The Rewards of RESPs: The Good Gets Better

The benefits of Registered Education Savings Plans have become so big, our financial expert wonders: “Why wouldn’t you do this?”

If you are a parent or grandparent with school-age children and have not set up a Registered Educational Savings Plan (RESP), you are letting free money slip through your family’s finger tips. What’s more, since 2006, the benefits for families with young children have become even better. So don’t delay, because once the offspring turn 17, it’s too late.

Now, I know what you are probably thinking: governments never give anything away for free there has to be a catch. Well, I’ve looked at it from just about every angle and the only drawback occurs if you contribute in excess of $50,000 per beneficiary. In fact, to make it easier to understand the features and benefits, the Government of Canada has created some great brochures and a learning centre to boot. You can access information from either the Service Canada or CRA websites.

However, what works in theory does not always work in practice. The promoters of some plans have restrictions placed on both contributions and withdrawals so do make sure the plan you choose works for you and your family.

Recently, I went to Service Canada’s website and the allure was so great I thought about having more children. Fortunately my teenage son entered the room, drank all but the last sip of milk in the house, replaced the near-empty jug in the fridge and walked out taking the desire for more offspring with him. But I digress. The simple truth is parents need to take advantage of this investment structure before the government changes its mind.

Learning the Basics
An RESP is an educational savings plan registered with the Canada Revenue Agency. It’s an investment vehicle that allows Canadians to save funds for the post-secondary education of their direct decendents (children and grandchildren). In 1998, the federal government launched incentive programs that not only allowed funds to grow tax free inside the RESP, but also provided free grants of 20 per cent (up to $400 per year) per eligible child. Contribution limits for grants were $2,000 per year and maximum lifetime contributions were $42,000.

For those families with uncertain cash-flows, the government allowed families to contribute up to $4,000 every other year and still receive grants, but certain conditions apply.

In 2006, things got even better. The maximum lifetime contribution rose to $50,000 and the eligible annual contribution limits increased to $2,500 per year, which means the annual grant rises to $500 per year. The new total maximum grant is $7,200.

But wait, there’s more. In 2003, the government initiated a second grant called the Canada Learning Bond and it’s free for the asking. Qualifying families may receive $500 when they apply — and $100 per year until age 15. This gives you an additional $2,000 just for filling out an application and submitting it to a qualified financial institution.

> You can contribute a lifetime maximum of $50,000 towards a child’s education within an RESP.

> The Canada Education Savings Grant (CESG) will match your funds by 20% to an annual maximum of $500 per year, up to a lifetime maximum of $7,200.

How It All Works
You, the “subscriber,” open up an individual plan for a single beneficiary (child) or a family plan for multiple beneficiaries (two or more children) with an authorized promoter (financial institution). Note that you must obtain a social insurance number for the child. RESP plans typically last for a maximum of 36 years so if your child is reluctant to attend post-secondary education, there is some leeway.

You make cash contributions to the plan and then government grants are deposited to the same plan. Generally speaking, the basic educational grant (20 per cent of the contribution subject to annual limits) is automatically credited to the plan. However, the Canada Learning Bond and any Provincial Savings grants must be applied for separately and there are mean income tests to qualify for the additional funds.

The Process
In 2004, I opened up an RESP with a mutual fund company for my son and deposited $4,000. I then used the funds along with the grants to buy several mutual funds. Over the past 10 years, I have made fairly regular contributions and watched the plan grow to a sizable amount

In a couple of years, with luck, my son will attend a qualifying post-secondary educational institution and not have to worry about the cost of his schooling.

Now, here’s the best part. Once my son attends school on a full-time basis, I can withdraw all of my RESP contributions without penalty and use those funds to further his educational achievements or transfer those funds to a Tax-Free Savings Account or Spousal RRSP. The grants, plus the growth inside the RESP, will be considered income for tax purposes for my son by Revenue Canada. (OK, I lied — the government gets its cut in the end but it is at my son’s low tax rate, not mine.)

Steve Bokor, CFA, is a licensed portfolio manager with PI Financial Corp, a member of CIPF.