Monday, August 20, 2012

RESP confusion

RESP - Registered Education Savings Plan.

I had a bit of a Facebook exchange recently with a fellow starving artist who is somewhat younger and hasn't had nearly as many of her hopes/dreams/ideals crushed by life just yet.  We were discussing RESPs and her first thoughts after attempting to read through all the information published by the government that the whole thing was just a scam.

This makes me so frustrated, angry, sad, and an array of feels-bad-man.jpg type emotions.  Why?  The shameful shameful lack of financial education in the curriculum in Canada and the general lack of knowledge, confusion, and lack of trust that ensues as a result.

Lets start from the beginning...  What is it?  It's an REGISTERED account that you can open at your bank AND/OR your brokerage to save and/or invest money for educational purposes.  Generally speaking it's best opened by a parent for his/her child, and like all investing, the earlier you start, the better your results will be.  Who does the account belong to?  YOU.  You are NOT giving your money to the government.  The government will give money to YOU if you qualify, or contribute some of your own.  Registered also means that the money inside the account(s) can grow tax-free.  (Rather than having to report it in your tax returns every year)  No tax = faster compounding.

The EDUCATION part is somewhat easier to understand...  The account is to be used to save/invest for post-secondary educational purposes.  (Not just tuition... room/board, books, and living expenses while the student is at school).

SAVINGS is a bit mislabelled...  It can be a savings account but more importantly it can also be a brokerage account.  So you can buy stocks, bonds, ETFs, mutual funds, and even write covered calls in the account.

PLAN is just the governments way of reminding us that it's not for now, and it has rules associated with it.  Rules such as, the plan has to be dissolved by the time your child turns 35.  So you can have this account open generating monies for educational purposes all the way through your doctoral studies.  If your child however doesn't go to school, then you have until they turn 35 to wait...  And then the rules say that you can't just cash it out.  Any government help you might have received for this account has to be returned but you can KEEP all the interest, dividends, profits you made while using their money.  Additionally, to exit the plan, you have to transfer it into your RRSP provided of course you have sufficient contribution room.  If you don't then you have to fold the plan and pay taxes on it.  Lastly, you can only contribute a maximum amount to each plan of $50,000.

NB: you as the parent are not the only person who can setup an RESP for your child.  Grammy and Grampy might do so too because they want to help provide for your child's education and they don't trust you enough with money to put it in your sticky fingers.  You will know that they might be trying to do this if they ask you for your child's social insurance number.  So if they contribute it takes away from the $50k maximum you can contribute.  (I'll now chime in and say, for probably most of my readership, hitting that limit will never be an issue)

As for the previously mentioned government help you can receive it works like this:  For most people who aren't "as-poor-as-f&#@" as my friend put it, you will be given up go $500 from the government EACH year provided you contribute $2500.  They will only do this for 7 years.  If you skip a year that's ok.  They will contribute when you do too.  All to a maximum of $3500.  (500 * 7)

So lets put this out in simple math... The government gives you an additional 20% on top of your contributions of up to $2500 per year.  YES 20% return just for opening an account and stuffing in some money.  Fat chance finding a 20% return on the money in your shoe-box or savings account.

For people who ARE "as-poor-as-f&#@" then you will qualify for the Canada Learning Bond. How do you know if you qualify?  You'll already be recieving the Universal Child Care Credit, AND the government will write you 2 times a year with RESP propaganda telling you you're elligible and will recive $500+(100*x) for the number of years since your child has been born AND you've qualified for the Universal Child Care Credit.  What is it worth?  They start you off by giving you $500 and then an additional $100 per year for up to 14 years.  So $1900 maximum.  (Provided your level of "as-poor-as-f&#@" continues for all of that time)

Here's the catch:  Most brokerages are not setup to do the CLB paperwork.  Why?  99.99999% of their clients don't qualify.  If you're really are that poor then you're probably NOT investing for your future as you have bigger choices such as heat OR groceries, or diapers OR your bus pass so you can get to work.

Additional catch: most banks will provide the necessary service to apply for the CLB, but they generally only offer savings accounts with 0.0000001% interest.

So what to do?

If you qualify for the CLB then you'll want to open two accounts.  One at the bank to capture the CLB and one at a brokerage so you can actually put money to work in a way that will beat inflation.

Once you get the CLB money, then have your bank/brokerage submit the "registered account transfer" paperwork to transfer the funds to your brokerage account.  Make sure to have them leave the account OPEN after the transfer so that the 14 years worth of $100 contributions continue to land in your hands.

So lets fast forward...  Your child is now 19 years old and on his/her way to university.  How do you get the money out?  You tell your bank/brokerage the name of the school (just part of the paperwork... nothing difficult) and then you can start making withdraws.  They are in the name of the CHILD and taxed in the hands of the child.

Since a student at university isn't working they have a taxable income of $0.00.  So any money coming out of the plan is essentially tax free. AND to top it all off, any tuition tax credits will help keep them UNDER the "base amount" on our tax returns.

So what does that mean?  ANY/ALL gains and grants/bond moneys used for school are TAX FREE.

I hope this helps some of you!

1 comment:

  1. This is a great post, you're right there is so much confusion behind RESP's. I didn't have one, thus a huge reason behind my financial situation but our 14 week old daughter does, we opened it when she was 5 weeks old. The other added confusion is opening through a bank or a not-for profit company. There needs to be more education behind this for sure. So many people don't know about the government grants either, wasted money!