Quick answer
Retained earnings accumulate a corporation’s profit or loss, reduced by dividends and adjusted for qualifying items recognized directly in opening retained earnings. A dividend distributes value to shareholders and reduces equity; it is not an expense of earning revenue.
Retained earnings connect many periods. Profit increases the balance in the period’s equity reconciliation, while a loss reduces it. Closing entries later transfer the period’s revenue and expenses into the account, but profit belongs to the period whether or not the ledger has been closed.
The retained-earnings reconciliation
The basic movement is opening retained earnings + profit (or − loss) − dividends ± qualifying direct adjustments = closing retained earnings. Under ASPE Section 3251, specified equity components and changes are presented separately and restrictions on retained-earnings distributions are disclosed. IFRS presents owner transactions separately from total comprehensive income. Retrospective adjustments and the exact statement format still follow the applicable period and framework.
Dividend declaration and payment
A declaration can create a dividend payable when the facts and governing law establish an obligation—for example, when an authorized board action under the stated facts leaves the corporation committed to pay. Payment later settles that liability. A proposal or management intention alone does not establish the same obligation. The legal effect depends on the declaration, share terms, and corporate statute.
The declaration can be recorded directly against Retained Earnings or through a temporary Dividends Declared account that is later closed to retained earnings. Both methods reduce equity by the dividend amount.
Reconcile retained earnings and record a dividend
Riverbend Ltd. begins 2026 with retained earnings of $60,000, earns $22,000 of profit, and validly declares a $7,000 cash dividend on December 20. The stated facts establish a payable at declaration, and the dividend is paid on January 15, 2027.
Closing retained earnings are $60,000 + $22,000 − $7,000 = $75,000.
Riverbend records the declaration directly against Retained Earnings: equity decreases by $7,000 and Dividends Payable increases by the same amount.
Scroll horizontally to see all columns.
| Account | Debit | Credit |
|---|---|---|
| Retained Earnings | 7,000 | |
| Dividends Payable | 7,000 |
Scroll horizontally to see all columns.
| Account | Debit | Credit |
|---|---|---|
| Dividends Payable | 7,000 | |
| Cash | 7,000 |
Financial-statement effect
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| Statement | Account | Effect |
|---|---|---|
| Statement of changes in equity | Retained Earnings | Decreases by $7,000 when the dividend is recognized |
| Balance sheet at December 31 | Dividends Payable | Liabilities include $7,000 until payment |
| Income statement | Dividend | No expense; profit remains $22,000 |
| Cash flow statement in 2027 | Dividend paid | Cash outflow when paid; classification follows the framework |
- Statement of changes in equity
- AccountRetained Earnings
- EffectDecreases by $7,000 when the dividend is recognized
- Balance sheet at December 31
- AccountDividends Payable
- EffectLiabilities include $7,000 until payment
- Income statement
- AccountDividend
- EffectNo expense; profit remains $22,000
- Cash flow statement in 2027
- AccountDividend paid
- EffectCash outflow when paid; classification follows the framework
Accumulated deficit
If cumulative losses and distributions exceed accumulated profits, retained earnings can become negative, often described as an accumulated deficit. That does not make the accounting equation fail; it means this equity component has a debit balance.
Retained earnings and cash
Retained earnings do not identify a bank account or a pool of funds available for dividends. Past profits may have been reinvested in inventory, equipment, receivables, or other assets, and the corporation may also have debts and contractual restrictions. A positive retained earnings balance therefore does not establish liquidity, solvency, or legal capacity to distribute that amount.
Canadian corporate-law context
For a corporation incorporated or continued under the CBCA, a dividend cannot be declared or paid if there are reasonable grounds to believe either that the corporation is, or would after the payment be, unable to pay its liabilities as they become due, or that the payment would leave the realizable value of its assets below its liabilities plus the stated capital of all share classes. The declaration must be made by the directors themselves. Provincial statutes and the rights of each share class must be checked for other corporations.
Stated capital is a corporate-law measure tied to issued shares and is not automatically the financial-statement share-capital balance. Likewise, the realizable-value test is legal, not accounting: carrying amounts alone do not establish that it is met.
Common errors
- Reporting dividends as an expense.
- Reducing cash on declaration when payment has not occurred.
- Assuming all retained earnings are legally available for distribution.
- Combining accumulated other comprehensive income (OCI)—the separate equity balance for specified items reported outside profit or loss—with retained earnings.