Retained Earnings: What They Are and How to Calculate Them

When a company earns a profit, it does one of two things with it: pay it out to shareholders as dividends, or keep it in the business. The portion it keeps, accumulated over the company's entire life, is called retained earnings. It is one of the most important lines in the equity section of the balance sheet, because it shows how much of the company has been funded by its own reinvested profits.

This guide explains what retained earnings are, how to calculate them, where they appear, and how the period-end close updates them.

What are retained earnings?

Retained earnings are the cumulative net income a company has kept, rather than distributed to shareholders as dividends, since it began operating. They sit in the shareholders' equity section of the balance sheet and represent profits reinvested back into the business to fund growth, pay down debt, or build a cash cushion.

Retained earnings are a running scorecard of every dollar of profit the business has ever kept. They are not a pile of cash sitting somewhere; they are an equity figure that reflects how much of the company has been built from its own earnings instead of outside funding.

The retained earnings formula

Retained earnings roll forward from one period to the next:

Ending Retained Earnings = Beginning Retained Earnings + Net Income − Dividends

For example, if a company starts the year with $1,200,000 in retained earnings, earns $400,000 in net income, and pays $100,000 in dividends:

• Ending RE = $1,200,000 + $400,000 − $100,000
• Ending RE = $1,500,000

If the company had a net loss instead of net income, that loss would reduce retained earnings. A company can also pay dividends greater than its current-year profit, which draws retained earnings down.

Where retained earnings appear

Retained earnings show up in two places:

• The balance sheet. As a line within shareholders' equity, alongside common stock and additional paid-in capital.
• The statement of retained earnings. A short statement (or a column in the statement of shareholders' equity) that reconciles the beginning and ending balances using the formula above.

Because retained earnings is an equity account, it is a running balance carried in the general ledger, not a figure that resets each period like revenue or expenses.

How the close updates retained earnings

Retained earnings is updated during the period-end close through closing entries. At the end of each period, the temporary accounts, revenues, expenses, and dividends, are zeroed out and their net effect is transferred into retained earnings. That is how the period's profit or loss permanently becomes part of equity.

In modern accounting systems this happens automatically when the period is closed, but the logic is the same: net income flows into retained earnings, dividends flow out, and the balance carries forward. See the full sequence in the record-to-report process.

Positive vs. negative retained earnings

• Positive retained earnings mean the company has accumulated more profit than it has paid out, a sign of sustained profitability and reinvestment capacity.
• Negative retained earnings, called an accumulated deficit, mean cumulative losses and dividends have exceeded cumulative profits. This is common for young, high-growth companies still investing ahead of profit, but a persistent deficit in a mature company is a warning sign.

Why retained earnings matter

• They fund growth without dilution. Reinvested profits let a company grow without raising new debt or equity.
• They signal financial health. The trend in retained earnings shows whether a company is building or eroding equity over time.
• They inform dividend policy. The balance reflects how management has chosen to balance reinvestment against returning cash to shareholders.

Frequently asked questions

What are retained earnings?

Retained earnings are the cumulative profits a company has kept and reinvested rather than paid out as dividends. They sit in shareholders' equity on the balance sheet and represent the portion of the business funded by its own earnings.

How do you calculate retained earnings?

Ending Retained Earnings = Beginning Retained Earnings + Net Income − Dividends. For example, $1,200,000 in beginning retained earnings plus $400,000 of net income minus $100,000 of dividends gives $1,500,000 in ending retained earnings.

Are retained earnings an asset?

No. Retained earnings are an equity account, not an asset. They represent accumulated reinvested profit, not a specific pool of cash. The actual cash may have been spent on equipment, inventory, debt repayment, or other assets.

Can retained earnings be negative?

Yes. Negative retained earnings, known as an accumulated deficit, occur when cumulative losses and dividends exceed cumulative profits. It is common for early-stage, high-growth companies, but a persistent deficit in an established company signals trouble.

The bottom line

Retained earnings are the running total of profit a company has kept and reinvested rather than distributed. Calculate them as beginning retained earnings plus net income minus dividends, find them in the equity section of the balance sheet, and remember they are updated every period through closing entries, not a pile of cash but a measure of self-funded growth.

If you want AI agents to run the close that updates your retained earnings, with every entry traceable to source, talk to our team.