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RESP or No RESP?

RESPDeciding on funding an RESP is usually based on the desire to provide the best for your children through higher education. Banks or advisors will bring it forward and highlight the 20% contribution from the government in the form of a CESG grant and the tax free growth. They want you to buy their products. It’s not relevant to them where you put the money but if they can get you to open an account with a monthly contribution, that’s a monthly fee in their pocket. What I am referring here is to the advertisement that surround us and often promote products that might or might not be in our best interest.

In a previous RESP post (RESP Explained), I had a very good question from a reader about the drawbacks of a RESP. The drawback is only apparent when you consider what you will do with the money if your children don’t go to a post-secondary institution. When faced with a dilema in investing, it’s important to gather all the facts. RESP rules are clear and the process is defined which can allow for everyone to reach a conclusion based on their situation. I am going to compare what savings inside and outside a RESP for education looks like.

Alternative to RESP

The alternative to funding an education with a RESP is to simply save and invest in one of the following ways:

  • Invest in a non-registered account.
  • Invest in a TFSA (Tax Free Savings Account).
  • Donate the contribution to your child and have it invested in their name. When the child is a minor, their usually is a tax attribution rules that come into play. Otherwise, why would we not all invest in their hands to save on taxes :)

Considering the 3 alternative options, I will now compare what the outcomes look like compared with a RESP. Some initial numbers to put everything in perspective.

  • Annual Contribution of $2,500
  • Parent Income Tax Rate @ 30%
  • Student Income Tax Rate @ 0% (Assuming no income for now)
  • Growth @ 4%
Let’s remember that the goal is to help provide funds for post-secondary education. Aside from understanding the potential cost of education many years in the future, the best you can do is make sure your money is at work.

Growth Through RESP

Below is a table showing how the contributions and CESG contributions would grow. If your child goes to a post-secondary school, the funds can all be used to help cover the expenses.

YearRESPCESGIncomeTotal
1$2,500.00$500.00$120.00$3,120.00
2$2,500.00$500.00$244.80$6,364.80
3$2,500.00$500.00$374.59$9,739.39
4$2,500.00$500.00$509.58$13,248.97
5$2,500.00$500.00$649.96$16,898.93
6$2,500.00$500.00$795.96$20,694.88
7$2,500.00$500.00$947.80$24,642.68
8$2,500.00$500.00$1,105.71$28,748.39
9$2,500.00$500.00$1,269.94$33,018.32
10$2,500.00$500.00$1,440.73$37,459.05
11$2,500.00$500.00$1,618.36$42,077.42
12$2,500.00$500.00$1,803.10$46,880.51
13$2,500.00$500.00$1,995.22$51,875.73
14$2,500.00$500.00$2,195.03$57,070.76
15$2,500.00$200.00$2,390.83$62,161.59
16$2,500.00$2,586.46$67,248.06
17$2,500.00$2,789.92$72,537.98
18$2,500.00$3,001.52$78,039.50
19$2,500.00$3,221.58$83,761.08
20$2,500.00$3,450.44$89,711.52

Growth Through TFSA

Thanks to the TFSA introduction, we now have a very powerful way to save. There is no need to think about what income bracket you will be at any point in time, you can just get your money back.

YearTFSAIncomeTotal
1$2,500.00$100.00$2,600.00
2$2,500.00$204.00$5,304.00
3$2,500.00$312.16$8,116.16
4$2,500.00$424.65$11,040.81
5$2,500.00$541.63$14,082.44
6$2,500.00$663.30$17,245.74
7$2,500.00$789.83$20,535.57
8$2,500.00$921.42$23,956.99
9$2,500.00$1,058.28$27,515.27
10$2,500.00$1,200.61$31,215.88
11$2,500.00$1,348.64$35,064.51
12$2,500.00$1,502.58$39,067.09
13$2,500.00$1,662.68$43,229.78
14$2,500.00$1,829.19$47,558.97
15$2,500.00$2,002.36$52,061.33
16$2,500.00$2,182.45$56,743.78
17$2,500.00$2,369.75$61,613.53
18$2,500.00$2,564.54$66,678.07
19$2,500.00$2,767.12$71,945.20
20$2,500.00$2,977.81$77,423.00

Growth Through Student

Giving money to your child and making it grow in their hands is often being considered by parents. The reality is that when giving money to a minor for the purpose of investing it, the income, capital gains and interest are attributable to the parent. Therefore, it’s the same as if the parent was investing. In the following scenario, I have assumed interest income on the investment and used the parent’s tax for the purpose of the table.

