Retained earnings represent the cumulative net income your business has kept rather than paid out as dividends. They are a key indicator of growth potential, financial health, and reinvestment strategy — essential reading for owners, founders, and decision-makers.
Key Takeaways
- Retained Earnings = Beginning Retained Earnings + Net Income – Dividends Paid.
- Retained earnings sit in the shareholders’ equity section of your balance sheet — not the income statement.
- They can be negative (called an accumulated deficit) if a company has lost more than it has earned, or paid out more in dividends than it earned.
- Retained earnings are post-tax. Dividends paid out from them are taxable to recipients, but the retained amount itself is not.
If you are running a business, understanding retained earnings is essential — not just for accountants, but for owners, founders, and decision-makers. Retained earnings reflect how much profit your business keeps after paying out dividends. They are a key indicator of your company’s growth potential and financial health.
In this updated 2025 guide, we break down what retained earnings are, how they are calculated, where they appear on your balance sheet, and how they influence strategic financial decisions.
What Are Retained Earnings?
Retained earnings represent the cumulative net income a company has kept rather than distributed as dividends. They show the portion of profits reinvested back into the business — for expansion, paying down debt, or funding research and development.
Think of retained earnings as your business’s internal savings account for future growth.
What Goes Into Retained Earnings?
To calculate retained earnings, you consider three inputs:
- Beginning Retained Earnings (from prior year’s balance sheet)
- Plus Net Income for the current period (or minus Net Loss)
- Minus Dividends Paid to shareholders
Retained Earnings = Beginning Retained Earnings + Net Income – Dividends
Beginning Retained Earnings: $100,000. Net Income this year: $30,000. Dividends Paid: $5,000. Result: $100,000 + $30,000 – $5,000 = $125,000 in retained earnings.
How to Calculate Retained Earnings
Follow this step-by-step process to calculate retained earnings accurately:
- Find your beginning retained earnings from the previous year’s balance sheet.
- Add net income for the current year (from your income statement).
- Subtract any dividends paid to shareholders during the period.
- Record the result in the shareholders’ equity section of your balance sheet.
Using outsourced bookkeeping services can simplify this with monthly reporting and automated tracking.
Where to Find Retained Earnings on the Balance Sheet
Retained earnings are listed under the shareholders’ equity section on the bottom half of the balance sheet — not the income statement. To find them on your latest balance sheet, look under:
- Equity (or Owner’s Equity)
- Retained Earnings (or Accumulated Earnings)
If this section is missing or incorrect, you may need help from an outsourced bookkeeping and accounting firm for startups to clean up your records.
Retained earnings should be updated at the end of every fiscal year at minimum. For fast-growing companies, monthly or quarterly updates are recommended so you always have an accurate picture for investors and lenders.
Is Retained Earnings a Debit or Credit?
In accounting, retained earnings carries a credit balance — because it represents earned income kept within the company. However, if a company has accumulated losses (negative retained earnings), it may show up as a debit.
- Positive retained earnings = credit (profit retained in the business)
- Negative retained earnings = debit (accumulated loss, also called a deficit)
Why Retained Earnings Matter for Small Businesses
1. Growth Capital
Instead of taking out loans, you can fund new hires, marketing, or equipment with retained profits. This keeps your debt load low and preserves equity.
2. Debt Management
Healthy retained earnings can reduce reliance on credit and improve leverage ratios, which makes your business more attractive to lenders when you do need financing.
3. Valuation and Investor Confidence
Investors often look at retained earnings to assess whether you reinvest wisely or pay excessive dividends. A growing retained earnings balance signals long-term financial discipline.
4. Tax Planning
Retained earnings may affect your corporate tax posture. Consider working with a CFO service or outsourced accounting team to align your tax strategy with retained profit policies.
Want clean, investor-ready retained earnings statements every month?
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These two metrics are related but distinct. Net income feeds into retained earnings, but they are not the same.
| Metric | Definition | Where It Is Found |
|---|---|---|
| Net Income | Profit for a specific period | Income Statement |
| Retained Earnings | Cumulative profit kept over time | Balance Sheet (Equity section) |
How Startups Use Retained Earnings
Early-stage startups often reinvest all earnings — meaning retained earnings may grow slowly at first. But tracking it helps:
- Show financial discipline to investors
- Plan for bootstrapped growth
- Forecast long-term performance
This is especially important when working with an outsourced accounting firm for startups preparing for fundraising or scaling.
Common Mistakes When Tracking Retained Earnings
- Not accounting for dividends properly
- Failing to close out net income at year-end
- Incorrect journal entries that overstate or understate the balance
- Mixing retained earnings with operating capital
Incorrect retained earnings reporting can raise red flags with the IRS. Stay compliant by working with a tax advisor or outsourced bookkeeping service that integrates retained earnings into your broader tax planning.
