Tuesday, December 16, 2008

Difference between GIC and debenture

I was talking to my uncle a little while ago at my parents place. He's taken good care of his money all of his life and he has different types of investments. He said he was thinking about getting some debentures. But he wasn't sure quite what a debenture is or how it is different from a GIC.

I was curious too so I looked it up and made a printout I'll give him the next time I see him [which should be this Friday]. A Guaranteed Investment Certificate (GIC) is when you lend the bank money. The bank pays you back over time generally with fixed compound interest rates that are set at the time you purchase the GIC.

GICs are protected if the issuing bank or financial institution fails. In the event of failure the GIC is covered by government deposit insurance. It is treated the same as an ordinary bank account and investor losses are covered by the government up to a certain amount. Thus they are a very safe investment.

In a Debenture you are also lending the bank money. A debenture is similar to a GIC in that the bank will repay the loan with compound interest rates specified up front.

A debenture differs from a GIC in that your loan to the bank or financial institution is unsecured. So if the bank fails then a debenture holder is lumped in with other common creditors. Thus you would recover little or nothing on your debenture in the event the financial institution fails.

Because a debenture is an uninsured loan, it is a higher risk than a GIC. So the interest rates on debentures should be higher than on GICs to account for the increased risk for the purchaser.

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