A company may invest in “available for sale securities” to provide liquidity and diversified portfolio risk. For example, a company may decide to purchase these security instruments in two or more industries exhibiting negatively correlated returns. They may also invest in lower beta securities to hedge against investment risks. With whatever choice they make, it’s essential to account for these securities correctly and record any dividend or interest payments.

Securities have three broad classifications, which include the following:

• Held for Maturity Securities: Purchase and hold these securities with the objective of receiving short-term gains. The main aim of purchasing them is to profit from a fast trade. An example of this security type would be a certificate of deposit with a set maturity date.
• Held For Trading Securities: Hold these security instruments until maturity. The primary goal of having them is to realize long-term gains. The holding time for trading securities is typically less than one year.
• Available for Sale Securities: Compromised of both “held for trading securities” and “held for maturity securities,” these debt or equity security instruments can be sold before the maturity date or held until the maturity date arrives. This decision depends on the gains available for each timeframe.

Accounting for Available for Sale Securities

The accounting rules for each of the three security classifications are different. The accounting for available for sale securities is similar to the method used for trading securities. Since they can be sold for short-term gains or losses, you record them at fair value. However, unlike trading securities, where unrealized losses or gains go on an income statement, these results get recorded on a company’s balance sheet. Using the other comprehensive income (OCI) account is done for this transaction. Some companies choose to include OCI information at the bottom of the income statement. Others have a separate schedule showing the total comprehensive income.

Examining the Two Types of Available for Sale Securities

Available for sale securities come in two different categories. These include investment securities and financing instruments.

• Investment Securities: When a company purchases a security for the purpose of making a capital gain or to diversify some of the existing risks of their investment portfolio, they will choose to complete this task by utilizing an investment security. Companies operating in their respective niches may possess a strategic advantage over retail investors as they may be privy to elements that can affect a stock price. This factor can be another reason a company would utilize investment securities.
• Financing Instruments: These securities may be issued by a company in the form of bonds. Their purpose is to finance the operations of a business. They’re liabilities on the issuing company’s balance sheet that provide a specific return to the investor purchasing them. When a company invests in these financial instruments, the issuing company must make coupon payments and repay the holder of the bond the face value of the bond when it matures.

Recording a Transaction

If a company’s management team decides to purchase an available for sale security using a cash account, the transaction is recorded at cost and includes any associated fees. When doing so, it’s important to follow double entry bookkeeping rules. With this transaction, it will include a debit in the available for securities account and a credit in the cash account.

What Happens if a Decrease in Value Occurs?

If an accounting period ends and the available for sale security a company purchased has decreased in value, the investment must be written down. Doing so requires the transaction to be recorded as an unrealized loss in the other comprehensive income account. Note that this recording method differs from the method used when unrealized losses on trading securities are recorded. They are completed on the income statement and included in earnings.

For example, if an initial investment is made for $5,000 and the available for sale securities are worth $2,000 at the end of the accounting period, a credit of $3,000 would be made in the available for sale securities account and a $3,000 debit in the unrealized gain/loss other comprehensive income account. This transaction indicates an unrealized loss for securities that have not been sold.

Recording an Increase in Value

At the end of an accounting period, an increase in value for an available for sale security must also be recorded to reflect the new fair value. To do so, an unrealized gain is credited to the unrealized gain/loss other comprehensive income account.

For example, if the $5,000 initial investment in the previous example has increased in value to $6,000 and the carrying value on the balance sheet is $2,000, an unrealized gain of $4,000 must be made as a debit in the available for sale securities account. In contrast, a $4,000 credit will be made in the unrealized gain/loss other comprehensive income account.

What Happens When These Securities Are Sold?

At some point, an available for sale security will be sold, creating a realized gain or loss. To perform a transaction where the original investment is sold for $7,000 in cash, enter a credit for the available for sale securities account which is reflective of the current fair value. A $1,000 debit will be made in the unrealized gain/loss other comprehensive income account. $7,000 will be debited to the cash account and $2,000 will be credited to the realized gain on the available for sale securities account.

How To Treat Dividend and Interest from an Available for Sale Security

Holding equity and debt security instruments may provide a company with interest or dividends. These receipts will need to be recorded when they are received. For example, if dividends of $150 is paid, a debit should be made to the dividends receivable account. Moreover, there should be a $100 credit to the dividend income account.

Understanding the accounting rules and applying them correctly when purchasing an available for sale security is essential. This ensures the bookkeeping and accounting numbers reflect the real-time debt and equity security positions. Doing so should make it efficient for a company to keep track of current security positions.