The journal entry to record an investment in a subsidiary starts the same way in every case: debit “Investment in Subsidiary” for the purchase price and credit “Cash” for the same amount. What happens after that opening entry is where the three methods diverge. Under US GAAP, how you keep recording the investment depends on how much influence the parent has over the investee: passive holdings below 20% follow ASC 321, stakes of 20% to 50% follow the equity method under ASC 323, and controlling interests above 50% require full consolidation under ASC 810. Classify the relationship wrong and both net income and total assets on the parent’s financial statements can be materially off.
Classify the Stake Before You Post Anything
US GAAP draws its lines around the percentage of voting stock held, but the percentages are rebuttable presumptions, not bright lines.
- Below 20%: the investor is presumed to lack significant influence. ASC 321 applies, generally at fair value.
- 20% to 50%: significant influence is presumed. The equity method under ASC 323 applies.1Deloitte Accounting Research Tool. Deloitte Roadmap – Equity Method Investments and Joint Ventures – 3.2 General Presumption
- Above 50%: the investor controls the subsidiary and must consolidate under ASC 810.2Deloitte Accounting Research Tool. Deloitte Roadmap – Consolidation – D.1 General Consolidation Principles
A 19.9% stake can still trigger the equity method if the investor has board representation or participates in policy-making. A majority owner may not consolidate if the subsidiary is in bankruptcy or legal reorganization, or if noncontrolling shareholders hold veto rights so restrictive that the majority owner cannot truly direct operations.2Deloitte Accounting Research Tool. Deloitte Roadmap – Consolidation – D.1 General Consolidation Principles
A terminology note before the entries. Strictly speaking, a “subsidiary” is an entity the parent controls. An investee held at 20–50% is an equity method investee, and anything below 20% is simply an equity investment. The sections below walk through all three because readers looking up this entry often need the whole picture.
Passive Investment Entries Under ASC 321
When the investor holds less than 20% and lacks significant influence, the investment is accounted for as an equity security under ASC 321.
Initial Entry
If a parent buys $500,000 in shares, it debits “Investment in Equity Securities” for $500,000 and credits “Cash” for $500,000. That’s the opening entry on day one.
Fair Value Changes Each Period
The default rule for equity securities is fair value through net income. If the investment’s fair value rises by $15,000 during the quarter, the parent debits “Investment in Equity Securities” for $15,000 and credits “Unrealized Gain on Equity Securities” for $15,000. That gain hits the income statement in the same period. The entry runs in reverse for declines. The old “trading” and “available-for-sale” classifications for equity securities were eliminated by ASU 2016-01, and the resulting earnings volatility is intentional.3Deloitte Accounting Research Tool. FASB Amends Guidance on Classification and Measurement of Financial Instruments
Measurement Alternative for Private Company Stock
Equity securities without a readily determinable fair value, such as private company stock, can be carried under the measurement alternative. The investor records the investment at cost less any impairment and adjusts to fair value only when an observable price change occurs in an orderly transaction for an identical or similar security from the same issuer.4PwC Viewpoint. Accounting for Equity Interests The election is made on an investment-by-investment basis. Impairment is assessed qualitatively each reporting period, and both impairments and upward observable-price adjustments flow through net income. There is no other comprehensive income parking lot for equity securities under current GAAP.
Dividends
Dividends received from a passive equity investment are recognized as income when received: debit “Cash,” credit “Dividend Income.”
Equity Method Entries Under ASC 323
At 20% or more of the voting stock, ASC 323 requires the equity method. The carrying value of the investment moves with the investee’s net assets, because the investor has enough influence to participate in the decisions driving those results.5BDO. Equity Method Investments Under ASC 323
Initial Entry
A 30% stake acquired for $3 million is recorded by debiting “Investment in Subsidiary” for $3,000,000 and crediting “Cash” for $3,000,000.
