Journal Entries to Account InvestmentJust few hours after the “6 Possible Strategies to Invest Idle Funds” got published, from numerous emails I received, I knew many of you, accountants, have been waiting for a post contains journal entries to account all type of investing transactions. Okay, here we go, this post provides all of the journal entries that should be needed to account for investments, including the acquisition of an investment, recognition of any gains or losses, and transfers of the investments among various investment categories.

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Accounting for Marketable Equity Securities

A company will normally invest in marketable securities, so that it can more easily liquidate its investments. Marketable securities are investments that can be easily liquidated through an organized exchange, such as the New York Stock Exchange.

For accounting purposes, marketable securities must be grouped into one of the following three categories at the time of purchase and reevaluated periodically to see if they still belong in the designated categories:

  • Available for sale – This category includes both debt and equity securities. It contains those securities that do not readily fall into either of the following two categories. These securities are reported on the balance sheet at their fair value, while unrealized gains and losses are charged to an equity account and reported in other comprehensive income in the current period. The balance in the equity account is only eliminated upon sale of the underlying securities. If a permanent reduction in the value of an individual security occurs, the unrealized loss is charged against earnings, resulting in a new and lower cost basis in the remaining investment. Any subsequent increase in the value of such an investment above the new cost basis cannot be formally recognized in earnings until the related security is sold, and so the interim gains will be temporarily “parked” in the unrealized gains account in the equity section of the balance sheet. All interest, realized gains or losses, and debt amortization are recognized within the continuing operations section of the income statement. The listing of these securities on the balance sheet under either current or long-term assets is dependent upon their ability to be liquidated in the short term and to be available for disposition within that time frame, unencumbered by any obligations.
  • Held to maturity – This category includes only debt securities for which the company has both the intent and ability to hold them until their time of maturity. Their amortized cost is recorded on the balance sheet. These securities are likely to be listed on the balance sheet as long – term assets. If marketable securities are shifted into the held – to – maturity category from debt securities in the available – for – sale category, their unrealized holding gain or loss should continue to be stored in the equity section, while being gradually amortized down to zero over the remaining life of each security.
  • Trading securities – This category includes both debt and equity securities that the company intends to sell in the short term for a profit. They are recorded on the balance sheet at their fair value. This type of marketable security is always positioned in the balance sheet as a current asset.

 

No matter how an investment is categorized, a material decline in its fair value subsequent to the balance sheet date but prior to the release of the financial statements should be disclosed. Further, clear evidence of permanent impairment in the value of available – for – sale securities prior to the release date of the financial statements is grounds for restatement to recognize permanent impairment of the investment.

Here are journal entries needed to account transactions of marketable securities investments:

 

1. Initial investment designated as held for trading – To record an investment that management intends to trade for a profit in the short term:

[Debit]. Investment in equity securities—held for trading
[Credit]. Cash

 

2. Initial investment designated as available for sale – To record an investment that management intends to hold as a long-term investment:

[Debit]. Investment in equity securities—available for sale
[Credit]. Cash

 

3. Gain or loss on investment designated as held for trading – The first entry shows the immediate recognition in the current period of a loss due to a drop in the value of an investment designated as a trading security, as well as the related tax effect. The second entry shows the immediate recognition in the current period of a gain due to an increase in the value of an investment designated as a trading security, as well as the related tax effect.

First entries:
[Debit]. Loss on equity security investment
[Debit]. Deferred tax benefit
[Credit]. Investment in equity securities—held for trading
[Credit]. Provision for income taxes

Second entries:
[Debit]. Investment in equity securities—held for trading
[Debit]. Provision for income taxes
[Credit]. Gain on equity security investments
[Credit]. Deferred tax liability

 
4. Gain or loss on investment designated as available-for-sale – The first entry shows an unrealized loss in the other comprehensive income account on an investment designated as available for sale, as well as the related tax effect. The second entry shows an unrealized gain in the other comprehensive income account on an investment designated as available for sale, as well as the related tax effect. In both cases, the tax effect is netted against the investment account, rather than a provision for income taxes account).

