An appropriation in accounting refers to the process of setting aside a portion of a company’s profits or retained earnings for a specific purpose, such as funding future investments, paying off debt, or covering other planned expenses. This action is taken by the company’s management or board of directors to ensure that the funds required for particular purposes are available and not used for other activities, such as dividend distribution.
Appropriations are usually reflected in a company’s financial statements, specifically in the equity section of the balance sheet. The retained earnings account is reduced by the amount appropriated, and a separate account, such as “Appropriated Retained Earnings,” is created to represent the set-aside funds.
Appropriations are an internal accounting decision that helps the company plan and manage its financial resources more effectively. They demonstrate a company’s commitment to specific projects or obligations and can serve as a signal to investors, creditors, and other stakeholders about the company’s priorities and financial discipline.
Example of an Appropriation
Let’s take a look at an example of an appropriation in accounting:
Company ABC has a retained earnings balance of $500,000. The board of directors decides to set aside $200,000 of these earnings for a planned expansion of the business. This decision to allocate a portion of the retained earnings for a specific purpose is an appropriation.
The company’s balance sheet would reflect this change as follows:
- Retained Earnings: $500,000
- Retained Earnings: $300,000
- Appropriated Retained Earnings (Expansion Fund): $200,000
In this example, the retained earnings account is reduced by the $200,000 appropriated for the expansion fund, and a separate account is created to represent the set-aside funds. This appropriation helps Company ABC ensure that the necessary funds for its planned expansion are available and not used for other purposes, such as paying dividends or covering unexpected expenses. It also shows investors and creditors that the company is committed to its growth plans and is managing its financial resources responsibly.