Planning Opportunities with RESP's

Tax Deferral on Savings and Tax Free Income

This rather obvious advantage bears repeating to clients. The old saying that: "A dollar of tax deferred is as good as a dollar of tax saved" really has the most significance in an RESP. The point being that the dollar of tax payable on the earnings in the plan is not payable until maybe 25 years later by which time the dollar has grown to 2, 3, or 4 dollars. It is like using other people's money as in leveraged investing. The old saying above could be better reworded, as "A dollar of tax deferred in a RESP is as good as a dollar of tax never paid." The reason being is that in most every case I have seen, the student never pays any income tax. For example, a student would receive a basic personal exemption of $7,412,00 per year, plus a resident in Ontario would receive $205.00 per month of full time education (similar in most provinces) as another tax credit. If the student went to school for 9 months (205. credit x 9 months = 1,845.) and worked 40 hours a week for the other 3 months (13x40=520 hours), he or she would have to earn in excess of $17.80 per hour (9,257. / 520) for the entire period, before they would become taxable. Not too many students are fortunate enough to land a summer job, which is that lucrative. This does not even take into account other tax deductions the student may be eligible for.

R.E.S.P. Now R.R.S.P. Later

With careful planning and the right timing, the same money can be used twice. As the beneficiary will likely be ready for post secondary education before their parents reach retirement, the contributions made to the RESP have the potential to fund two savings goals. You are allowed to carry forward unused RRSP room acquired since 1991. If grants have been received for the beneficiary any withdrawal of contributions (capital) will be considered to be a withdrawal of the CESG first. So care must be taken to time the withdrawal of the subscriber's contributions so as to not trigger repayment of the grant. However, it should be kept in mind that if the grant needs to be repaid, it has been an interest free loan from the government. The earnings remain in the plan and accrue to the benefit of the beneficiary. Earnings not used for education can be transferred from an RESP to an RRSP up to 50,000.00, if they have the RRSP room. There are a few conditions, the RESP must have been going for ten years or more and none of the beneficiaries are pursuing post secondary education by the age of 21. It is important to time the transfer properly as a 20% penalty tax applies to earnings withdrawn that are not offset by RRSP room. This is in addition to the taxable income for the earnings withdrawal.

Income From Leveraged Investments

Funds borrowed to purchase a RESP are of course not deductible, which is the same rule that applies to RRSP's. However, if a person takes out a loan which is used to purchase investments it is then tax deductible. The client could then use the income from that investment to purchase an RESP each year without affecting the deductibility of the investment loan interest expense. This indirectly makes the cost of the RESP deductible. The client need only be concerned with servicing the leveraged investment loan, and then those investments will service the RESP. Kind of like double dipping.

Take a Course on Basket Weaving, or Anything, even Cut Classes

The government's definition of a post-secondary educational institution is very broad and allows a lot of flexibility for withdrawing the earnings in the plan in the hands of the beneficiary. The definition is an educational institution in Canada offering a course at the post-secondary level in which the beneficiary is enrolled in for 10 hours a week of work lasting at least three consecutive weeks. So even a simple computer, or decorating course at your local college would qualify the beneficiary to receive the earnings as long as it is 10 hours a week for 3 weeks. For an educational institution outside of Canada the requirement is that the course last at least thirteen consecutive weeks. So, you could go to University of Hawaii and enroll in the Surfing Course as long as it was a 13-week programme. There is a further easing of requirements if the beneficiary has a disability.The government's definition of a post-secondary educational institution is very broad and allows a lot of flexibility for withdrawing the earnings in the plan in the hands of the beneficiary. The definition is an educational institution in Canada offering a course at the post-secondary level in which the beneficiary is enrolled in for 10 hours a week of work lasting at least three consecutive weeks. So even a simple computer, or decorating course at your local college would qualify the beneficiary to receive the earnings as long as it is 10 hours a week for 3 weeks. For an educational institution outside of Canada the requirement is that the course last at least thirteen consecutive weeks. So, you could go to University of Hawaii and enroll in the Surfing Course as long as it was a 13-week programme. There is a further easing of requirements if the beneficiary has a disability.

Now here comes the best part:

1. You do not have to attend class.
2. Correspondence courses qualify
3. If you don't pass that doesn't matter either. Unlike pooled plans in that regard.
4. Some universities and colleges waive the tuition fee for certain individuals. The most common being people over 65, which could be used on an individual RESP

So even the spinster/bachelor should have an RESP to go to school when she, or he retires on the tax sheltered funds they accumulated during their working years. I don't mean to suggest an abuse of the rules, only to illustrate the flexibility of the program, especially for those who wish to continue their education after retirement from work.

Nursing Home Capital Storage Vehicle or "Realistic Elderly Sheltering Plan."

