What are Bearer Bonds?
Bearer bonds or unregistered bonds are bonds that are not registered to a holder and do not identify a holder on the face of the bond. In other words, when a company issues bearer bonds, it does not register the buyer of the bonds when they are issued. Bearer bonds are unregistered. This means that the interest and principle for the bearer bond are due to whomever is in possession of the bond.
A bearer bond is a bond or debt security issued by a business entity such as a corporation, or a government. As a bearer instrument, it differs from the more common types of investment securities in that it is unregistered — no records are kept of the owner, or the transactions involving ownership. Whoever physically holds the paper on which the bond is issued is the presumptive owner of the instrument. This is useful for investors who wish to retain anonymity. Recovery of the value of a bearer bond in the event of its loss, theft, or destruction is usually impossible. Some relief is possible in the case of United States public debt. Furthermore, while all bond types state maturity dates and interest rates, bearer bond coupons for interest payments are physically attached to the security and must be submitted to an authorized agent, in order to receive payment.
A Short History of Bearer Bonds
In the United States, bearer bonds were first introduced in the late 1800s, to fund Reconstruction during the post-Civil War era. These investments proved instantly popular, because they could be easily transferred and because millions of dollars could be issued using relatively few certificates, simplifying transactions. Europe and South America soon followed suit, issuing similar bonds for use in their own financial markets.
Bearer bonds are also called coupon bonds because the physical bond certificates contain attached coupons that are redeemable at an authorized agent, for biannual interest payments. This activity is commonly referred to as “clipping coupons”.
Bearer bonds’ anonymity historically made them appealing in several ways:
- Hiding assets and income was relatively easy with bearer bonds. With no record of purchases and sales, it’s easy to move money and store wealth. The physical bond certificates had high-dollar denominations ($5,000 to more than $1 billion), making it easy to take substantial sums overseas and earn significant income. Tax evasion was also relatively easy, as individuals could store money in bonds instead of mainstream financial accounts—and earn interest.
- Money laundering has been a problem with bearer bonds. To reduce crime, regulators rely on paper trails (or electronic records). But bearer bonds make it possible to hand over billions of dollars in a relatively small package. The money can later be re-inserted into the financial system from a legitimate-looking source.
- Theft and forgery are tempting because bearer bonds are essentially one step away from cash. Thieves who stole bearer bonds could redeem the bonds and spend the proceeds with little risk of getting caught. Indeed, several movie plots center on bearer bond theft. For example, the 1988 action move “Die Hard” features thieves stealing $640 million of bearer bonds in just a few duffel bags. What’s more fake bearer bonds provide an opportunity for skilled printers to convert worthless paper into real money.
Mechanics of Bearer Bonds
Bearer bonds, like other bonds, are debt instruments. Governments, businesses, and other organizations issue bonds to raise money, which they use to fund operations and growth.
When somebody buys a bond, they “lend” money to the issuer. Just like your bank or mortgage lender, they get repaid in two ways (assuming the bond’s issuer does not default on the obligations):
- Return of principal: Bonds have a maturity date when the buyer receives their original investment. With bearer bonds, the bondholder redeems the bond by submitting the paper that the bond is printed on. In some cases, bonds are “called” before their maturity date, at which point interest payments stop, and the bondholder redeems early. However, because bearer bonds are unregistered, buyers might not know when bearer bonds get called.
- Interest payments: Issuers pay interest periodically (annually, for example). Bearer bonds have coupons attached for each interest payment. To collect payments, bondholders remove a coupon and submit it to the bond issuer (or “clip coupons”).
Advantages of Bearer Bond
Some of the advantages are as follows:
- Like any other fixed-income instrument, money raised by the issue of the bearer bonds is used to fund the growth and operations of the enterprises, government.
- The interest payments are periodical. The coupons submitted to the agent or the banker are acknowledged immediately and payment is made.
- The principal amount of the bond is received promptly as of the date of maturity.
- They are easily transferable.
- Anonymity can be maintained.
Disadvantages of Bearer Bond
Some of the disadvantages are as follows:
- When there is a loss due to theft, destruction, etc. of the bond, it is almost impossible to recover it because the actual owners do not get their name registered on it. there is no recourse available in such cases.
- In case of the death of the owner of the bonds who have kept their bonds in some secretive location, the legal heirs would not be able to find the physical location of the certificates.
- Such bonds have been used for illegal causes such as money laundering, anonymous and unaccounted business transactions, tax evasion, etc. Because of these reasons, the Tax Equity and Fiscal Responsibility Act, 1982 has brought an end to the issue of these instruments in the United States of America. In the same lines, many other economies have discouraged these bonds because of the illegal activities being carried on with the help of such instruments.
The Future of Bearer Bonds
Most bearer bonds currently in circulation were issued when interest rates were relatively high. Consequently, many were called before their maturity dates, in order to reduce carrying costs to issuers. Current redemptions have become nearly non-existent due to a 2010 law that relieved banks and brokerages of their redemption responsibility. Then, two years later in 2012, many paper certificates still in circulation, housed at the Depository Trust Company (DTC), were destroyed during Superstorm Sandy.
The Bottom Line
Bearer bonds are easily transferable anonymous debt instruments that hold certain advantages over other forms of currency. But these very attributes have made bearer bonds a popular vehicle that criminals exploit, to circumvent the law. As a result, the future of bearer bonds remains uncertain, and U.S.-issued bonds are marching towards extinction.