What are the Benefits of Segregated Funds?
They have several unique advantages over Mutual Funds that may or may not be appropriate for a particular investor. Of course, these features don’t come without a cost; typically, Segregated Funds charge a slightly higher management fee than Mutual Funds to pay for these costs.
Depending on the particular company, Segregated Funds have a Death Benefit and Maturity Guarantee of principal that ranges from 75% to 100% of deposits, less any withdrawals. Now, the money must be invested for a period 10 years, and different companies have different requirements around this guarantee. But it is still an appealing feature for those conservative investors who find that they must participate in the equity markets because of low interest rates, but are worried about losing their investment. In a Segregated Fund, a person has the ability to name a beneficiary. In doing this, these funds go directly to this named beneficiary and avoid probate fees. Mutual Funds cannot avoid probate fees.
Creditor protection is also a potential benefit for investors. A recent court case has upheld the creditor-protected status of Segregated Funds, but there are rules and limitations around this; expert professional advice should be sought regarding this feature.
Who Should Invest?
Segregated Funds are for all investors who are currently invested, or looking to invest in the markets. Because interest rates are very low, many people find themselves forced to invest in these and other similar types of investments in order to achieve their financial goals; as well, most people don’t have the time or expertise to build and manage their own investment portfolio.
Keep in mind that not all Seg Funds are created equal. Different companies offer different benefits attached to their product. Don’t assume that since it is a Seg fund, it offers you all of the benefits you are seeking. As with any investment, take a close look at the features offered to determine if it is appropriate for you.
Segregated Fund Policies at Death
It is important to note that a segregated fund contract is very different from a mutual fund contract. A segregated fund contract, as a life insurance policy, has an owner, a beneficiary and an annuitant. The annuitant is the measuring life against which matters such as the maturity of the contract are determined.
Upon the death of the annuitant, the contract matures pursuant to its terms. Generally, the contract is terminated, the interest in the segregated fund is extinguished, and the value is paid out as a death benefit in cash to the beneficiary.
Upon the death of the owner or of the annuitant, the owner is deemed for tax purposes to have disposed of the contract. The deemed proceeds of disposition is equal to the value of the contract immediately before death, and the owner will be taxed on any gain (other than a mortality gain under an insured contract) deemed to have been realized at that time.
If the owner is not the annuitant, and the owner dies, the contract is not terminated. The transfer of ownership at death is treated like any other disposition of capital property. The owner will be taxed as a deemed disposition as noted in the previous paragraph. However, where the transfer is to a surviving spouse, there is a rollover, i.e., tax deferral because the deemed proceeds of disposition will be equal to the deceased’s adjusted cost base in the contract.
While the income tax results for a segregated fund contract are different from those of a mutual fund investment (which has no annuitant and therefore does not mature at the time of the annuitant’s death), there may be more opportunity for planning. Since the segregated fund contract matures upon the death of the annuitant, consideration might be given to:
- the initial choice of annuitant
- changing the annuitant during the term of the segregated fund contract (if the contract so allows)
- using joint annuitants
