Back to Basics: Investing in an RESP for a child's education

An RESP allows education savings to grow tax free - and the government chips in, too.

Ruth Saldanha 27 August, 2018 | 5:00PM



Summer is almost over, and with it, the school break. With the new term just around the corner, students and parents alike are trying to squeeze as much as we can out of the last few days of sunshine. But for those funding education, the dark cloud of impending tuition fees looms on the horizon.

According to projections by Knowledge First Financial, a Mississauga, Ont.-based group RESP provider, it could cost close to $85,000 in 2018 for a four-year program with residence in Canada. If you're cutting back on treats to fund your savings, that's roughly about 21,500 double scoops of ice-cream.

And it's not about to get cheaper. By 2026, when your 10-year old will be ready to hit university, her in-residence four-year program will cost upwards of $100,000, the report predicts.

So what can you do about it?

The thing to remember with planning for education, is that is there is a finite amount of time before deploying the funds, usually 18 years from when the beneficiary is born, so the earlier one starts to invest, the better, says Robb Engen, personal finance blogger at Boomer and Echo. The initial contributions could be small and ramped up later to get the benefit of compounding, he said, adding that education investments should not place too much stress on other budgets like debt repayment.

The next question is, where should you invest?

Though a lot of Canadians use high-fee scholarship trusts or scholarship plans, or even a trust account to save for a child's education, the RESP (Registered Education Savings Plan) is the best option, says Jason Heath, fee-only financial planner at Objective Financial Partners.

The RESP is the best choice for two main reasons: the child's education fund can grow tax deferred until it's ready to use, and the federal government matches 20% of your contributions, of up to $500 a year per child via the Canada Education Savings Grant (CESG), Heath said.

It makes sense to open an RESP as soon as possible, and start with what you can afford, even if the initial contributions are $25 or $50 a month, Engen says, because the CESG allows for up to one year of catch-up in future years if you miss a year of contributions into an RESP.

In short: through an RESP, you can save taxes and get free money from the government.

Once you decide the RESP is the way to go, you have three RESP options to choose from: a Group RESP or scholarship plan, a Family RESP or an Individual RESP.

A Group plan can be opened for one child who isn't necessarily related to you. The funds you contribute are pooled with those of other investors in the same group plan, and all investment decisions are made by the group plan provider.

In general, Heath cautions that one should steer clear of the Group Plans, promoted by various financial service providers, mainly because these plans tend to have an inflexible structure or higher fees. It would be better to opt for an individual RESP or a family RESP, he noted.

An Individual plan is usually used to pay for the education of one child or beneficiary. Anybody can open or contribute to an individual RESP. There is a lifetime limit of $50,000 of contributions per beneficiary.

In the case of a Family plan, there can be more than one beneficiary. However, the beneficiaries must all be related to the person who opens the plan. Like in the individual plan, there is a lifetime contribution limit of $50,000 per beneficiary in the Family plan.

In both cases, you can either make the decision on where to invest the funds yourself, or you can pay a professional for advice on where and how to invest the fund.

When investing the funds in the RESP, one could choose to leave it in cash, or invest it in a GIC or the stock market, depending on risk appetite, Heath said. As one would need the funds ten or fifteen years in the future, it would make sense to consider some riskier investments in the initial years, before moving to a more conservative portfolio -- starting about five years before the funds will be used, he added.

Parents and other contributors into an RESP could consider robo-advisors as an option to receive professional advice at a lower fee, Engen said. Some robo-advisory firms such as JustWealth specialize in RESPs and time the investments so that the initial years include riskier assets, while the years closer to withdrawal target dates would have more conservative assets, he said.

Finally, what happens at the time of withdrawal?

At the time of withdrawal, the principal amount invested in an RESP is withdrawn tax-free, while the income and grants are taxable in the hands of the student, or beneficiary. However, as students tend to have low income, and can claim tax credits for tuition or other amounts, the eventual taxes paid on withdrawal of RESP funds tend to be low or even tax-free. This article explains some strategies for RESP withdrawals.

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Ruth Saldanha  Ruth Saldanha is Senior Editor at Morningstar.ca