Unrealized Gain Definition

Jared Ecker, a researcher and fact-checker with over a decade of experience in the Nuclear and National Defense sectors, explains what an unrealized gain is. An unrealized gain refers to the increase in the value of an asset, such as a stock position or a commodity like gold, that has not yet been sold for cash. It is essentially a theoretical profit that exists on paper until the position is sold for a profit. However, if the value of the asset drops below the purchase price, the unrealized gain can be erased.

Here are some key takeaways:

– Unrealized gains are recorded differently on financial statements depending on the type of security they apply to.

– Unrealized gains do not impact taxes until the investment is sold and the gain is realized.

– If an investment is held for more than a year, the profit is taxed at the capital gains tax rate.

– On the other hand, an unrealized loss occurs when an investment decreases in value but has not yet been sold.

To understand how an unrealized gain works, it is important to note that it occurs when the current price of a security is higher than the initial purchase price, including any associated fees. Many investors assess their portfolio value based on unrealized gains. It is worth mentioning that capital gains are taxed only when they are realized through a sale.

Investors may choose to hold onto unrealized gains for tax benefits. Assets held for more than a year are taxed at the long-term capital gains tax rate, which ranges from 0% to 20% depending on income. Assets held for one year or less are taxed as ordinary income, with rates ranging from 10% to 37%.

In terms of recording unrealized gains, the method varies depending on the type of security. Securities held to maturity are not recorded on financial statements but may be mentioned in the footnotes. On the other hand, securities held for trading are recorded on the balance sheet at fair value, and the gains or losses are recorded on the income statement. Securities available for sale are also recorded on the balance sheet at fair value, with the gains or losses recorded in comprehensive income.

An unrealized loss is the opposite of an unrealized gain. It occurs when an investment’s value decreases while the position is still open. Similar to an unrealized gain, a loss becomes realized once the position is closed. Unrealized gains and losses are often referred to as "paper" profits or losses because their actual outcomes are determined only when the position is closed.

To illustrate an unrealized gain, consider the example of an investor who buys 100 shares of stock in ABC Company at $10 per share. If the fair value of the shares subsequently rises to $12 per share, the unrealized gain on the remaining shares would be $200 ($2 per share x 100 shares). If the investor sells the shares when the trading price is $14, they will have a realized gain of $400 ($4 per share x 100 shares).

Overall, the concept of unrealized gains involves the theoretical increase in the value of an asset that has not yet been sold, with its impact on taxes and recording methods varying based on the type of security.