Meaning: The reserve which is created out of capital profit and cannot be used for distribution of dividend is known as Capital reserve.
Sources of capital reserve: Following are the sources of capital reserve :

• From profit on sale of fixed assets and investments.
• From profit on revaluation of fixed assets.
• From profit made at the purchase of an existing business at lower cost than the actual one.
• From profit prior to incorporation of the company.
• From premium received by the company on issue of shares or debentures.
• From balance of Share Forfeiture Account, after reissue of forfeited shares by the company.
• From the profit earned at the time of redemption of debentures.
• From capital redemption reserve for redeeming preference shares.

Use of capital reserve:

A company cannot declare dividend from the capital reserve, but it can be put to following uses :

• To write off capital losses.
• To issue bonus shares; if Articles of Association provides.
• To write off fictitious assets like goodwill, preliminary expenses, discount on debentures.
• In special circumstances under special conditions dividends can be declared out of capital reserve also.