What is a Registered Education Savings Plan (RESP)?

A RESP is an Education Investment Plan that allows you, as the subscriber, to accumulate money in an investment portfolio for your beneficiary's (usually child's), post-secondary education. The withdrawals can be used towards you beneficiary's tuition, books and living expenses.

Two significant tax benefits come about because of the tax treatment of a RESP. They are:

1. A RESP allows contributions to grow by compounding in a tax-sheltered environment until withdrawn.
2. Since the withdrawals are made in the name of your beneficiary, and spread out over a number of years, your lower income beneficiary pays little, if any, income tax.

When the student begins to use the RESP for education purposes, the investment income from that vehicle becomes taxable in their hands.

However, because the student typically has little other income, or is taxed at a very low tax rate, he or she effectively pays little or no tax on the RESP income.

Why an RESP?

Higher education is quickly becoming a high price necessity for a child's future success. According to the Canadian Federation of Students, the current cost for one year of an undergraduate program, including living expenses, is about $10,000. By the time a child, born this year, reaches the age of 18, that one year of study will rise significantly in cost. Estimates in Head Start, a new book by Gordon Pape and Frank Jones, shows that in 15 to 20 years students may well need $100,000 to $150,000 just to complete a basic four year undergraduate degree. Parents and grandparents want what is best for their children's/ grandchildren's futures. They, however, may not be fully prepared for the future cost of post-secondary education for that child.

Just as an individual would save for retirement, contributing to a child's RESP is an excellent way to save for that post-secondary education.

RESP Contributions

The maximum amount that can be contributed for any beneficiary is $4,000 per year, up to a lifetime limit of $42,000 per beneficiary. This maximum applies to each beneficiary and not to each subscriber who contributes to the plan. So, for example, if a parent and a grandparent each wanted to set up a RESP for their child/grandchild, the combined contribution of both subscribers, in any given year, cannot exceed $4,000 and the lifetime limit cannot exceed $42,000.

The Canada Education Savings Grant (CESG)

Effective January 1, 1998, the government will provide a Canada Education Savings Grant that gives parents and others even greater incentive to save through the use of a RESP. The grant provided by the government will be equal to 20% of contributions made to a RESP plan, on the first $2,000 in annual contribution for each child up to the age of 18. The maximum annual grant will be $400 per child. A family that has been unable to make contributions for one or more years may catch up in later years. In this case, the CESG will be paid on contributions up to $4,000 per year. The maximum lifetime grant per beneficiary is $7,200 (20% x $2,000 x 18 years).

The Canada Education Savings Grant will be given directly to the RESP promoter chosen by the subscriber, to be invested in the beneficiary's plan. The grant itself is not included in calculating the annual and lifetime RESP contribution limits.

The introduction of the Canada Education Savings Grant means that investments in a RESP will automatically receive a 20% rate of return on all contributions up to the first $2,000 per year. This automatic 20% rate of return, provided in the form of a grant by the government, makes RESPs a very attractive savings vehicle for your child's education.

The CESG and the investment income it generates will be paid to the student while he or she is enrolled in eligible full-time, post-secondary education or training programs. If the child does not pursue education or training, the grant must be returned to the government. The investment income can be transferred to the subscriber's RRSP under certain conditions.

As investors, you already know the importance of saving. Of all the things that are worth saving for, a child's education is certainly near the top of the list.

But in this era of government cutbacks, the cost of post-secondary education is skyrocketing. The Canadian Federation of Students estimates that a 4-year degree could cost over $67,000 by the time today's 3-year-olds reach university. To make saving easier, the federal government created the Registered Education Saving Plan (RESP).

RESPs let you contribute up to $4,000 per year towards the education of a beneficiary. The maximum contribution you can make during the plan's 25-year maximum life span is $42,000 for each child. Contributions are not tax-deductible, but the money grows tax-free until it is withdrawn. At that time, tax is charged to the student, typically at a very low tax rate.

The Canada Education Savings Grant (CESG) makes RESPs an even more attractive way to save. Each year until the beneficiary turns 18, the federal government will add 20% to the amount you contribute for each child, to a maximum grant of $400 per child per year. It is actually possible to collect a total of $7200 in tax-free grants.

If the beneficiary elects not to go to college, you can name another beneficiary, use u to $50,000 of the RESP to fill unused RRSP contribution room, or you can withdraw the funds in cash, taxed at your marginal rate and less a 20% penalty tax.

RESPs have no foreign content restrictions, so contributors are free to invest in virtually any mutual fund they choose. Mackenzie's lineup offers over 75 RESP-eligible funds that can help lighten the burden of paying for an education. To find out what RESPs can do for you and for your children contact your financial advisor and visit us a Mackenzie Financial.