Retained earnings is best described as a company’s historic earnings minus any dividends it has declared since its formation, expressed as a percentage. In other words, it’s the percentage of a company’s net revenue that hasn’t been paid out to shareholders’ equity on the company’s balance sheet.
The formula for calculating retained earnings is relatively simple. You take your net income and subtract it from any dividends paid to shareholders. If your company has earned $300,000 in net income and has paid out $125,000 in dividends, your retained earnings are $175,000.
This begs the question: why do some companies “retain” their earnings as opposed to distributing profits among their shareholders? Well, this goes back to the old adage of “you have to spend money to make money.” Granted, companies will still distribute some of their profits to shareholders as dividends, but investing it back into the company can help them make even more money.
It’s not uncommon for a company to have negative retained earnings. Normally, this is caused by the distribution of dividends that exceeds its net revenue. However, a negative retained earnings can also occur when a company sustains major financial losses. Regardless, it’s important for business owners to properly record their retained earnings, whether positive or negative. Doing so helps to create a more transparent view of the company’s financial health.
Assuming you use Quickbooks, you can use a retained earnings account for this specific purpose. After logging in to Quickbooks, access Reports > Profit & Loss > Customize. From here, select “All Dates” for the field titled “Transaction Date.” Next, under “Rows/Columns,” select either “Fiscal Year” or “Years,” depending on your preference. You can then click “Run Report” to create the retained earnings report.
Normally, the total in this report should match your company’s retained earnings balance listed on your balance sheet report. If the two items don’t match, it means you probably have journal entries posted to the retained earnings account. So, what should you do to fix this? Click the gear-shaped icon and choose “Chart of Accounts.” Next, click “Run Report” in the “Action” field for “Retained Earnings.” You can then choose “All Dates” from the “Transaction Date,” followed by “Run Report,” after which you can add or subtract the total to match the balance sheet for your retained earnings.
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