Commonly known as a Registered Education Savings Plan. They are probably better understood in this context if named the "Realistic Elderly Sheltering Plan". RESP plans have a great deal of appeal for Grandparents. It is a wonderful place to store capital and tax shelter it, if there is a concern that additional funds may be required in the future, if they end up needing nursing home care. For a Grandparent with 10 Grandchildren they can shelter $40,000 per year. At that rate a large amount of capital can be taken out of taxable circulation in a short number of years. I have found that the Grandparents take more interest in the performance and management of the Grandchildren's Education Fund than they do their other investments. The Grandparents control the capital, which can be withdrawn at any time without tax consequences should the capital, be required. The plan can and should have multiple beneficiaries. The earnings are taxed only in the hands of the beneficiary and only when withdrawn and not to the Grandparents. They find it to be a great place for gifts at Christmas, birthdays and other special events such as making the honour roll. Their will can deal with the capital in the plan at their death, or direct the capital to remain in the education plan. As the capital withdrawn is not income, there is no T4 slip and it therefore does not affect any entitlement they might have for assistance from the government for health support services and other income related benefits.

Start An RESP - Do Not Apply For Any Grants

When an RESP is used primarily for its tax sheltering advantages it could sometimes be more advantageous to not claim the CESG grant. In a situation where the parents, or the other grandparents are already getting the maximum grant allowed it becomes very attractive to have a family plan and not claim the grant for any of the beneficiaries. This can also be the case if the Grandparents may need the capital before the Grandchildren reach college. Also, if the purpose of the tax sheltering is to allow for the capital to be withdrawn latter to fund an RRSP, or to provide capital for a nursing home. In these cases there is more flexibility in not claiming any grants and enjoy the tax sheltering with the opportunity to withdraw the capital at any time.

Estate Planning Opportunities

The subscriber, as owner of the contributions owns a testamentary asset that they can deal with in their wills. In the process of reviewing the clients financial plan it should be determined if they desire to continue contributions for the beneficiaries, from their estate assets. If so, their wills will need to be changed to reflect their wishes that contributions be continued for the beneficiaries. Some Grandparents are not too interested in giving more money to their children, but would love a way to give more to their Grandchildren but fear they will squander the funds even if received at age 19. Or, they may worry that even the parents may use the moneys unwisely. The RESP is then a perfect vehicle where the estate of the Grandparents can continue to deposit capital to the RESP knowing that the funds cannot be used until their executor allows it. At that time the earnings can be used for their normal purpose of funding education and the executor can use the capital to add to the education funding, or use it for some other bequest as laid out in the will document. Most, but not all financial institutions allow for joint subscribers (JtWROS) on a new plan. In this case the surviving joint subscriber would receive the ownership of the trust capital without probate of the estate.

Record Keeping Service for your Clients

Although this may not seem to be a planning opportunity, it is in fact. I have found that the financial institutions do a poor job of keeping track of contributions and grants on family plans. In many cases the allocation of contributions is without logic even when the advisor has sent written allocation instructions. In some cases the grant has been received twice. Providing a proper record keeping service to the client is greatly appreciated by them. It makes you stand out from the crowd and holds the client to you. We provide our clients with a breakdown and summary of their RESP plan. These reports show how the contributions were allocated amongst the beneficiaries in past years. Of even more interest to them is how the current market value of the plan assets are allocated to each beneficiary. As different beneficiaries enter the plan at different ages and contributions will vary depending on the subscriber's motivation, it is important to provide some reconciliation of the contributions. The entitlement to funds is determined by the percentage of contributions for each beneficiary as it bears to the total market value of the plan. In other words if John Jr. has received 30 percent of the contributions to date, he is entitled to 30 % of the plans current assets. Our Financial Planning Spreadsheet © product has samples of these reports. You can click here to view the sample report Allotments and Entitlements which helps to understand the concept.

Many subscribers in an effort to keep it simple will make a separate RESP for each child, which could cause problems if the beneficiary does not pursue a post secondary education. Beneficiaries can be changed subject to the same restrictions as apply to the original subscriber and plans can be amalgamated, again subject to some restrictions. The safest bet is to have all of the related beneficiaries under one plan for the maximum flexibility. If necessary the earnings and grants can, if necessary be used in whole, or in part by any one of the beneficiaries.

Summary

From the examples above you can see that having an RESP can and should be one of your recommendations for every client's financial plan. If you do not make your client(s) aware of the planning opportunities you could be leaving yourself open to someone else telling them.

I feel like I should apologize for such a lengthy article, but it is such an important planning tool. I hope you will find the information helpful in your practice.

Copyright – www.money-software.com

About the Author

Peter F. Baigent CFP, CLU, CHFC, RFP. is a Past President of the Canadian Association of Financial Planners for British Columbia, a former Director of the Canadian Association of Financial Planners. He has spoken across Canada on financial planning matters and has taught courses for the Chartered Financial Consultants & Certified Financial Planners degrees. He is the founder of Money Minders Software which produces financial planning software.

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