Segregated Funds vs Mutual Funds

When considering retirement investment solutions, Canadians want growth, but they also want security. It's a surprise to many to learn that segregated funds—often overlooked—actually offer both.

Surprisingly, there’s an option that you may not have heard about: segregated funds. Discover the differences between segregated funds and mutual funds and why the former might make a great addition to your investment portfolio.

Key takeaways

Segregated funds and mutual funds both involve pooling investments with other investors to create more options and reduce risk, but they also have some key differences.
Segregated funds are an insurance product with unique benefits, such as guarantees on your original investment, estate-planning perks, and potential protection against creditors.
Before choosing your investment route, speak with a certified professional about considerations that include your retirement timeline, tax planning, and risk tolerance.

What are segregated funds?

Segregated funds, also known as guaranteed investment funds (GIFs), are similar to mutual funds in that they involve the pooling of money by multiple investors. In both cases, a professional fund manager will take that pooled money and invest it in various stocks, bonds, and/or other securities (known as a “portfolio”), based on the fund’s investment mandate. This strategy allows investors to put their eggs in a variety of different baskets, which may limit the risk of market fluctuations.

The major way that segregated funds are unique is that they include insurance guarantees, which means you may be able to protect part or all of the money you originally invested. At their most basic, segregated funds are mutual funds combined with an insurance policy.

How do segregated funds and mutual funds differ?

Mutual funds and segregated funds are similar in many ways: they have professional portfolio managers, they allow you to diversify risk, and they offer potential creditor protection on registered accounts.

But, there are some unique benefits of segregated funds.

Principal protection

When investing in mutual funds, there’s always the risk that the market could be experiencing a downturn when you’re hoping to access your savings for retirement. With segregated funds, the amount you invest (known as your “principal”) is protected by two guarantees.

Maturity guarantee: At the maturity date (the date the term is up for your investment—typically, 10 years or longer), you’re guaranteed to receive either the current market value of your investment or a minimum guaranteed amount, whichever is greater (the difference paid is often called a “top up”). The minimum guaranteed amount is typically 75 to 100 per cent of your principal, minus management fees and other costs.
Death benefit guarantee: Should you pass away, the person or people you name as your beneficiary or beneficiaries will receive either the current market value or a minimum guaranteed amount (75 to 100 per cent), whichever is greater.

Estate-planning benefits

Normally, the settlement of an estate takes time and involves a public probate process (where the courts formally recognize and review an individual’s will) with fees and taxes. With a segregated fund, the death benefit may be paid out faster to your named beneficiary or beneficiaries, bypassing a lengthy, public, and expensive estate settlement and probate.

If you have a blended family, a segregated fund may reduce potential conflict by allowing you to set aside assets from your overall estate to go directly, and privately, to a specific beneficiary.

The quicker process with the segregated fund could also help your beneficiary or beneficiaries when its proceeds are intended to provide ongoing financial support.

Resets

With segregated funds, you may be able to “reset” the guaranteed amount of your principal investment. Say you invested $10,000 in a segregated fund, and the market rises over the next year, so your investment is now worth $11,000. With a reset, you can lock in your principal guarantee at $11,000 to protect your gains. Just note that your maturity date will likely reset as well.

Potential creditor protection

Segregated funds are an insurance product. That means, unlike mutual funds, segregated funds can potentially protect both registered and non-registered assets from creditors. If you’re a business owner or are self-employed, this perk might be particularly attractive.

Liquidity

Both segregated funds and mutual funds can be cashed in at any time at their current market value. However, you’d need to hold the segregated funds until their maturity date in order to access the maturity guarantee amount.

Fees

Sometimes, the fees for segregated funds may be higher than for mutual funds, due to their additional benefits.

Factors to consider when choosing between segregated funds and mutual funds

When deciding between various mutual fund and segregated fund portfolios (or choosing a mix), you’ll want to consider several factors.

Investment goals and timelines: Segregated funds are a long-term investment and will match best with your long-term goals, such as planning for retirement or planning a financial legacy for your family.
Risk tolerance: Mutual funds and segregated funds have investment options for all risk tolerances, but segregated funds are generally considered safer, because of the principal guarantees.
Liquidity needs: Do you need to be able to liquidate your assets at a moment’s notice? Both segregated funds and mutual funds allow you to access your invested capital at any time; although, cashing in early means you lose your guarantee.
Estate-planning considerations: Segregated funds can be a smart idea if you’re planning a financial legacy for your beneficiary or beneficiaries or you want privacy for your estate plans.

This article is intended as general information only and is not to be relied upon as constituting legal, financial or other professional advice. A professional advisor should be consulted regarding your specific situation. Information presented is believed to be factual and up-to-date but we do not guarantee its accuracy and it should not be regarded as a complete analysis of the subjects discussed. All expressions of opinion reflect the judgment of the authors as of the date of publication and are subject to change. No endorsement of any third parties or their advice, opinions, information, products or services is expressly given or implied by Royal Bank of Canada or any of its affiliates.

Any amount that is allocated to a segregated fund is invested at the risk of the contract holder and may increase or decrease in value. RBC Guaranteed Investment Funds are individual variable annuity contracts and are referred to as segregated funds. RBC Life Insurance Company is the sole issuer and guarantor of the guarantee provisions contained in these contracts. The underlying mutual funds and portfolios available in these contracts are managed by RBC Global Asset Management Inc. When clients deposit money in an RBC Guaranteed Investment Funds contract, they are not buying units of the mutual fund or portfolio managed by RBC Global Asset Management Inc. and therefore do not possess any of the rights and privileges of the unitholders of such funds. Details of the applicable Contract are contained in the RBC GIF Information Folder and Contract at silver.rbcinsurance.com/gif.

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