8 reasons to invest in Segregated Funds

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There are many reasons that make investing in segregated (seg) funds a significant strategy when creating wealth. See if these reasons appeal to you and discuss seg funds with your advisor:

  1. Simplified investing  You can select an industry or sector, for example, without having to hand-pick each security. The segregated fund manager does this selection process for you. You don’t have to be assessing which stock or bond may or may not be a winner. A fund manager is trained to weigh out all the market contingencies which can affect investor performance.
  2. Diversification A small monthly purchase plan can have you moving forward in your strategic fund investments in a day. Your money can buy a piece of many different investments held within one or more funds.
  3. Dollar-cost averaging Dollar-cost averaging allows you to buy more fund units when the unit values are down, less when they are high, giving you some benefit from downward volatility.
  4. Flexible access to your money You can sell your fund shares in one day. Your proceeds are available the next day if your money is needed in the short term.
  5. Portfolio balancing Choices include the full range of fund types and strategies are available to use, such as strategic balancing of your segregated fund holdings.
  6. Capital guarantees Segregated funds may offer certain principal guarantees at maturity and/or at death. In some cases, market gains can be locked in and guaranteed after a period of time. Some segregated funds have options to lock in a portion or all of the gains to date which resets a guarantee at a higher level after a defined period.
  7. Avoidance of Probate The proceeds of a segregated fund policy flows to the beneficiaries without going through probate which can avoid significant estate fees. It can also prevent these funds from being contested by disgruntled beneficiaries if the funds passed through a will.
  8. Potential Creditor Protection Creditor protection is offered because it is an insurance product, insofar as the investment is made before any creditor issues are apparent. Keep abreast of legislation with regard to creditor protection by discussing this with your advisor.

How simple is it to invest in segregated funds?

 

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You may want to consider using segregated funds when the market is offering low snail-paced returns on guaranteed term deposits.

The following advantages, make investing in segregated (seg) funds simple:

  • Invest in stocks when interest rates are low Interest rates on term deposits pay a very low percentile return per year, whereas the stock market can grown rapidly.
  • Simplified investing You can select an industry or sector, for example, without having to hand-pick each security. The segregated fund manager does this selection process for you. You don’t have to be assessing which stock or bond may or may not be a winner. A seg fund manager is trained to weigh out all the market contingencies which can affect investor performance.
  • Low-cost diversification A small monthly purchase plan can have you moving forward in your segregated fund investments in a day. Your money can buy a piece of many different investments held within one or more funds.
  • Dollar-cost averaging Dollar-cost averaging allows you to buy more seg fund units when the unit values are down, less when they are high, giving you some benefit from downward volatility.
  • Flexible access to your money You can sell your seg fund shares in one day. Your proceeds are available the next day if your money is needed in the short term.
  • Portfolio balancing Choices include the full range of seg fund types and strategies which are available to use such as strategic balancing of your funds holdings.
  • Automatically invest You can automatically invest more in segregated funds at any time or use dollar-cost-averaging.
  • Professional management Segreaged funds have active professional management watching over your investment
  • Segregated funds also offer some certainties Some guarantees are offered or optional as far as principal retention goes or the investor, which are quite different than segregated funds, which may differ according to the segregated fund policy.

Talk to your advisor about how you might benefit from the use of seg funds in your investment planning strategies.

 

How do you purchase segregated fund units?

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Segregated funds from insurers offer you an insurance policy contract.

The value of your interest in a seg fund is equal to your share of the securities owned by the seg fund. This is credited in terms of the number of units an investor owns of a seg fund. With seg fund policies, you own an interest in an investment portfolio as stated in an insurance policy contract.

You pay premiums that “deposit” money into a seg fund policy that further invests in the seg fund.

 

Why are segregated fund management fees higher?

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Reserves must be kept to protect your guaranteed capital.

A life insurance company holds a reserve in relation to the capital guarantee provided in the policy contract. Because of the need to assess and insure the capital guarantee, the involvement of life insurance is required.

