Why segregated funds are the solution

This article was published in partnership with Canada Life.

Market volatility continues to rattle investors and clients. Every time central banks renew their hawkish tone in a bid to control inflation, markets whipsaw. The jury remains out, therefore, on whether the Bank of Canada or the U.S. Federal Reserve will achieve a “soft landing” and avoid a damaging recession.

Also, worryingly, earlier in the year, fixed income dropped in lockstep with stocks. Negative correlation is re-emerging, in a glimmer of hope, but given the aggressive policy it appears that, generally, what’s bad for bonds is going to be bad for stocks.  The backdrop to all this uncertainty, of course, is the geopolitical strife that’s exacerbated supply chain issues. Russia’s invasion of Ukraine, for example, has pushed energy prices up, fuelling inflation and contributing to a cost-of-living crisis in many countries.

There are few places, therefore, to hide for investors, meaning many have stepped into alternative investments – an area many are less familiar with, and which are often illiquid. Where can clients find some certainty in an uncertain world? This is where segregated funds come in. Similar to a mutual fund in that it’s a pooling of investments, a segregated fund policy includes insurance guarantees that can protect much or even all of your original investment.

WP spoke to John Yanchus, Director of Tax and Estate planning at Canada Life, to understand the benefits of this solution, especially given the market volatility.

Why are segregated funds the solution?

Given the prospect of more interest rate hikes, security of income has been propelled up investors’ list. This typically leads to more willingness to discuss solutions like seg funds. And given the current environment and volatility, the guarantees play a positive role in protecting capital and giving people that peace of mind. When interest rates are going up and the markets are still a little leery, seg funds allow people to know they’ve got that protection.

Seg funds v GICs

Some investors might see GICs as an easier route to head down compared to seg funds but that means you miss out on so many of the enhanced benefits of the latter. I used to joke the reason I left public practice was because I saw too much invested in GICs! A GIC is limited. Compared to a seg fund, they don’t offer the aforementioned guarantees and they don’t have the ability to access a much more diverse market. From a tax perspective, a GIC creates 100% interest income, which is taxed at the highest rate, whereby if we can diversify into other types of interest, dividend and capital gains type generating investments, we'll get a much more attractive tax rate.

Seg fund features

• The estate side of conversation is a huge piece of the puzzle – and that speaks, essentially, to how to get money to different people in the most efficient way. One example, which I’ve been dealing with a lot lately, is parents going into care homes or leaving their family home to go into another type of home. The kids, the inheritors, want that money in a place where they can get at it relatively quickly. A seg fund is the answer in a lot of cases because it bypasses the estate and probate process and gets the money into the hands of heirs really quickly.
• There are also some privacy benefits, with the Will becoming a public document once through the probate process. A seg fund contract, on the other hand, is between you and the insurance company and nobody will ever see it. Even someone like your executor, for example, may not know who the beneficiaries are. It'd be their responsibility to get that information to the insurance company.
• Returning to the theme of heirs, seg funds, as an insurance contract, have the ability to control how the beneficiaries receive the money. We can give them a life annuity, a term certain annuity, a lump sum, or any combination. We can also do that for up to 20 different individuals on a single form. Think of it as another form of protection. If there are spendthrifts or different scenarios that are affecting families, there is a degree of controlling from the grave. If you don’t think your child could handle a lump sum, a monthly income for a certain period or for life might be the answer. It’s a neat benefit available through non-registered segregated funds.
• Creditor protection is an administrative benefit. The policy can be structured with no setup costs, or ongoing legal management so that in the event of a lawsuit or bankruptcy, your funds may potentially be protected from creditors. This is of course, especially important for business owners.
• With markets unpredictable, if there is a loss position, with a seg fund you get that tax reported to you in the year so you can use that on your tax return and utilize that loss right away. The equivalent scenario on a mutual fund side results in that loss staying within the mutual fund and it'll offset again against capital gains in future years, so there’s a big tax timing difference.
• There is also an ease of reporting with a seg fund, in which every transaction is reported on the T3 slip – and that's everything from fund manager activity right through to client activity. The equivalent investments in a mutual fund would require some work. You may receive a T5008 (Statement of Securities Transactions) that will show your proceeds, but the onus is on you to calculate the adjusted cost base. So, you, or your accountant, will have put the work in. A seg fund, because it’s actually an insurance contract, will actually track the cost base for you so you don't need any external help.

Why Canada Life

With 175 years of experience under our belt, we’ve learned how to build one of the strongest segregated fund shelves in the industry. To build portfolios that offer financial growth and protection for your clients, our shelf has the metrics that matter to you.

Talk to a member of your Canada Life Wealth wholesale team for more information.

Disclaimers

The views expressed in this commentary are as at the date of publication and are subject to change without notice. This commentary is presented only as a general source of information and is not intended as a solicitation to buy or sell specific investments, nor is it intended to provide tax or legal advice.

The above information should not be taken as providing legal, accounting or tax advice. You should obtain your own independent professional advice from your lawyer and/or accountant to take into account your particular circumstances.

 A description of the key features of the segregated fund policy is contained in the information folder. Any amount allocated to a segregated fund is invested at the risk of the policyowner and may increase or decrease in value.

Creditor protection depends on court decisions and applicable legislation, which can be subject to change and can vary from each province; it can never be guaranteed. Your client should talk to their lawyer to find out more about the potential for creditor protection for their specific situation.

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