A guaranteed investment contract (GIC) is an agreement between an insurer and a purchaser that guarantees the owner principal repayment and a fixed or floating interest rate for a specified period of time. They are sometimes known as funding agreements.
A Guaranteed Investment Contract should not be confused with a Guaranteed Investment Certificate, which also goes by the acronym GIC, and is sold by Canadian banks.
Insurance companies issue GICs to institutions that have a favorable tax status under the Internal Revenue Code (including 401(k) plans).
It is an investment vehicle that yields higher returns than US Treasury securities or typical savings accounts. They are considered to be safe as the majority of issuers offering them have excellent credit ratings.
However, GICs with fixed rates are at risk of inflation. For example, if interest rates rise during the vehicle’s holding period there is a chance of lower returns.
In the past, a significant amount of 401k retirement money was invested into GICs. However, as life insurance companies began to go bust, a lot of people lost faith in GICs. For example, in the 1990s, Executive Life Insurance Company experienced junk bond problems and people who redeemed GICs found that their money was frozen or non-existent.
Example of a guaranteed investment contract:
Funds generated through a municipal bond issuance usually take a long time to be drawn down. By depositing the proceeds of the bond in GIC, the issuer can obtain liquidity of the funds at earn a higher rate of interest, compared to typical money market accounts.
According to the Nasdaq Business Glossary, a guaranteed investment contract is:
“A pure investment product in which a life company agrees, for a single premium, to pay at a maturity date the principal amount of a predetermined annual crediting (interest) rate over the life of the investment.”