The steadily rising cost of higher education means that many young people graduate with a large amount of student debt. It’s important to make the most of every dollar saved if you are working to ease the burden by covering some or all of a child’s post-secondary education. Though all saving strategies can help, there are certain education savings plans that provide more benefits than a regular savings account or brokerage account. Investors have the option of a government-sponsored plan called a Registered Education Savings Plan (RESP). An RESP can help you make the most of your education savings with tax advantages and matching government contributions.
How RESPs Work
A Registered Education Savings Plan (RESP) is a savings plan sponsored by the government. The goal of an RESP is to encourage saving for post-secondary education by offering unique savings opportunities.
Subscribers and Beneficiaries
The person who opens the plan and makes contributions is known as the subscriber. RESPs can have either joint or sole subscribers. For example, two parents of a child can open an account as joint subscribers to save for their child’s education. RESP subscribers are not limited to parents or even family members. Anyone may contribute to an RESP including parents, grandparents, godparents, etc. The child that is designated as the beneficiary will be the sole recipient of the plan’s benefits. Any child who is a resident of Canada is an eligible beneficiary of an RESP.
There is no limit to the number of RESPs that can be set up for one beneficiary. The only limitation is combined plan amounts, which cannot exceed $50,000 for one beneficiary. Contributions made by subscribers are not tax-deductible.
The government makes RESP contributions through the Canada Education Savings Grant (CESG). Each year under the CESG, the government matches at least twenty percent of contributions, up to $500 per beneficiary.
Benefits of an RESP
One of the biggest benefits of an RESP is government contributions. These matching contributions mean you’re essentially getting paid to save. Another major benefit of an RESP is the earnings from the plan accumulate tax-free, and taxes aren’t due until the money is withdrawn to pay for education expenses.
Another benefit of an RESP is that if the beneficiary of the account doesn’t use the funds, the contributor receives the money they contributed back, tax-free. Since income taxes were already paid on the contributions when they were made, if the subscriber gets the money back, income taxes don’t apply.
Disadvantages of an RESP
The biggest disadvantage of an RESP is that any earnings that are withdrawn but not used for post-secondary education incur a twenty percent penalty, and income taxes must be paid on the money. As for the money contributed by the government, if it isn’t used after 36 years of the account being opened, the government gets the money back. Another potential disadvantage is that if the subscriber passes away before the beneficiary uses the funds, the transfer of assets can be complicated, and the funds may not necessarily benefit the beneficiary.
Transferring Assets After Death
If the subscriber passes away before the funds in the account have been used, the funds do not automatically go to the beneficiary. If you’ve opened an RESP for a child, then you should consider including it in your estate planning.
A Different Kind of Beneficiary
Even though the child would be the beneficiary of the account, the role of a beneficiary for other accounts may be defined differently. Technically, the child is more of a potential beneficiary, since unlike other accounts, the funds do not automatically transfer to the beneficiary upon the death of the account owner. If you pass away and have not specified in your will who you would like the plan to go to, a couple of things can happen:
- Transfer Options Upon Subscriber Death: If you are a joint subscriber, the account will automatically transfer to the other subscriber. If you are not a joint subscriber, the RESP will go through probate. Going through probate is more expensive and time-consuming, and taxes will also be due on the assets. If you include a clause in your will that names the subscriber you would like the account to go to (such as the parent of the beneficiary) upon your death, it will transfer to their control. This person is known as the successor subscriber.
- Successor Subscribers: Once you transfer the RESP to the successor subscriber, the account is theirs. This means they can use the money as they wish and are not required to abide by your original spending guidelines. For example, the successor subscriber could add another beneficiary to the account. If you don’t want your RESP to go through probate, and you want to ensure it goes to your specified beneficiary, you can also establish a testamentary trust. If you pass away, the testamentary trust will administer the RESP after your death.
Post-secondary education can be expensive, but the more you can save now, the more you can ease the financial burden for a child you care about. Working with a financial advisor can help ensure you’re making the most of every hard-earned dollar you save and taking full advantage of your RESP. Contact us today, and we can discuss how to start saving for your children’s education.