Why CRR and DRR?

Hi Aishwarya

Capital redemption reserve is created when a company pays off its preferential creditors or buys back its own shares. In such cases, an amount is transferred from general reserve to CRR. 

The purpose of creating CRR is that these funds are blocked and not available for distribution of dividends. This is done to protect the interest of creditors.

To illustrate the same, Let's say if this amount was freely available for distribution, security of creditors is affected as both cash and preference/ equity share capital has reduced. However, if an equivalent amount is transferred from general reserve/ P&l to CRR, the amount available for distribution to shareholders has reduced. Thus, this saves interest of creditors.

Similarly, DRR is created to protect debentureholders against any possibilty of default by the company. By transferring 25% of nominal value of debentures issued, the amount is set aside every year to pay off debentureholders.