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RBC Financial Planning - Investment Planning

Saving for a child’s post-secondary education

 

RESPs – giving the gift of knowledge

Education savings strategies are often built around a Registered Education Savings Plan (RESP).

An RESP combines flexibility, tax-deferred investment growth and direct government assistance to help you reach your education savings goals for your children or grandchildren.

An RESP is an education savings plan registered with the government that allows you to set aside money specifically for the education of your children. Similar to a Registered Retirement Savings Plan (RRSP), the investment income earned within the plan grows on a tax-deferred basis until it’s withdrawn. This means that income earned within an RESP is not taxed as long as the funds remain in the plan. The government also contributes grants to the plan to encourage you to save for educational purposes.

As long as the earnings and grants received from the government within the plan are used for any reasonable education related expense, such as tuition, books, travel and living costs, withdrawals are taxable to the beneficiary, not to you as the owner of the plan. Better yet, there should be little or no tax owing because the beneficiary may only be earning only a small amount of income, if any, and will therefore not owe any tax or be taxed a low rate.

Although similar to an RRSP, there are several key differences with an RESP:

  • As a subscriber, you can contribute any amount to an RESP annually, subject to a lifetime maximum contribution amount of $50,000 per beneficiary.
  • Your RESP contribution is not tax deductible.
  • In most cases, you can withdraw the capital you contributed to the RESP tax-free, even before the plan ends, but this may cause a repayment of the government grants.
  • Subject to several conditions, if the beneficiary chooses not to pursue a post-secondary education, you can transfer up to $50,000 of the RESP earnings to your own or a spousal RRSP if you have available RRSP contribution room.

How to get up to $500 a year from the government

Under the Canada Education Grant (CESG) program, when you contribute to an RESP, the federal government will match 20% on the first $2,500 you contribute annually – up to $500 per year – for an eligible beneficiary up to and including age 17.

The maximum lifetime CESG is $7,200 per beneficiary; the grant proceeds are invested along with your contributions, further enhancing the benefits of tax-deferred, compound-investment growth within your plan. And the CESG does not count towards the RESPs $50,000 lifetime contribution limit.

Furthermore, if you contribute less than $2,500 in any given year, your unused grant entitlement can be carried forward to a future year. The maximum CESG that the government will pay in any one year is $1,000 per beneficiary, based on contributions of $5,000 or more. Families with modest incomes may qualify for the Canada Learning Bond grant by opening an RESP for children born after 2003. Some provinces also offer incentives to encourage parents to save for their children’s post-secondary education.

Discover the advantages of a family RESP

You can choose from two types of RESPs: individual plans and family plans.

Individual plans have only one beneficiary, and the beneficiary can be anyone — your child, grandchild, niece, nephew, family friend, you or your spouse. However, if you have more than one child, it can be far more effective to set up a family RESP – a single plan with multiple beneficiaries.

The primary benefit of a family RESP is increased flexibility: if one child decides not to pursue higher education, you can either name an alternate beneficiary or divide the assets in the plan among any remaining children.

Another advantage is that the funds in the plan do not have to be shared equally by the beneficiaries; if any child has higher educational expenses than another child, they can receive more income from the plan, at the discretion of the plan’s subscriber.

Conversely, when the beneficiary of an individual plan makes the decision not to pursue a post-secondary education, as the subscriber, you may be able to name an alternate beneficiary, although if it’s not a sibling you will lose the government grants. Otherwise, you can simply withdraw the money. The principal will be returned to you tax-free, but the accumulated earnings will enter into your taxable income for the year and be subject to an additional tax. To avoid some or all of the tax, you are allowed to transfer up to $50,000 of the RESP earnings to your own or a spousal RRSP if you have available RRSP contribution room. Plus any CESG money received must be repaid back to the government. (Please note: the issue of a child with an RESP not pursing post-secondary education can be very complex and there are many possible outcomes: you should speak to an advisor in this area.)

To qualify as a member of the “family” for a family RESP, all of the beneficiaries must be connected to the subscriber by blood – only children, grandchildren, brothers, sisters and adopted children and grandchildren may be included in a family RESP. Nieces and nephews cannot be included in a family RESP because they are not included in the CRA’s definition of family for RESP purposes. What’s more, eligibility for inclusion in a family RESP ends in the year a beneficiary turns 21.

Self-directed RESP vs a pooled RESP

While self-directed and pooled RESPs each have their own advantages and disadvantages, when you look at the disadvantages of a pooled RESP, it’s easy to see why most people feel they are better off choosing a self-directed RESP:

  • With a pooled RESP, which are offered by several “scholarship trust” companies, investments are required by law to be in safe, government guaranteed vehicles, such as T-Bills and Government bonds. This means the returns are dependent on interest rates, and can often be very low.
  • There may be high enrolment fees and costly annual administration charges.
  • If you cancel the plan, there may be penalties.
  • Not all educational institutions are recognized by all plans.
  • For some plans, students must complete uninterrupted education to continue receiving funds.
  • Some plans do not permit a transfer of funds between children if one child does not attend a recognized post-secondary institution.

The major advantage of a pooled RESP is that the funds are required by law to be safe. Plus most plans allow for very small monthly contributions, so it can be easier to participate. In general, a pooled RESP may be more appropriate for people who do not have the resources to, or who do not have the desire or discipline to invest on a regular basis.

With a self-directed RESP, you have much more flexibility. You can decide what kind of investments you want to hold and none of the points listed above for the pooled RESP would apply.

If you have children, grandchildren or others you would like to assist with educational expenses, click here for more information on RESPs. Or click here to find the RBC advisor closest to you.

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Higher education impossible for most?
RESPs – giving the gift of knowledge
RESPs vs. non-
registered investing
How to maximize investing for education

 

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