First entries:
[Debit]. Unrealized loss on equity security investment
[Debit]. Deferred tax benefit
[Credit]. Investments in equity securities—available for sale

Second entries:
[Debit]. Investment in equity securities—available for sale
[Credit]. Unrealized gain on equity security investment
[Credit]. Deferred tax liability

 

5. Impairment in value of equity investments classified as available-for-sale – When a drop in the value of an available-for-sale investment is judged to be other than temporary, the first journal entry should be used to recognize the drop in value. The entry includes the initial recognition of a related income tax benefit on the transaction. If one had previously recognized an income tax benefit associated with the loss but prior to its classification as a permanent decline in value, the offset to the deferred tax benefit would have been the investment account itself. If so, shift the offset from the investment account to an income tax liability account, as shown in the second journal entry.

First entries:
[Debit]. Loss on equity securities
[Debit]. Deferred tax benefit
[Credit]. Unrealized loss on available-for-sale securities
[Credit]. Provision for income taxes

Second entries:
[Debit]. Loss on equity securities
[Credit]. Unrealized loss on available-for-sale securities
[Credit]. Provision for income taxes

 

 

Transfers of Equity Securities between Available-for-Sale and Trading Portfolios

1. Shift investment designation from a trading security to an available-for-sale security – To shift the designation of a security currently recorded as a trading security to that of an available-for-sale security. The journal entry includes provisions for the recognition of any gains or losses on the fair value of the securities transferred since they were last marked to market.

[Debit]. Investments—available for sale
[Debit]. Loss on equity securities
[Credit]. Investments—held for trading
[Credit]. Gain on equity securities

 

2. Shift investment designation from an available-for-sale security to a trading security – To shift the designation of a security currently recorded as an available-for-sale security to that of a trading security, which requires the recognition of all unrealized gains or losses. The first entry assumes the recognition of unrealized losses on securities, while the second entry assumes the recognition of unrealized gains.

First entries:
[Debit]. Investments—held for trading
[Debit]. Loss on equity securities
[Credit]. Investments—available for sale
[Credit]. Unrealized loss on available for sale securities

Second entries:
[Debit]. Investments—held for trading
[Debit]. Unrealized gain on available-for-sale securities
[Credit]. Investments—available-for -sale
[Credit]. Gain on equity securities

 

Accounting for Investments in Debt Securities

A debt security can be classified as either held for trading or available for sale (as previously defined for equity securities), or as held to maturity.

The held-to-maturity portfolio is intended for any debt securities for which a company has the intent and ability to retain the security for its full term until maturity is reached. An investment held in the held-to-maturity portfolio is recorded at its historical cost, which is not changed at any time during the holding period, unless it is shifted into a different investment portfolio.

The only exceptions to this rule are:

  • The periodic amortization of any discount or premium from the face value of a debt instrument, depending on the initial purchase price; and
  • Clear evidence of a permanent reduction in the value of the investment.

And, here are series of journal entries needed to account investment in debt securities:

 

1. Initial investment designated as held for trading – To record an investment in debt securities that management intends to trade for a profit in the short term:

[Debit]. Investment in debt securities—held for trading
[Credit]. Cash

 

2. Initial investment designated as available-for-sale – To record an investment in debt securities that management intends to hold as a long–term investment.

[Debit]. Investment in debt securities—available for sale
[Credit]. Cash

 

3. Initial investment designated as held-to-maturity – To record an investment in debt securities that management has the intent and ability to hold to the debt maturity date.

[Debit]. Investment in debt securities—held to maturity
[Credit]. Cash

 

4. Gain or loss on debt investment designated as held for trading – The first journal entry records the immediate recognition in the current period of a loss due to a drop in the value of a debt investment designated as a trading security. The second journal entry records the immediate recognition of a gain due to an increase in the value of a debt investment designated as a trading security.

First entries:
[Debit]. Loss on debt security investment
[Credit]. Investment in debt securities—held for trading

Second entries:
[Debit]. Investment in debt securities—held for trading
[Credit]. Gain on debt securities—held for trading

 

 

5. Gain or loss on debt investment designated as available for sale – The first journal entry records the immediate recognition in the current period of a loss due to a drop in the value of a debt investment designated as an available-for-sale security, which is reported in the “Other Comprehensive Income” section of the income statement. The second journal entry records the immediate recognition of a gain due to an increase in the value of a debt investment designated as an available – for – sale security.

