What is the Revaluation Reserve
Revaluation reserve is an accounting term used when a company has to enter a line item on its balance sheet due to a revaluation performed on an asset. This line item is used when the revaluation assessment finds that the current and probable future value of the asset is higher than the recorded historic cost of the same asset.
BREAKING DOWN Revaluation Reserve
A revaluation reserve falls under the category of supplementary capital, in that it does not reflect ordinary business results. Due to revaluation, reserves typically are not counted as capital that can be leveraged for financial institution's (such as banks) contractual provisions.
The revaluation reserve refers to the specific line item or record required when the revaluation of an asset, accepted as a part of the organization’s equity, has resulted in a surplus. This is necessary for the proper accounting of current asset values, under fair value accounting, and is likely reported separately on any equity statement. Additionally, the financial gain is generally not referred to as profit, instead, it is referred to as a surplus to avoid any confusion regarding the nature and source of the gains.
A revaluation reserve may also be necessary when assets are held in foreign markets and valued in foreign currency. This reserve is then used to account for fluctuations in value generally caused by changes in the value ratio of the organization’s home currency and the currency where the asset is held, also known as the exchange rate.
Fair Value Accounting
Fair value accounting involves regular revaluations of an organization’s assets. This allows for proper accounting of the difference between an asset’s current market value and the recorded value reported by the organization, whether due to an asset’s true increase in value or whether original depreciation estimates were inaccurate, as such changes may affect shareholder funds.
Assets Subject to Revaluation Under Fair Value Accounting
The most commonly reported assets that require revaluation are those relating to land or other real estate and investments. Each asset in these areas is known to have the potential to change in value, sometimes dramatically, and have an effect on shareholders.
If a revaluation results in a lower value than previously recorded, also referred to as a deficit, any previously recorded reserve is first used to offset the difference, resulting in a reduction in the fund. If the revaluation reserve lacks the funds to cover the loss, the excess funds that cannot be offset can be treated as an impairment and reported as a loss.