Comprehensive Guide to Registered Education Savings Plans (RESP) in Canada

Lately, many of my colleagues have been asking about the Registered Education Savings Plan, or RESP, which doesn’t surprise me given that several of them are new parents. In fact, setting up my daughter’s RESP was one of my top priorities as soon as she arrived.

Essentially, an RESP serves as a savings account specifically designed to assist in funding your child’s education. The government further incentivizes this by providing a grant of 20% on your contributions. Coupled with notable tax advantages, it’s evident that an RESP is the premier method for funding your child’s post-secondary education.

Registered Education Savings Plan Rules

Understanding the fundamental rules for establishing your RESP is crucial.

• An RESP can be created for any “beneficiary,” which may include your children, grandchildren, or friends’ kids.
• The beneficiary needs to be a Canadian resident and possess a Social Insurance Number.
• There is a lifetime contribution limit of $50,000 for each beneficiary.
• Thanks to the CESG, contributions can earn a 20% match, up to $500 each year.
• You can contribute until the beneficiary turns 31, while the RESP can remain active for a maximum of 35 years.
• The RESP can support various investments, including mutual funds, ETFs, stocks, bonds, and GICs.
• Capital gains accrued within the RESP are tax-exempt.
• Contributions to the ESP do not yield income tax deductions.
• Withdrawals categorized as Educational Assistance Payments are taxable for the beneficiary.

While some might view the regulations surrounding RESPs as daunting, the essentials are relatively simple. For those still seeking clarity, I will break down these concepts further to demystify how RESPs function.

Types of RESP in Canada

When discussing the various categories of RESPs, I am referring to the types of plans available for setup. Here are the three main types of RESPs in Canada:

Non-Family Plan

Most individuals initiate a non-family plan for their first child. In this arrangement, the RESP is dedicated solely to the individual beneficiary. The advantage here is that you can align your investment strategy with the beneficiary’s timeline without impacting other accounts.

Family Plan

Family plans appeal to some parents as they can encompass multiple beneficiaries, provided they are related by blood or adoption to the plan’s subscriber. With this arrangement, finances are pooled, allowing for flexibility in allocation. However, the presence of multiple children may necessitate a more conservative investment strategy.

Group Plan

In my view, group plans are best avoided due to the numerous conditions and stipulations they entail. While they may present the allure of a defined payout for your child, many stories highlight the pitfalls associated with them when researched online.

RESP Investment Options

As previously mentioned, an RESP acts as a versatile investment account that accommodates various asset classes, including:

• GICs
• Bonds
• Mutual funds
• ETFs
• Stocks

Since this account is meant for your child, you might think that low-risk investments are ideal, which is a valid perspective. However, if you establish the RESP at birth, there will be 16-18 years to allow your investments to grow, making it feasible to maintain a diverse portfolio suited to that timeframe.

This proves easier for seasoned investors, yet those new to investing may find it intimidating. Consequently, many investment companies offer mutual fund options that automatically adjust your portfolio according to your child’s projected first year of post-secondary education. While this is a practical choice, the management fees can be steep, often exceeding 2.5%.

A potentially better alternative would be to engage a robo-advisor, which provides similar services at significantly lower costs. For instance, Justwealth’s RESP portfolios employ target dates and come with minimal fees compared to many other financial institutions. When you open an RESP with Justwealth through my referral link, you’ll receive $50 to kickstart your investment.

Canadian Education Savings Grant (CESG)

One of the most enticing features of the RESP is the CESG, which provides a matching grant of 20% on contributions, up to $500 annually. For instance, contributing $2,500 to your child’s RESP will yield an additional $500. Conversely, a $2,000 contribution results in a $400 match.

Recognizing that annual contributions can be variable, the government allows for a carry-forward of the grant for one year. So, if you miss a contribution in one year, you can contribute $5,000 the next year and still qualify for the full $1,000 CESG ($500 for each year). However, it’s important to understand that contributing $25,000 in a single year won’t yield a 10-year worth of grants.

Keep in mind that there’s a lifetime limit of $7,200 in CESG available until the beneficiary turns 18. If you set up an RESP when your child is born, they could reach this limit by age 14.

RESP Grant for Lower-Income Families

Lower-income families have the opportunity to receive an additional $100 annually from the CESG. For households earning under $50,197, there is a 40% match on the first $500 of RESP contributions, followed by a 20% match on contributions up to $2,500, resulting in a total yearly grant of $600.

If your household income falls between $50,197 and $100,392, the matching amount is 30% on the first $500, and a 20% match on any additional contributions up to $2,500, leading to a potential total of $550 from the CESG.

Additionally, families with lower incomes might qualify for the Canada Learning Bond, which contributes up to $2,000 to their child’s RESP without any required deposits from parents.

Note that these income brackets are adjusted yearly, depending on your family’s net income as reported on your tax return. Regardless of the income level, the CESG limit remains capped at $7,200.

RESP Withdrawal Rules

When it comes time for your child to withdraw funds from their RESP, there are two scenarios to consider:

When used for education – Once your child enrolls in an eligible post-secondary institution, you can initiate withdrawals as long as you provide proof of enrollment. The funds, including CESG and bonds, fall under Educational Assistance Payments (EAPs), which are taxed as income for the beneficiary. Generally, since most students have minimal income, these funds are usually tax-exempt for them. This option also extends to studying abroad.

When not used for education – If your child chooses not to proceed with their education, you may withdraw your original contributions without incurring taxes. However, accumulated interest and gains will be taxable at your income tax rate, plus an additional 20% penalty.

Additionally, if your child decides against continuing their education, you may transfer the CESG to a sibling if they have available grant room. If that’s not feasible, any CESG and bonds must be returned to the government.

Upon closing the RESP, you can minimize your tax burden by transferring up to $50,000 of accumulated income to your own or your partner’s RRSP, provided there is adequate contribution room. For further information on what happens if the RESP remains unused, check out this post.

Final Thoughts

If enhancing your child’s prospects for post-secondary education is a priority, establishing an RESP is undoubtedly the best choice. The 20% matching grant from the CESG represents free money, and even if your child doesn’t pursue post-secondary education, your initial contributions remain intact. Take advantage of my Justwealth referral link now to receive $50 when you open an RESP with them.