Investing in GICs
Steve Nyvik, Senior Portfolio Manager
A Guaranteed Investment Certificate (GICs) is a deposit with a Canadian financial institution for a specific time period. At the end of the term, you receive your principal back. Depending on the option chosen, interest may be paid annually, or it will compound and paid at the end of the term. Generally, you lose access to the principal until the end of the term, unless it is “Cashable”. Should the financial institution fail, the GIC may be covered under the $100,000 Canadian dollars Canadian Deposit Insurance Corporation (CDIC) insurance protection.
It is due to the institution contractual promise to pay interest and principal and with the insurance protection, that GICs are considered a low-risk investment and where some may refer to the investment as being “guaranteed”. Where you are investing in more than $100,000, you might buy GICs from different financial institutions to keep to the limit and be “fully protected”.
The interest is taxable as interest income. For a compounding GIC that is held in a taxable account (a personal, corporate, or trust account), the interest is taxable during each complete investment year, even if you don’t receive cash that year. For example, if you made a long-term investment on July 1, 2022, you will have to report the interest that accumulated up until the end of June 2023 on your 2023 return even if you do not receive a T5 slip.
Because of the potential high amount of tax on interest income, GICs are best held in an RRSP, RRIF, TFSA or other type of registered account. If held in a taxable account, once subtracting taxes and inflation, it may generate a poor return.
Whether you are retired and need income or if we are in a rising interest rate environment, an effective strategy for liquidity or to manage interest rate risk is a “5 year laddered GIC strategy”. Here, you take your total investment, say $50,000, and divide by 5 years. Then you invest $10,000 in a 1-year GIC, $10,000 in a 2-year GIC, 3-year GIC, 4-year GIC and 5-year GIC.
If you are retired, you then have $10,000 plus interest each year for meeting your living needs. If you don’t need the cash, then you can invest the proceeds in a new 5-year GIC. Through time, your GICs will come toward averaging the yield of a 5-year GIC. So over time, you get the best of both worlds, liquidity and a good return.
See the original Advisor’s Edge article quoting the author here.