Locking In Gains, Creditor Protection, Principle Investment Guarantees, Estate Planning are a Few Reasons why you may want to look at Segregated Funds as an Investment Option.
Asking the average investor if they regret being in equities the past 8 years, you would have heard a resounding “NO”…. until February 2018, which saw a huge market correction. Many boasts about double-digit returns over the last number of years. But how many successfully eluded any losses in the last month… I’d argue very few. With everyone riding the highs of the markets over the last number of years, talking to someone about investing in segregated funds would be met with a condescending snicker. Those who have been investing in segregated funds have probably enjoyed very few sleepless nights over the last month. So how can you tame market volatility using segregated funds?
What are Segregated Funds?
Segregated (or seg) funds are an investment product sold by life insurance companies. They are individual insurance contracts that invest in one or more underlying assets, such as a mutual fund or ETFs.
Unlike mutual funds, segregated funds provide a guarantee to protect all or part of the money you invest (75% to 100%). Even if the underlying fund loses money, you are guaranteed to get back some or all of your principal investment. But you have to hold your investment for a certain length of time (usually 10-15 years) to benefit from the guarantee. And you pay an additional fee for this insurance protection. 1
The Most Important Distinctions About Segregated Funds
- Reset Options on Seg Funds: The reset option of a seg fund is probably one of best features, and least understood features of a seg fund. Depending upon the carrier you purchase the Seg Fund contract from, you have the ability to “lock-in” or reset the value of a seg fund, once or sometimes multiple times within a given year. Put another way, if you had the ability to lock into the price of a stock when it hits its all-time high, would you? You absolutely would. Seg funds offer you the ability to do just that. There are restrictions on this but reset options afford you the ability to be able to lock on the price of a fund regardless of what the fund does thereafter. If you had the ability to do this, would you be willing to pay a little more for this feature? Once again, I’d argue many would pay more.
- Uninsurable Individuals: Some individuals for various reasons are not able to qualify for life insurance. This doesn’t mean they don’t need for some of the advantages of life insurance. This could be to bypass probate, privacy or designate a specific beneficiary. Just because someone puts something in their will doesn’t necessarily mean it will make it into that person’s possession. If capital gains are owed then in many cases, a property may need to be sold to pay the taxes. Depending upon the clarity of one’s will, assuming they have a will, possessions can stay in probate for months or even years! A segregated fund has a designated beneficiary; therefore, bypasses probate and gets into the designated beneficiary within weeks.
- Creditor Protection for Business Owners: many business owners put surplus capital into equities or other investment vehicles, but many are unaware of a business, or its owners get sued, these investments are assets of the company. Putting these passive investments into a segregated fund, because they have a designated beneficiary, are safeguarded from creditors **
** Depending upon timing and circumstances of issue
Seven Other Things to Know About Segregated Funds
- They’re insurance products: though they perform the same job as mutual funds in giving you exposure to diversified stocks and other assets, seg funds offer additional benefits in estate planning and creditor-proofing, as well as protection of your principle
- They’re more expensive than mutual funds: the insurance features add to the basic cost; the more principle protection you get, the higher the cost of ownership.
- Some seg funds only protect 75% of your capital but seem more practical, and it’s hard to imagine losing 25% of an investment over a 10 to 15 year period.
- Seg funds are not as widely available as mutual funds: Advisers licensed to sell insurance products offer them (some advisers are dual-licensed to sell seg and mutual funds), and online brokers may offer them as well.
- They’re most useful for aggressive investing: there are bond and money market seg funds, but what’s the point of paying for capital guarantees on investments that are more conservative than stocks? Also, the higher fees of seg funds really bite at a time of low bond yields.
- The heyday of seg funds was nearly 20 years ago: interest rates were dropping then, and conservative investors sought an alternative to guarantee investment certificates.
- Seg Funds are not covered under the coming new rules for investment fee disclosure. As an insurance contract, seg funds are under the jurisdiction of provincial insurance regulators and not securities regulators. 2.
Segregated Funds are not for Everyone
If you find yourself in one of the following circumstances, then you may want to explore segregated funds:
- the business owner who wants to creditor protect investment assets within the company
- not eligible or able to qualify for life insurance
- want to have assets bypass probate
- designate a beneficiary and protect its privacy
- difficulty with market volatility but want to take advantage of the upside of the market
- lock-in gains on fund and portfolio performance
- protect your principal investment
Chris Coulter is the Founder and President of The Finish Line Group. He works with business owners to leverage their businesses to increase their wealth, reduce corporate and personal taxes, create viable succession strategies, enable employee retention strategies and allow them to exit their businesses on their terms.
Chris’ passion for what he does evolve from the mistakes he made in his first business; by not diversifying his risk and not utilizing a lot of the opportunities within his business to create significant wealth. Chris found out the difficult way and now educates business owners on how to avoid many of his former oversights and ultimately control where their finish line ends.