A retained earnings reconciliation explains how the balance moved from last year's closing figure to this year's. Start with the closing retained earnings in last year's final accounts, add net income, subtract dividends or distributions, and adjust for any prior period corrections. The result must equal retained earnings in the ledger, with no unexplained difference.
Retained earnings rollforward: opening balance, net income and distributions
A retained earnings rollforward takes the closing figure from last year's signed financial statements, adds this year's net income or subtracts the loss, and subtracts dividends or distributions declared. Prior period adjustments come next, each shown on its own line. The closing figure is then compared with the ledger.
Here is a worked example with example values:
| Line | Amount |
|---|---|
| Closing retained earnings in last year's final statements | 412,000.00 |
| Opening retained earnings in this year's ledger | 405,600.00 |
| Change in the opening figure, to explain | (6,400.00) |
| Opening retained earnings in the ledger | 405,600.00 |
| Net income for the year | 96,300.00 |
| Distributions to owners | (60,000.00) |
| Computed closing retained earnings | 441,900.00 |
| Retained earnings per ledger after the year-end close | 441,900.00 |
The rollforward agrees, but only because it started from the ledger's opening figure. The first block shows the real finding: opening retained earnings no longer match what was reported last year. That 6,400.00 needs a reason before the reconciliation is signed.
US corporations report the same movement to the IRS. The IRS instructions for Form 1120 cover Schedule M-2, the analysis of retained earnings per books, and state that corporations with total receipts and total assets under 250,000 dollars need not complete Schedules L, M-1 and M-2 if they answer yes to the related question on Schedule K. Larger corporations file it every year, so the book rollforward also supports the return.
Why did opening retained earnings move after the year was closed?
Opening retained earnings move when someone posts an entry dated in a year that was already closed. Many accounting systems recompute retained earnings from all prior-year income and expense, so a late entry to an old period changes this year's opening balance without any entry appearing in this year at all.
In the example, the 6,400.00 came from an accrued expense entry dated December 31 of last year, posted in February after the statements were issued. The books now say last year's profit was 6,400.00 lower than the reported figure.
Finding the entry
- Run a journal report for last year filtered by entry date or creation date after the date the statements were issued.
- Look for entries that total the difference, or that combine to it.
- Decide whether the entry should stay in the old year, which means the issued statements were wrong, or move into the current year.
The best defence is a closed period with a password or lock date, so entries into a finished year need approval. Writing that rule down, along with who may override it, is part of an account reconciliation policy.
Prior period adjustments in a retained earnings reconciliation
A prior period adjustment is the correction of an error in financial statements already issued. Instead of running through this year's income statement, the correction goes directly to opening retained earnings and is shown as its own line on the rollforward, with a note explaining it. Ordinary changes in estimates are not prior period adjustments.
Errors that lead to one often come from reconciliations nobody finished. A year of credit card charges never matched to receipts, for example, can hide personal spending or duplicate expenses that overstated costs. The method for reconciling credit card statements in Excel catches that within the month rather than a year later.
A change in accounting standard can also reach retained earnings directly. Some companies adopting ASC 842 recorded a one-time adjustment to opening retained earnings, and the ongoing balances are then tested in the lease liability reconciliation under ASC 842.
Dividends, distributions and owner draws against retained earnings
Dividends and distributions reduce retained earnings because they return accumulated profit to owners. Corporations declare dividends; partnerships and LLCs taxed as partnerships record distributions to members; sole proprietors take draws. Each is recorded in an equity account, and the reconciliation must show which one.
Draws and member distributions often sit in a separate equity account during the year and are closed to retained earnings or to the owners' capital accounts at year end. Check that last year's draw account was closed. A draw account that carries into a new year with an opening balance means the year-end closing entry was missed, and equity is split across accounts in a way the statements do not show.
Trace each distribution to the bank statement. A distribution recorded but never paid, or paid but recorded as an expense, changes net income or retained earnings by the full amount.
Is a retained earnings difference ever a timing item?
A retained earnings difference is never a timing item. Bank reconciliations carry outstanding checks forward because the bank will catch up; nothing outside the books will ever catch up to retained earnings. Any difference between the rollforward and the ledger is an error, a late entry or an unrecorded adjustment, and it must be explained before sign-off.
The mistake is to carry it forward as an "unreconciled equity difference". It does not age out, and it will be there next year. Banks handle equity accounts alongside thousands of others with dedicated reconciliation tools for banks, but a small company can do this one with a single page. Because distributions and many late entries trace to cash, PreciseBankFlow can help by matching bank statement lines to the ledger and listing what does not match. It is opening to firms in small groups, and the conclusion stays yours.