YearStudentIncomeTaxesTotal
1$2,500.00$100.00$20.00$2,600.00
2$2,500.00$204.00$40.80$5,263.20
3$2,500.00$310.53$62.11$8,011.62
4$2,500.00$420.46$84.09$10,847.99
5$2,500.00$533.92$106.78$13,775.13
6$2,500.00$651.01$130.20$16,795.93
7$2,500.00$771.84$154.37$19,913.40
8$2,500.00$896.54$179.31$23,130.63
9$2,500.00$1,025.23$205.05$26,450.81
10$2,500.00$1,158.03$231.61$29,877.24
11$2,500.00$1,295.09$259.02$33,413.31
12$2,500.00$1,436.53$287.31$37,062.54
13$2,500.00$1,582.50$316.50$40,828.54
14$2,500.00$1,733.14$346.63$44,715.05
15$2,500.00$1,888.60$377.72$48,725.93
16$2,500.00$2,049.04$409.81$52,865.16
17$2,500.00$2,214.61$442.92$57,136.85
18$2,500.00$2,385.47$477.09$61,545.23
19$2,500.00$2,561.81$512.36$66,094.67
20$2,500.00$2,743.79$548.76$70,789.70

RESP Withdrawal Scenarios – What If?

Now that we have looked at the income generated, it’s important to review the scenarios such as having the child go to post-secondary school or not and what the options are.

What if my child doesn’t attend school?

  • RESP Investing: The best option is to take the contributions you made back, return the grant and transfer all the accumulated income in your RRSP to avoid paying the extra 20% tax. All your contributions can then be added to your RRSP and receive the tax credit. Below are the different amounts based on what you do
    • $67,790 : Cash out, pay the tax and keep the money
    • $81,769 : Take contributions, transfer AIP to a RRSP (no 20% paid)
    • $96,769 : Transfer AIP to RRSP and add contribution to RRSP to receive the tax credit (since you maximize your RRSP by adding it back, right :))
  • TFSA Investing: Another good option if you are really torn about the complexity of a RESP. With one child, the decision can be difficult but with more than one child, just setup a family RESP eligible for all children.
    • $77,423 : Keep it as is and use it for retirement
    • $100,649 : Transfer it all to your RRSP.
  • Student Investing: This option is not the best option and it has tax consequences not always properly understood.

What if my child goes to a post-secondary institution?

I’ll keep it simple, the RESP account wins. That’s where the government incentives come in.
  • RESP Investing: $89,711
  • TFSA Investing: $77,423
  • Student Investing: $70,753

RESP Withdrawals

Withdrawing money from a RESP is something that needs to be strategic as the money in the account is organized in two ways.
  • Contributions: The contributions you have made. This money is not taxed on withdrawal.
  • Accumulated Income: The CESG and portfolio growth. This money will be taxed in the student’s income tax report.
It’s important to assess the situation when withdrawing the money and to be specific as to what money you want to withdraw from; contributions or accumulated income. This topic is worth another extended post

RESP Account Summary

It is quite enlightening when you put the numbers all down between the available options. It certainly shows what you can do with your money. We often focus on the scenarios we hope are children will pick but it’s important to understand all the scenarios, including those that don’t match our expectations as parents, since it could very much happen.

Readers: Did you investigate all the paths before starting a RESP account?

Image: FreeDigitalPhotos.net

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10 Responses to "RESP or No RESP?"

  1. jd says:

    FYI, each child can receive a maximum of $7200 CESG, so your RESP total would be somewhat lower.

    • The Passive Income Earner says:

      @jd

      Thanks for spotting that. I dragged that column down a bit fast. I’ll update the tables.

      • The Passive Income Earner says:

        @jd
        The update is complete. The total difference is about $3,000 for the RESP. $2,800 in contributions and the interest on those contributions annually.

