What Is a Retained Earnings Statement? How It Works

As a business owner, you need to know how to both generate and manage profits. Your income statement reveals how much you’ve earned and spent and your balance sheet shows your overall financial position. While your statement of retained earnings offers a link between your company’s profitability and equity.

A retained earnings statement indicates how your net income is either reinvested or paid out to business owners, revealing how well your company is building value over time and offering insight into its capacity for long-term growth. Here’s what it is, why it matters, and how to prepare one.

What is a statement of retained earnings? 

A statement of retained earnings is a financial report showing changes in your company’s retained earnings over a specific accounting period—usually a quarter or year.

Retained earnings represent the cumulative net income your business keeps rather than pays out as shareholder distributions or dividends. It appears under shareholders’ equity on the balance sheet. Note that sole proprietorships, general partnerships, and single-member LLCs that don’t elect corporate taxation don’t have retained earnings per se. That’s because these owners are responsible for paying taxes on all profits, regardless of the decision to distribute those funds or keep them in the business.

For example, your company starts the 2025 fiscal year on January 1 with $100,000 in retained earnings, earns a net income of $50,000, and pays out $10,000 in distributions or dividends. Your statement of retained earnings will show how these figures result in a retained earnings balance of $140,000 on December 31.

This statement helps assess funding for future expansion, demonstrates a reinvestment strategy to investors, and informs creditors about financial stability. It’s typically prepared at the end of each accounting period, along with the income statement and balance sheet.

Small businesses don’t always prepare standalone statements of retained earnings. Instead, they may include retained earnings as a line item in the equity section of their balance sheet.

Appropriated vs. unappropriated retained earnings

Retained earnings represent accumulated past profits but aren’t always fully available for distribution. They can be classified as appropriated (restricted for specific uses) or unappropriated (available for dividends). This distinction gives stakeholders a glimpse at your financial priorities and also how you plan to allocate resources between dividends and future plans.

Here’s the difference between appropriated and unappropriated retained earnings:

Appropriated

Appropriated retained earnings are a portion of your accumulated profits you’ve legally or voluntarily set aside for a specific future use. This means these funds are not available for dividend distribution and are earmarked for a specific project or goal.

This designation is usually made with a board resolution and is not necessarily a cash segregation, meaning the business doesn’t physically set aside actual cash funds in separate accounts. Rather, the business simply reclassifies the funds within the equity section of the company’s balance sheet. It’s an accounting entry, and doesn’t involve moving any actual money.

Common reasons for appropriation include:

• Expansion or capital projects. Funds set aside for business expansion; building new facilities, acquiring new equipment, or investing in infrastructure.

• Debt repayment. A portion of earnings reserved to meet future debt obligations.

• Legal requirements. Laws or loan agreements may require a portion of retained earnings be restricted. For example, in some regulated industries, companies must keep a certain percentage of their earnings to remain financially stable.

• Contingency reserves. Funds held back as part of contingency plans for emergencies or potential lawsuits.

Let’s say your business allocates $20,000 of its retained earnings for the purchase of new equipment. This formally designates these funds for that purpose, prioritizing business growth and indicating why a larger dividend might not be issued.

Unappropriated 

Unappropriated retained earnings represent the portion of accumulated profits not earmarked for anything specific. The funds are available for distribution to shareholders or for general reinvestment at your discretion. This money can be used for general operations, reinvested in the business without a specific formal appropriation, or distributed to shareholders.

Let’s say your company has $140,000 in total retained earnings, and $20,000 is appropriated for expansion. This leaves $120,000 unappropriated. This amount is the pool from which future dividends could be declared or used for other general operating expenses.

How to prepare a retained earnings statement

1. Start with the beginning retained earnings balance
2. Add net income (or subtract net loss)
3. Subtract dividends paid
4. Take any prior period adjustments into account
5. Calculate ending retained earnings balance

To prepare a statement of retained earnings, use the retained earnings formula:

Ending retained earnings = Beginning retained earnings + Net Income (or − Net loss) − Dividends paid

Here’s a breakdown of each variable:

1. Start with the beginning retained earnings balance

To find your beginning retained earnings balance, refer to the previous accounting period’s balance sheet or statement of retained earnings. 

For example, imagine your company is preparing its statement for the year ending December 31, 2025. The beginning period retained earnings balance is $500,000 (from December 31, 2024).

2. Add net income (or subtract net loss)

Add your company’s net income—or subtract a net loss—from the beginning retained earnings balance. Net income increases retained earnings, while a net loss reduces it.

For example, if your company reports a net income of $150,000 for the year ending December 31, 2025:

$500,000 (Beginning retained earnings) + $150,000 (Net income) = $650,000

3. Subtract dividends paid

Next, subtract any shareholder distributions or dividends paid during the accounting period. Dividend payouts—including cash dividends and stock dividends—represent a distribution of profits to shareholders and reduce retained earnings.

For example, if your company paid $30,000 in cash dividends in 2025:

$650,000 − $30,000 (Dividends) = $620,000

4. Take any prior period adjustments into account

In rare cases, you may need to make prior period adjustments—correcting errors in previously issued financial statements. These adjustments increase or decrease your retained earnings.

For example, if your company discovers a $10,000 overstatement of 2024 net income due to an accounting error, you’d reduce retained earnings accordingly: 

$620,000 − $10,000 (Prior period adjustment) = $610,000

5. Calculate ending retained earnings balance

This final figure is your ending retained earnings balance for your current accounting period and will appear in the equity section of your company’s balance sheet.

For example, the ending retained earnings balance as of December 31, 2025 is $610,000.

Tips for preparing a retained earnings statement

Avoiding these common pitfalls ensures your statement provides reliable information:

• Verify your beginning balance. Always cross-reference the beginning retained earnings with the previous period’s balance sheet to ensure accuracy. A mistake here will affect the entire statement.

• Ensure accurate net income or loss. The net income or loss figure you use should come from the current period’s income statement. A miscalculation here will affect the ending balance.

• Include all dividends. Account for all dividend types declared and distributed during the period, not just cash dividends. This includes stock dividends, which also reduce retained earnings.

• Properly handle prior period adjustments. If a prior period adjustment is necessary, record it and explain it clearly. These are rare events that correct any past errors.

• Consistent reporting period. Maintain consistency with your reporting period for all financial statements (e.g., income statement, balance sheet, and retained earnings statement) to ensure they add up correctly.