First entries:
[Debit]. Unrealized loss on debt security investment
[Debit]. Deferred tax benefit
[Credit]. Investments in debt securities—available for sale

Second entries:
[Debit]. Investment in debt securities—available for sale
[Credit]. Unrealized gain on debt security investment
[Credit]. Deferred tax liability

 
6. Impairment in value of debt investments classified as held to maturity – To record a loss on a held to maturity debt investment, which only occurs when management considers a drop in value to be permanent in nature.

[Debit]. Investment in debt securities—held to maturity
[Credit]. Loss on debt investment

 

Transfers of Debt Securities among Portfolios

The accounting for transfers between debt securities portfolios varies based on the portfolio from which the accounts are being shifted, with the basic principle being that transfers are recorded at the fair market value of the security on the date of the transfer.

The offsetting entry for any gain or loss reported in the “Other Comprehensive Income” section of the income statement goes to a contra account, which is used to offset the investment account on the balance sheet, thereby revealing the extent of changes in the trading securities from their purchased cost.

Here are journal entries you need to account transfers of debt securities among portfolio:

 

1. Shift investment designation from the available-for-sale debt security portfolio to the trading debt security portfolio – Any debt security shifted from the available-for–sale portfolio to the trading portfolio must be recorded at its fair market value on the date of the transfer. The first journal entry records the recognition of a loss on the transfer date, while the second entry records a gain.

First entries:
[Debit]. Investment in debt securities—held for trading
[Debit]. Loss on debt securities
[Credit]. Investment in debt securities—available for sale
[Credit]. Unrealized loss on debt securities— available for sale

Second entries:
[Debit]. Investment in debt securities—held for trading
[Debit]. Unrealized gain on debt securities— available for sale
[Credit]. Investment in debt securities—available for sale
[Credit]. Gain on holding debt securities

 

2. Shift investment designation from the available-for-sale debt security portfolio to the held-to-maturity debt security portfolio – Any debt security shifted from the available-for-sale portfolio to the held-to-maturity portfolio must be recorded at its fair market value on the date of the transfer. The first journal entry records the recognition of a loss on the transfer date, while the second entry records a gain.

First entries:
[Debit]. Investment in debt securities—held to maturity
[Debit]. Loss on debt securities
[Credit]. Investment in debt securities—available for sale
[Credit]. Unrealized loss on debt securities—available for sale

Second entries:
[Debit]. Investment in debt securities—held to maturity
[Debit]. Unrealized gain on debt securities— available for sale
[Credit]. Investment in debt securities—available for sale
[Credit]. Gain on holding debt securities

 

3. Shift investment designation from the held-to-maturity debt security portfolio to the available-for-sale debt security portfolio – To record any accumulated gain or loss on a held-to-maturity debt security being transferred into the available-for-sale portfolio, which is recorded in other comprehensive income. The first entry records a loss on the transaction, while the second entry records a gain.

First entries:
[Debit]. Investment in debt securities—available for sale
[Debit]. Unrealized loss on holding debt securities
[Credit]. Investment in debt securities—held to maturity

Second entries:
[Debit]. Investment in debt securities—available for sale
[Credit]. Investment in debt securities—held to maturity
[Credit]. Unrealized gain on holding debt securities

 

4. Shift investment designation from the held-to-maturity debt security portfolio to the held-for-trading debt security portfolio – To record any accumulated gain or loss on a held-to-maturity debt security being transferred into the held-for-trading portfolio, which is recorded in earnings. The first entry records a loss on the transaction, while the second entry records a gain. There are no unrealized gains or losses to recognize, since no gains or losses are recognized for held-to-maturity debt investments.

First entries:
[Debit]. Investment in debt securities—held for trading
[Debit]. Loss on holding debt securities
[Credit]. Investment in debt securities—held to maturity

Second entries:
[Debit]. Investment in debt securities—held for trading
[Credit]. Investment in debt securities—held to maturity
[Credit]. Gain on holding debt securities