The insurer is required by law to maintain adequate reserves of capital that may be needed to pay any future liability due to a capital loss.  Companies now offering seg fund investments also work in conjunction with a life insurance company to facilitate this reserve and insures the capital guarantee. The management fee charged to the segregated fund includes the cost of that insurance.

How are Segregated Fund distributions handled?

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Distributions are received by the segregated (seg for short)) fund from the assets held, such as stocks and bonds. Depending on the assets held, distributions could include Canadian dividends, foreign income, other income, and capital gains. A seg fund may also realize capital gains upon a disposition of fund assets (including redemption of seg fund units). It is also possible for a seg fund to incur capital losses on the disposition of fund assets. Seg fund income as well as capital gains and losses are allocated each year to the contract holders.

Tax rules that apply to seg funds are quite complex, especially when a spouse dies who holds a seg fund contract in an RRSP. However, there are tax strategies that your insurance advisor can develop to make the use of seg fund’s ability to establish a policy beneficiary.

You may be a good candidate for seg fund use if:

  • You are a conservative investor and yet want higher returns than GICs offer.
  • You are a pre-retiree who needs growth, but can’t afford to lose money over the long term.
  • You are a senior who requires estate protection and certain capital guarantees.

What advantages do segregated funds offer?

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Segregated funds limit the amount of money you can lose in order to protect your investment and your family’s lifestyle. A segregated fund offers the investor fund choices such as: equity funds, bond funds, balanced funds and money market funds, etc.. Some of your capital is guaranteed by a life insurance company with some advantages.

1.   Guaranteed capital upon maturity or if you die.  A seg fund has a maturity date after a period of years such as 10-15 years, or at death. Upon the maturity date an amount of 75% to 100% of your invested capital is guaranteed by the life insurance company. If you die your designated beneficiary is paid a guaranteed sum.

Resetting the capital guarantee. Some companies permit the resetting of the guaranteed capital at a higher value with a new maturity date. Long-term investors may appreciate this safeguard especialy when investing in equity segreated funds, though there may be higher associated fees.

2.  Creditor protection. A seg fund with a preferred beneficiary named on the contract might be protected from creditors if an investor faced a lawsuit or bankruptcy.  After the policyholder’s death, all beneficiaries are protected against  claims made by the policyholder’s creditors. Such protection may be worth the higher management fees of a seg fund where an investor either owns a business or is nearing retirement.

Note: If Bill C-55 becomes law, your RRSPs and/or RRIFs will be protected from creditors in all investments as well as seg fund investments if a bankruptcy occurred.

3.  Estate exemption from probate and executor fees.  When a seg fund policyholder dies with a beneficiary designated on the policy (outside the estate), the fund exempt from probate and executor fees. Your beneficiary receives the policy benefits quickly while the estate remains responsible for any final taxes.

Segregated funds diversify your investment

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Segregated funds have their shares protected to a certain degree by insurance.

The insurance protection advantage The notable advantage is that some segregated funds offer to insure up to 75% or higher, of the principal invested in a segregated fund if held for a number of years, typically 10. Depending on the situation, there may be some creditor protection if an investor went bankrupt if he owns segregated funds.

Diversification advantage Segregated funds offer the investor the benefit of maximum diversification, with minimal exposure to any one stock. You pool your investment with the combined capital of other investors, which allows everyone to invest in many companies, not just focus on two or three larger stocks.

Segregated Fund managers usually diversify among at least 20 companies, investing no more than 10% of the fund’s total dollars into any one security.

Other advantages of Segregated Funds

• You can buy additional shares of a segregated fund at any time.

• An automatic purchase plan called dollar-cost averaging (DCA) lets you invest equal amounts at regularly scheduled intervals. You buy more fund shares when the prices are lower, fewer when prices are higher, thus averaging out the price of the shares purchased.

• Segregated fund contracts can be registered in RRSPs or RRIFs.

• Dividends, where applicable, are easily reinvested.

• Some fund companies allow transfers between their funds without charge.

• You can borrow against segregated fund assets (unless the contract is registered).