What is a Bearer Bond?

A bearer bond is defined as fixed-income security that is owned by the holder instead of a registered owner. The bondholder has a responsibility of submitting the coupon interest payments, which are physically attached to the bond, to a bank for payment purposes and then redeem the physical certificate when the bond matures. These bonds are negotiable instruments which have a stated maturity date and coupon interest rate.

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How Does a Bearer Bond Work?

The practice of issuing bearer bonds in the United States was ended by the Tax Equity and Fiscal Responsibility Act of 1982. Other economies which are developed have also stopped the issue of these bonds because of their potential to be used for money laundering and tax evasion.

Factoring in Legal Issues

Since these bonds are not registered in the owner's name, an individual can, therefore, buy large amounts of bearer bonds and submit the coupons for payment while remaining anonymous. In 2009, a multinational financial services company known as UBS was accused of helping Americans evade taxes using bearer bonds. Another shortcoming of this bond is that the lack of bond registration offers little protection to the investor if the physical certificate is stolen because the custodians do not have the owner's name on file. Most owners of these bonds keep the certificate in the safety deposit box of a bank or in safe at home. Because of this, problems arise when the clipped coupons, being sent to receive interest, get lost in the mail. The bonds need to be delivered at a bank either in person or by courier. Another problem is that they make it difficult for heirs dealing with the investment portfolio of someone who has died. This is because sometimes the elderly forget where the bearer bonds are located and do not provide instructions on where to find the physical certificates.

How Book-Entry Securities Work

Since almost all the securities are issued in book-entry form, they are registered in the investors name electronically and therefore there is no issue of a physical certificate. A registrar tracks the names of each registered owner and then ensures that the bond owners receive all interest payments, and the stockholders receive the cash and stock dividends. When this book-entry is sold, the name of the registered owner is changed.