Share of Investee Income and Loss
Each period, the parent records its proportionate share of the investee’s net income or loss, whether or not cash moves. If the investee earns $1 million and the parent owns 30%, the entry is debit “Investment in Subsidiary” $300,000, credit “Equity in Investee Income” $300,000. A $500,000 investee loss at the same ownership flips the entry: debit “Equity in Investee Loss” $150,000, credit “Investment in Subsidiary” $150,000. Both the asset and reported earnings shrink.
Dividends Reduce the Carrying Value
Dividends are not income under the equity method. The parent already recognized its share of the investee’s earnings when they were earned, so a dividend is simply the investee converting retained earnings into cash and sending it over. If the investee declares $100,000 in dividends and the parent owns 30%, the entry for the $30,000 received is debit “Cash” $30,000, credit “Investment in Subsidiary” $30,000. No income statement effect. Treating the dividend as income on top of equity method earnings would double-count the same dollars.
Basis Difference and Equity Method Goodwill
A parent rarely pays exactly its proportionate share of the investee’s book value. The difference between the purchase price and the investor’s share of the investee’s net book value, sometimes called the basis difference or purchase price differential, is traced to specific causes.6PwC Viewpoint. Allocating the Cost Basis to Assets and Liabilities
If the investee holds equipment with a book value of $2 million but a fair value of $3.5 million, part of the basis difference is allocated to that equipment and amortized over its remaining useful life. Each period’s amortization reduces both equity method income and the investment’s carrying value. A portion allocated to undervalued inventory is expensed when the inventory is sold, usually within the first year. Anything that cannot be attributed to specific identifiable assets is equity method goodwill, which under ASC 350-20-35-58 is not amortized.7Deloitte Accounting Research Tool. 2.12 Equity Method Goodwill Equity method goodwill is not tested for impairment separately; the investment as a whole is tested under ASC 323-10-35-32, and an other-than-temporary decline in fair value below carrying amount triggers a writedown.
Losses That Would Push the Investment Below Zero
Once the investment balance (plus any net advances to the investee) reaches zero, the equity method is suspended and you stop recording losses. You don’t create a negative asset.8PwC Viewpoint. Losses in Excess of Investment Carrying Amount Two exceptions keep the losses flowing: you have guaranteed the investee’s obligations or committed to additional financial support, or you hold other investments in the investee (preferred stock, loans) whose carrying amounts can absorb more losses.
Unrecognized losses during the suspension are tracked in memo accounts. When the investee returns to profitability, income first offsets the accumulated unrecognized losses, and only after that gap closes do normal equity method entries resume.8PwC Viewpoint. Losses in Excess of Investment Carrying Amount
Consolidation Entries for Controlling Interests
When the parent holds more than 50% of the voting stock, it controls the subsidiary and must consolidate. The parent and subsidiary are presented as a single economic entity in all external reports.9Grant Thornton. Applying the VIE Consolidation Model
Initial Entry on the Parent’s Books
The acquisition itself is recorded like any stock purchase. An 80% stake acquired for $10 million is debited to “Investment in Subsidiary” for $10,000,000 and credited to “Cash” for $10,000,000. Many parents use the equity method on their separate books between reporting dates to track the investment until consolidation entries are prepared.
Acquisition Method Measurement
A controlling acquisition that meets the definition of a business combination is accounted for using the acquisition method.10PwC Viewpoint. Overview – Accounting for Business Combinations The parent identifies and measures all of the subsidiary’s identifiable assets and liabilities at fair value as of the acquisition date, not at book value. The difference between the purchase price plus any noncontrolling interest and the net fair value of identifiable assets and liabilities is recorded as goodwill. Goodwill from a business combination is tested for impairment at least annually under ASC 350 and is not amortized under standard US GAAP.11PwC Viewpoint. Overview of the Goodwill Impairment Model
The Elimination Entry
The “Investment in Subsidiary” asset on the parent’s books and the subsidiary’s own equity accounts represent the same underlying net assets. Leaving both on a consolidated balance sheet would count those assets twice. The elimination entry fixes the duplication, and it lives only on the consolidation worksheet. It is never posted to either company’s general ledger.
