Mark to Market Accounting

Mark to Market Accounting means recording the value of the balance sheet assets or liabilities at the current market value to provide a fair appraisal of the company's financials. The reason for marking certain market securities is to give a true picture, and the value is more relevant than the historical value.

It is a process followed in the accounting field, where the actual and present market value of the assets and liabilities get reflected after making certain adjustments. Thus, the aim of this calculation is to determine what the business may get or recover it the asset was disposed of on that day. This is widely used in the financial market to estimate current values and make business decisions.

The mark to market accounting is a procedure that is used to find the value of assets and liabilities at the current market value. It reflects the actual current worth instead of the historical value. In ensures that the value of the assets and the liabilities in the financial statement show a transparent information.

In this process of mark to market accounting method, the amount has to be recalculated on a regular basis, then the values are accordingly adjusted as per the market condition, and then arrive at the current value. As the financial statement is an important document and source of information for not only the management but also various stakeholders of the organization, it is necessary that the various items in it, especially the assets and liabilities display a clarity and current status. This method rightly does so and shows the financial health of the business.

This mark to market accounting method can be implemented in case of different securities like derivatives, bonds, mutual funds, etc to reflect their current market value and provides a realistic picture of the appraisal of financial value of the business. This helps in making important decision related to investment.

In case of derivatives, there is the implementation of this method on futures contract everyday. The difference in valye between the buy and sell position is analysed to calculate the profit or loss. However, in case of volatile market, this method may not be able to provide a clear picture.

Let us understand the concept mark to market accounting treatment with the help of a suitable example.

#1 - Available for Sale Securities Example

Available for sale securities are the most common example of mark to market accounting. An available-for-sale asset is a financial security that can either be in debt or equity purchased to sell the securities before it reaches maturity. In cases of securities that do not have a maturity, these securities will be sold before a long period for which these securities are generally held.

Any gain or loss from fluctuations in the market value of assets classified as available for sale will be reported in the other comprehensive income account in the equity section of the balance sheet.

#2 - Held for Trading Example

Another typical example of mark to market accounting; A held-for-trading asset is a financial security that can either be in the form of debt or equity and is purchased to sell the security within a short period, which is generally less than a year.

Any gains and losses from fluctuations in the market value of assets classified as available for trading will be reported as unrealized gains or losses on the income statement.

Given below are the stepwise journals for recording the transactions related to the process of mark to market accounting treatment, better understanding. Let us go through them in details.

#1 - Available for Sale Securities

In this case, the asset's value is written down or increased as per the market value, and the gain/loss is booked; e.g., Equity shares worth $ 10,000 are purchased on 1^st September 2016. As of 31^st December 2016 (i.e., Close of the Financial Year 2016), the value of these equity shares is $ 8,000.

Assuming these equity shares are available for sale, the securities should be recorded at the market value. The mark to market accounting journal entries will be as follows:

The Investments will be shown in the new amount of $ 8,000 ($ 10,000 – $ 2,000) on the balance sheet, and the loss will be recorded in other comprehensive income.

It is now, assuming that at the close of the next accounting year, i.e., 31^st December 2017, the market value of these equity shares is $ 11,000. As compared to the previous year, the gain is $ 3,000.

The mark to market accounting journal entry for the same will be as follows:

The previous year’s loss is written off from the first available gain, and if there is an excess gain over and above the loss, it is recorded in the books as Gain on Securities.

In this year's balance sheet, the Investments will be shown at the new amount of $ 11,000 ($ 8,000 + $ 3,000), and the net gain of $ 1,000 will be recorded in other comprehensive income, and at the same time loss will be $ 0.

#2 - Held for trading

A separate account known as “Securities Fair Value Adjustment A/c,” which will be shown on the face of the balance sheet along with the securities account, is created in case of mark to market accounting standards. Any increase or decrease in the fair value is adjusted in this account. e.g., Equity shares of $ 10,000 were purchased on the 1^st of September 2016. As of 31^st December 2016 (i.e., Close of the Financial Year 2016), the value of these equity shares is $ 12,000.

The difference of $ 2,000 is to gain by marking these securities to the market. Mark to market accounting Journal entry for the same will be as follows:

In the balance, the assets will be shown under current investments as follows:

In the second accounting year ending 31^st December 2017, the value of these equity shares is $ 9,000. In year two, the loss to be recognized is $ 3,000. The accounting entries for the same will be as follows:

In the balance, the assets will be shown under current investments as follows:

Note: If there is any dividend earned from the sale of these securities, it will be reported as other income on the income statement irrespective of the type of asset classification.

Both the above process refers to recording of values of assets and liabilities in the financial statements, but the difference lies in the value that is finally recorded. Let us find the differences between them, as given below.

• Accounting data is historical. If an asset is purchased, the cost paid to acquire the asset, along with all related costs for bringing the asset to its location in the required state, can also be added to the purchase cost. This cost is then depreciated year on year, and the net value is reflected in the company's balance sheet.
• This value is independent of the market value. The market value can be higher than, equal to, or even lower than the net depreciated asset value recorded in the books of accounts. Accounting does not consider market value.
• The record is carried out in history because of one of the basic accounting principles of prudence. As per this principle, accountants are expected to be cautious while recognizing gains.
• If we tend to value our assets to the market value, we will recognize unrealized gains in the books. Further, there is no specific basis for arriving at the market value in most cases.
• So booking assets at book value might give a very unrealistic picture to the users of the financial statements.
• There are certain exceptions to the above rule of reflecting assets at the historical value on the face of the balance sheet. As per the accounting standards, certain assets are shown explicitly at the market value at the end of the accounting period. This rule is more specifically designed for financial instruments than long-term physical assets like land, building, computer, etc.
• The reason for marking these securities to the market value gives an accurate picture, and the value is more relevant than the historical value. Financial securities are generally volatile, and the market value is the only real value of these securities, mainly if these assets are classified as available for sale or trading.

Thus, the above are some important differences between the two types of methods used to record the assets and liabilities. It is necessary to understand them so that they can be appropriately used where they are suitable for.

This article has been a guide to what is Mark To Market Accounting. We explain it with example, journal entries and differences with historical accounting. You can learn more about accounting from the following articles –

• What is Conservatism Principle?
• Matching Principle of Accounting
• Accounting Cycle
• Cash Basis Accounting