Registered Education Savings Plans (RESP) and Your Financial Plan
Many people set up their Registered Education Savings Plan (RESP) accounts and then forget about them. Since school is back in session, it’s also an excellent time to revisit your RESP as part of your overall planning process to optimize the benefits of having this account.
For many young families, juggling multiple goals, such as paying down the mortgage, saving for retirement, and saving for their children’s future education, can be overwhelming. Focusing on just one goal at a time can also derail another goal. A qualified financial planner can help determine your needs and priorities by reviewing your personal timelines and financial projections.
Here are five tips and tactics to get the most value from your RESP:
1. Who can open an RESP? Anyone can open an RESP account for a child – including parents, guardians, grandparents, relatives, or friends as long as there is adherence to the beneficiary’s plan requirements and annual and lifetime limits. This person is known as the subscriber and they select and name an eligible beneficiary; this includes but is not limited to the roles of the subscriber.
2. How much should I be saving? There is no one size fits all answer. With the rapidly rising costs of post-secondary education, Canadian citizens and permanent residents can expect tuition fees to range between $2,500 and $11,400 a year. A more accurate answer depends on the age of your children, when you’ll likely need the funds, and how much you think you might need in the future. The bottom line is understanding how RESPs are part of your overall savings strategy.
3. Is it better to max out contributions as soon as possible or have regular smaller contributions? To illustrate the answer, we will demonstrate how money grows and the magic of compounding. Suppose Mike and Sally Smith make the minimal annual contribution of $2,500 to get the maximum Canada Education Savings Grant (CESG) each year of $500. This means that $3,000 grows yearly, for 15 years, at an average rate of 5.1%. It is also assumed that they do not qualify for any other grants. After 15 years, they will have contributed $36,000, received $7,200 in grants, and accumulated a total of $63,425 in their RESP (includes average growth rate of 5.1%).
For comparison purposes, let’s say Mike and Sally Smith are able to put down a lump sum of $36,000 in year one (and receive the max grant of CESG $500* that first year). For 15 years, they don’t make any further contributions, but the money grows at 5.1%. In the end, they will have a total of $73,237.
Conclusion: If Mike and Sally had the option, starting with an initial lump sum investment would allow them to be further ahead by $9,812. Starting early and letting the money do the work pays off in the end. In any case, working with a Wealth Strategist can help you determine how much you can save to meet your goals.
4. When should I close the RESP? Tip 4 and 5 go hand in hand. There are three components to an RESP:
- Investment growth
Each component is treated differently when you close the account. The overarching question is: What are my goals when closing my RESP? It is to minimize unnecessary money on fees or taxes.
Here are some options to consider before the subscriber closes the RESP:
- Wait and see - An RESP can be left open for up to 36 years. A lot can happen between 18 and 35, so don’t close the RESP until you know that the beneficiary(ies) don’t need the RESP.
- Use it or lose it – use up the government grant money first. These are called EAPs – Educational Assistance Payments. These payments can be claimed up to 6 months after the beneficiary has graduated. All the beneficiaries need to do is provide proof of enrolment to receive that income and government grant money in their pocket ASAP.
- Transfer to your RRSP – As the RESP subscriber, to avoid paying taxes on some of your RESP investment growth (also known as accumulated income), you can put up to $50,000 into your RRSP or your spouse’s RRSP if contribution in the respective account is available. Hold off on contributions a year or two before making the transfer for those lacking RRSP contribution room. Ensure you fully understand any tax implications on the transference of eligible funds.
- Transfer to another child –If you have more than one child, you have the option of transferring RESP savings, including grants, into your other children’s RESPs without tax consequences if they are under the age of 21. If they’re over 21 years old, you may have to pay taxes and return the Canada Educations Savings Grants (CESGs) and Canada Learning Bonds (CLBs). There are rules around transferring, check with your RESP provider for details.
- Make a donation – if your alma mater or another education institution is close to your heart, you can also donate your RESP investment growth. No taxes are due. You may also be able to obtain a donation receipt for tax purposes.
5. What if the beneficiary doesn’t pursue post-secondary education? You will need to understand the rules for closing an account.
- Contributions – As a subscriber, you can withdraw all of your contributions tax-free.
- Grants - To the federal government, you must repay all grants, including Canada Education Savings Grants (CESGs) and Canada Learning Bonds (CLB).
- Investment Growth – This money is taxed as income at your regular rate plus an additional 20%. In addition, you must meet the following three conditions:
1. All children named in your RESP are at least 21 years old and are not in school.
2. You opened the RESP at least 10 years ago, and
3. You are a Canadian resident.
Understanding all the rules around RESPs can be complicated. Speak with your Wealth Strategist so that they can help you with your unique situation. When doing your annual review, ensure your RESP is optimized for your situation. Because when school is out in June, the last thing on your mind will be RESPs.
*There are several grants, including the Canada Education Savings Grant (CESG), the Additional Canada Education Savings Grant, and the Canada Learning Bond based on family income. In our example, we are assuming only the basic CESG applies.