The mechanics: debit the subsidiary’s equity accounts (Common Stock and Retained Earnings) to zero them out, credit the parent’s “Investment in Subsidiary” to remove it, and record any remaining differential as goodwill or as fair value adjustments to identifiable assets and liabilities. If the parent owns less than 100%, the noncontrolling interest’s share of equity is established in this same entry.
Eliminating Intercompany Transactions
Consolidated statements show the group’s dealings with the outside world only. Intercompany sales, loans, management fees, and dividends between parent and subsidiary are eliminated so they don’t inflate revenue, expenses, or asset balances.12PwC Viewpoint. Intercompany Transactions
Inventory is the classic case. If the parent sells goods to the subsidiary at a markup and the goods are still in the subsidiary’s warehouse at year-end, the profit margin has not been realized at the group level. The unrealized profit is removed by debiting cost of sales and crediting inventory. The full amount is eliminated whether or not a noncontrolling interest exists.12PwC Viewpoint. Intercompany Transactions Intercompany receivables and payables are also eliminated: a $200,000 open account between parent and subsidiary is an asset on one set of books and a liability on the other, and the group cannot owe money to itself. The same logic covers intercompany loan balances and the related interest income and expense.
Noncontrolling Interest
When the parent owns less than 100%, outside shareholders hold a noncontrolling interest (NCI). On the consolidated balance sheet, NCI is presented as a separate component of equity, distinct from the parent’s equity but still within the equity section rather than as a liability. On the consolidated income statement, net income is split between the amount attributable to the parent and the amount attributable to the NCI. If the subsidiary earns $1 million and the parent owns 80%, $800,000 goes to the parent and $200,000 to the NCI.
A Boundary: Variable Interest Entities
The voting interest percentages are not the only path into consolidation. ASC 810 also requires consolidation of variable interest entities (VIEs), where the controlling financial interest is driven by contractual or economic arrangements rather than voting shares.13PwC Viewpoint. Identifying the Primary Beneficiary of a VIE A company consolidates a VIE if it is the primary beneficiary, meaning it both has the power to direct the activities that most significantly affect the VIE’s economic performance and has the obligation to absorb potentially significant losses or the right to receive potentially significant benefits. The consolidation mechanics match those for a voting-interest subsidiary: 100% of the VIE’s assets and liabilities go on the parent’s consolidated balance sheet.14BDO. Control and Consolidation Under ASC 810 If your arrangement looks economically like control without the voting shares to match, the VIE analysis is where it belongs.
Federal Tax Note: Dividends Received Deduction
Book accounting and tax accounting don’t always align. For a corporate investor receiving dividends from another domestic corporation, the dividends received deduction (DRD) reduces the taxable portion based on ownership:
- Less than 20% ownership: 50% deduction.
- 20% to less than 80% ownership: 65% deduction.
- 80% or more ownership (affiliated group): intercompany dividends within the group are generally excluded from gross income entirely.
The DRD applies only to C corporations receiving dividends from other domestic C corporations. It does not apply to S corporations, partnerships, or individual shareholders.15PwC Worldwide Tax Summaries. United States – Corporate – Income Determination For a consolidated subsidiary, intercompany dividends are eliminated in consolidation and have no effect on the group’s consolidated tax return if the parent files on a consolidated basis. If the subsidiary files a separate return, the DRD rules affect the parent’s tax liability directly.
The opening entry looks the same in all three cases: investment in, cash out. The work shows up afterward. Passive holdings under ASC 321 need fair value updates each period. The equity method tracks the investor’s share of income, losses, and dividends, plus basis difference amortization, every reporting cycle. Consolidation strips out intercompany balances and transactions, measures the subsidiary’s assets at fair value on acquisition, and splits earnings between the parent and any noncontrolling interest. Classify the stake correctly first, and the entries follow from there.