What Is a Guaranteed Investment Contract (GIC)?

What Is a Guaranteed Investment Contract (GIC)?

Let me explain what a guaranteed investment contract, or GIC, really is. It's essentially a deal between an insurance company and an investor—usually something like a pension fund or an employer-sponsored retirement plan, such as a 401(k). You, as the investor, agree to park a sum of money with the insurer for a set time, and in return, they promise to pay you an agreed-upon interest rate plus give back your principal at the end.

If you're an employee in a 401(k) or similar plan, you might see GICs as one of your investment options. Sometimes they're referred to as funding agreements.

How Guaranteed Investment Contracts (GICs) Work

Think of a GIC as working somewhat like a certificate of deposit (CD) from a bank, but it's usually bought by institutions rather than individuals, and the amounts are often much larger. Just like CDs, GICs are seen as low-risk, but they also deliver lower returns than many other investments.

In retirement plans, these appeal to you if you're risk-averse or want to balance your portfolio with some low-risk holdings. You'll often find GICs offered as part of a stable value fund or a similar conservative option in your plan.

Most GICs come with either a fixed interest rate or a variable one that adjusts based on a specific index.

What Does 'Guaranteed' Mean With a GIC?

The 'guaranteed' part in guaranteed investment contract isn't absolute—there's a catch. The insurance company does promise to pay the agreed interest and return your principal, but that promise is only as good as the company's own stability.

Remember when the federal government bailed out AIG during the 2007–2008 financial crisis? One reason was to prevent AIG from defaulting on its GICs. As Federal Reserve officials later testified, pension plans with funds in AIG GICs would have faced big losses, affecting retirees or those planning to retire.

Since GICs offer low interest rates, inflation can easily outpace them. You also face interest rate risk. For instance, if a GIC pays 4% annually over 10 years but inflation averages 6%, you're losing purchasing power.

What Is a Synthetic Guaranteed Investment Contract (GIC)?

A synthetic GIC, as defined by the U.S. Office of the Comptroller of the Currency, is a diversified portfolio of fixed-income securities protected from interest rate swings through contracts or wraps from banks and insurance companies. In this setup, the 401(k) plan and its participants own the underlying assets that back the stable value fund. Unlike a standard GIC, where the insurance company owns those assets in its general account.

What Is a Guaranteed Investment Certificate?

Don't mix this up with the guaranteed investment contract—though they share the GIC acronym. A guaranteed investment certificate is a Canadian product sold by banks, credit unions, and trust companies, often for retirement accounts. It's more like a U.S. CD than what we call a GIC here.

Are Guaranteed Investment Contracts Federally Insured?

No, GICs don't have federal insurance, unlike many CDs covered by the FDIC or NCUA. Some insurance products get coverage from state guaranty associations, but many of those don't include GICs.

The Bottom Line

To wrap this up, guaranteed investment contracts are deals between insurance companies and investors like pension funds or 401(k) plans. If you're in such a plan, you might choose a GIC, often within a stable value fund. Keep in mind their low rates make them prone to inflation risk.