated loss turns net assets negative. That applies to 18.8% of active UK companies with recent machine-readable accounts, and the share has risen from 15.2% of accounts for 2018 year ends to 18.7% for 2025, according to our negative net assets data.
Negative net assets do not by themselves mean insolvency; many companies are funded by their directors. Our guide on negative net assets explains the legal tests. What to check: whether the reserve is getting better or worse year on year, whether dividends were paid while it was negative, and who the company's creditors are. To see the reserve and net assets across a company's filings, search the company.
Sources
- Companies Act 2006, section 830 (distributions only out of profits available)
- Companies Act 2006, section 836 (accounts used to justify a distribution)
- Companies Act 2006, section 847 (repayment of unlawful distributions)
- The Small Companies and Groups (Accounts and Directors' Report) Regulations 2008, Schedule 1 (balance sheet formats)
FAQ
Is the profit and loss reserve the same as retained earnings?
Yes. UK statutory formats call the line "Profit and loss account" under capital and reserves, while many accountants and software packages label it "Retained earnings" or "Profit and loss reserve". All mean the same thing: cumulative profits kept in the company less cumulative losses and dividends since incorporation.
What does a negative profit and loss reserve mean?
It means the company's total losses since it started exceed its total profits, after dividends. It is common in the first years of trading and in companies funded by director loans. If the negative balance is bigger than share capital and other reserves, the company has negative net assets, and it cannot lawfully pay dividends until the losses are made good.
Can a company pay dividends with negative retained earnings?
Generally no. Section 830 of the Companies Act 2006 allows distributions only out of accumulated realised profits less accumulated realised losses. A profit this year does not help if earlier losses still exceed it. Shareholders who receive an unlawful dividend knowing it breaks the rules can be required to repay it.
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