Definition of Held to maturity securities
Held to maturity securities are debt securities for which a firm can and intends to hold until maturity. These are having fixed payments, and these securities are reported at cost, not the fair value in the balance sheet. The reason for not adjusting this to fair value is that the security owner will keep these till maturities, and at that point, the face value of investments will get redeemed. Hence temporary price change is not recognized for these securities.
Components of Securities
Investment Securities are classified into 3 types:
1. Held to maturity Securities
As mentioned before, these are to be held till maturity, and it is recorded at cost in books. Coupon or interest payment from these securities is recorded in the income statement as interest income. The value of these securities is not adjusted each year as per the market.
2. Trading Securities
These are debt and equity security, which can be resold. They are held at market value. Unrealized gain or loss is recorded in the income statement. These securities value is adjusted each year based on market value.
3. Available-For-Sale Securities
These are also the same as Trading Securities, but here unrealized gain or loss is credited into the balance sheet in an equity account. These securities are not to be expected to hold until maturity, and an investor will sell them as soon price of the bonds will go up.
One of the perfect examples of Held to maturity securities is bonds. They have a specific maturity date, and companies tend to keep it till maturity. Stocks cannot be classified in Held to maturity securities because they do not have any maturity date. If the maturity of these securities is less than one year, then it will be shown as a current asset; otherwise, it would be recorded as a fixed asset in accounting books.
Accounting Treatment for Held to Maturity Securities
Let’s say in 2016, a company bought $10,000 worth of bonds that are having a maturity of 10 years, and the company is intended to keep it till maturity. So, in the balance sheet below, accounting entries will be recorded:
Held to Maturity Securities (debit)…………………. $10,000
Cash (Credit)…………………………………………………. $10,000
In 2017, the company receives a coupon or interest payments from these securities of $50. So, this $50 will go into interest income in the income statement.
Interest Income (Credit)………………. $50
Example of Held to Maturity Security
Suppose a company decides to buy bonds that are having the maturity for 10 years. The company can either sell bonds before maturity when it sees profit in selling the bonds, or it can hold the bonds for 10 years until maturity. If it is holding bonds until maturity, then this security will be recorded as held to maturity securities as an asset in its balance sheet.
SouthWest Georgia Held to Maturity Securities
Southwest Georgia is a Georgia bank that is mainly in banking services to individuals and companies. It also provides various kinds of mortgage services.
Below is the snippet of the balance sheet for SouthWest Georgia. As we can see that in 2017, its “held to maturity securities” value was around $44.6 million, while the fair value of securities in the same years was $45.2 million.
Some securities got matured in 2018; that’s why securities value has reduced from $44.6 million to $36.8 in 2018; the fair value of securities in 2018 was around $37 million.
Below is the classification of these securities is given. Out of $36.8 million, $30.5 million was held as “State and municipal securities” while around 6 million was held as “Residential mortgage-backed securities”.
Below are the advantages of held to maturity securities:
- These securities are usually safer in nature. Security holders are having assured return guaranteed if there is no default from an issuer.
- Since the bond return is already pre-specified and it won’t be sold in between maturities hence any bad news won’t affect much of the price of these bonds.
- Investors or companies which are buying these securities can easily identify their investment portfolio based on these bonds because they know expected returns from these bonds in the coming years, and their portfolio also can be diversifiable since these bonds are less riskier and having a lesser beta.
- These securities can be used to hedge against market fluctuations.
Below are the disadvantages of held to maturity securities:
- These securities are not good for the liquidity of the company. Since companies have decided to hold these till the end of maturity, hence they cannot be sold for cash before maturity.
- If the return is pre-determined that means, there won’t be any upside potential from these securities, and investors will have to contain with whatever return is mention at the time of issuance.
- These investments are meant to be long term investments
Held to maturity securities’ positive or negative side depends on what the investor wants to achieve. If an investor wants to hedge its portfolio and is ok with locking in its securities for the long term, then it is a positive thing, but if that same investor needs some cash in the near term, then these securities can be a pain because these won’t be able to get sold before maturity.
This has been a guide to Held to Maturity Security. Here we have discussed the concept of Held to Maturity Security with the help of an example. You may also look at the following articles:
- Equity vs Asset
- Operating Profit vs Net Profit
- Liabilities in Accounting
- Actual Cash Value vs Replacement Cost
- How to Calculate Replacement Cost of a Firm?