Question

A board of directors may decide to restrict retained earnings to meet legal requirements or to meet a contractual restriction.

Select one:

True

False

Answer 1

TRUE

yes, Board of Directors may decide to restrict retained earnings to meet legal requirements or to meet a contractual restriction

Explanation

Retained earnings are the sum total of a corporation's accumulated net income (or loss), gains and losses and prior period adjustments, reduced by its cash dividends, property dividends, stock dividends and other amounts transferred to the contributed capital accounts. Some people may still use the terms capital surplus, earned surplus, or earned capital. However, these terms are no longer used and are regarded as being potentially misleading. The term retained earnings is preferred, because it clearly distinguishes retained earnings from contributed capital, the other primary, source of stockholders' equity. If there is a negative (debit) balance in retained earnings, it can be called retained earnings (deficit) or accumulated deficit. Retained earnings may be categorized as restricted (or appropriated) or unrestricted.

Appropriations of Retained Earnings

There are three reasons a board of directors may decide to appropriate retained earnings:

* To meet legal requirements;

* To meet contractual requirements; or

* Because of management discretion.

Legal Requirements: Certain states require restrictions of retained earnings when a corporation reacquires its own stock as treasury stock. The restricted amount should be equal to the cost of the treasury shares.