A Refersher on Accounting for Investments
Posted by Ms. Cheryl Ehmann, AVP Staff Analyst, Credit Union Resources, Inc on 11/8/2017

Accounting for Investments

I have been receiving a lot of questions on investment accounting lately, so thought it would be appropriate for a refresher from this 2014 blog post.  Keep in mind that CECL – Current Expected Credit Losses will be changing how we account for investments as well as Allowance for Loan Losses.  Thankfully that doesn’t take effect until 2021.

Also a quick reminder on amortizing premiums or accreting discounts – technically the effective interest method should be used, which means the same percentage should be recognized in a month as the percentage of principal paydown received – however, generally speaking the difference between this and straight line amortization and accretion is not material so it is much easier to use straight line and amortize over the life of the investment (or until the call date if the investment is callable.)

These days a lot of credit unions have limited their investments to certificates of deposit only.  If you only invest in certificates of deposit that are purchased directly from the issuing institution, you don’t need to read any further!  However, if you invest in secondary market CDs, federal agency securities or CMOs (basically any investment with a CUSIP number), please peruse the following.

Accounting Standards Codification Topic 320-10-25 says that you will need to determine if these investments should be classified as held to maturity, available for sale, or trading.  This classification will determine the proper accounting for the investment.  You don’t have to classify every investment the same way – some could be in one classification and some in another.

In order to be able to classify an investment as held to maturity, the credit union must have both the intent and the ability to hold it until maturity.  If both these criteria are met, the investment is accounted for using historical cost.  This means that the principal is recorded along with any premium or discount, with the premium or discount being amortized or accreted monthly.  We recommend establishing one general ledger account for principal and separate general ledger accounts for premiums and discounts.  The amortization or accretion of the premium or discount is posted to Investment Income, thus affecting the yield earned on the investment.

Credit unions are prohibited from buying and selling trading investments because they are not in the brokerage business – therefore, if the above criteria cannot be met, the investments must be classified as available for sale.  This means that two extra general ledger accounts must be used – an investment account for market value adjustments and an equity account called Unrealized Gain or Loss on Investments.  Each month, an entry should be made between these two accounts to record the investments at market value.  Don’t forget when comparing book value to market value, you need to add or subtract the outstanding premium or discount.  This is a balance sheet entry only and does not affect the income statement.  Additionally, the equity account is not used in the credit union’s net worth calculation, so it will not affect any reserve transfer requirements.

Be sure to analyze your investments carefully – if you classify something as held to maturity but end up selling it more than 3 months before maturity or before 85% of the principal has been received, that could taint the entire investment portfolio and you might have to reclassify all investments as available for sale.

 

Categories: Financial & Auditing
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