  2. Renee says:

    I may be wrong but I believe you can only transfer the unused portion of the RESP to your RRSP if it has been open for more then 10 years. That might be an important thing to include.

    Another thing to note is I think you can carry forward 1 year of contributions and still receive the full CESG. So if you don’t open the RESP until the child is 2, you can contribute $5000 the first year and receive $1000 of grant money.

    • The Passive Income Earner says:

      @Renee

      Thanks for the comment. I am going to double check that – I appreciate your input. I am also not sure what unused portion is in your comment if you could elaborate.

  3. If you have the means to do so, wouldn’t it be best to use your TFSA as another personal savings/investment vehicle, and use your RESP for your child’s education?

    • The Passive Income Earner says:

      @popthoughts

      Thanks for your comment.

      You are absolutely right, if you can maximize all your other accounts, by all means, leverage the RESP benefits. The question some parents have is often around what happens if my child doesn’t go to school and there is a penalty for that. If you understand all the options, then you can plan much more easily. Especially since you can transfer the RESP into your RRSP to avoid the penalty.

  4. J.R.Lafrance says:

    With a RESP, you lose control of the money and that might be very important in some situations. I have had RESP for my 6 children and my 12 grandchildren. A maddening scenario is developing here. One of my daughters has split with her husband and the daughter has taken side with her father and is not talking with her mother at all. She is getting 5K of RESP payments yearly from CST and is not even uttering a thank you for it.
    My intention in setting those up was to help my daughter with her child`s education, not my granddaughter directly. Her education is 15 K. According to Ontario`s courts, it is to be divided 5K from the father 5K from the mother and 5K from the student. If I had it my way the 5K from CST would flow through my daughter and the estranged husband and the estranged daughter would each pay 5K. BUT, the court sees it as her money, so she can afford to not work in the summer and my daughter still has to pay her 5K. I have no control over it and it drives me crazy.
    I am considering cancelling all 5 remaining plans but that would entail big losses. Another option is to shift the beneficiary for her 2 remaining children to another daughter`s children and helping the separated daughter directly with other funds later. What if other separations occur!! If I was to start again, I would keep my options open and NOT take RESPs.

  5. Carrie A says:

    I have an RESP for my 6 year old and have been paying since she was born. I believe that if you are really low income or really high income there is an advantage. In my case being middle of the road, unless my income greatly increases it will not be much of an advantage because when I purchased it I was not aware that it would effect the CHILD later. What they did not explain was that when the child takes the money out it will have an impact on their income, which may disqualify them for student loans or other grants. All in all I wish I had more control over the money because I believe I can make it grow more quickly if it is more fluid. The government and banks only offer advantages because they make more off of it than you do. The same applies for RRSPs to some degree. Unless you have an amount which greatly exceeds what you would receive from government programs upon retirement you are essentially paying for your own old age pension. I take this from my Grandmother’s experience. The government encourages it because it is to their benefit. So unless you have very high income during your working years it is an advantage but for a middle to low class person it may not be the best choice.

    • @Carrie

      You should be able to have control over your RESP. My RESP is all in my control, I chose the investment just like my RRSP, TFSA and non-registered accounts.

      The numbers are really important for every family to calculate based on your goals. It’s definitely not a perfect system but in many cases, it’s setup to allow people to save and grow their investments without paying taxes. There will always be cases where extreme situations exist unfortunately. What’s important is to educate yourself on how it works which is what you are doing.

      I would not categorize financial institutions and the government in the same bucket since one exists to make a profit and one exists to regulate with the goal to maintain a minimum standard. You are correct that financial institutions will share as much as they need to sell you a product, it’s not their responsibility to look out for you, it’s your responsibility. We unfortunately place too much trust in the banks. Most employees have a very limited working knowledge outside of what they need to know to do their job. As for the government, it’s always trying to figure out a balance between taking from Paul in order to pay Peter …

      I say all this because it’s important to understand the rule of the game. It’s the game of life, and the better you understand the rules, the better you can win at it. You have made a step towards understanding the consequences of RESP for the income on a child and the same goes for RRSP taxes. There are rule of thumb advertised, but no one should be applying them blindly. It’s important to evaluate what it all means against our personal situation.

      Keep on learning and best of luck!

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