RESP a great savings tool but plan withdrawals carefully

There are a number of ways parents and children can save for and reduce the high cost of getting a post-secondary education in this country.

A post-secondary education can cost up to $100,000 or more for a four-year degree program. Many Canadian parents are using the popular Registered Education Savings Plan (RESP) to save for their children’s education, but in many cases regardless of how much they save it still may not be enough.

“Parents who maximize their contributions to an RESP and get reasonable returns over an 18-year period can realistically expect to build a nest egg of between $150,000 and $160,000,” says Mark Coutts, a financial adviser with Sun Life Financial. “That’s a nice sum of money but it may not end up being sufficient. My eldest is pursuing a professional degree at an Ontario university and the costs for his first year alone are over $30,000. For parents with just two children that nest egg still may not be enough.”

The RESP was introduced in 1972 as a way to help parents save for their children’s education. A total of up to $50,000 can be contributed into an RESP for each child named who is enrolled in qualified educational programs. There is no annual contribution limit and the government will add a grant of up to a maximum of $7,200.

Income and capital gains can be generated and grow within an RESP through investments such as stocks, bonds, mutual funds, and guaranteed investment certificates until the children are ready to pay for their post-secondary education.

“The RESP is a great savings program but most people don’t appreciate the complexities involved with making withdrawals in a timely and tax efficient manner,” Coutts says. “They think they can snap their fingers and the money will be there. In fact, the plan is deceptively complicated when making withdrawals.”

Typically, RESP withdrawals are made to cover tuition, room and board, school supplies, computers and transportation, all of which are considered eligible education expenses.

Funds withdrawn from an RESP account must be classified either as a Refund of Contributions or an Education Assistance Payment (EAP).

A Refund of Contributions is a withdrawal of your original contributions. Because these contributions were made from your after-tax income, you are allowed to withdraw them without paying additional tax.

The EAP is a withdrawal of funds that originate from the government grants received and the tax-free accumulated income earned over the years from interest, dividends and capital gains. These monies never have been subject to any taxation and therefore must be claimed as taxable income. The EAP paid to the student will be included in the student’s income for tax purposes. The financial institution which administers the RESP will keep track of transactions and amounts for you.

“You need to be careful when you withdraw funds,” Coutts says. “Students, for example, may generate income through summer and part-time jobs, co-op programs and other sources and when these are added to RESP withdrawals they may in fact end up paying tax.”

There is the option to set up an individual or family RESP plan. If you have only one child, the answer is easy – an individual plan.

A family plan, however, can have more than one beneficiary. Beneficiaries have to be connected to the plan subscriber either by blood or adoption. Money can be allocated to each beneficiary. If there is a significant difference in age then you may want to appoint the majority of contributions to the older beneficiary first since the younger one has more time to grow the funds.

For parents with more than one child the family plan offers a bit more flexibility and may save money on plan fees.

RESPs have another advantage. If a child does not end up pursuing post-secondary education the parents can transfer their original contributions into their Registered Retirement Savings Plans (RRSPs), assuming they have the contribution room, but they must repay the government grant portion.

Talbot Boggs is a Toronto-based business communications professional who has worked with national news organizations, magazines and corporations in the finance, retail, manufacturing and other industrial sectors.

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