My wife and I made it a priority to set up an RESP for our daughter just a few weeks after she was born. As new parents with little free time we weren’t sure where to go and what type of account to set up. To complicate matters, we were bombarded with pamphlets and brochures promoting group RESPs and scholarship trusts.
We found the best advice was to open a self-directed RESP at our bank and to set up the account as a family plan, rather than an individual plan. That’s because we knew we wanted to have two children, and with a family plan parents have the ability to name more than one beneficiary.
The account was easy to open and set-up our monthly contributions. We just had to bring our social insurance numbers, as well as the social insurance number for our newborn to name her a beneficiary.
Why set up an RESP early?
We wanted to set up an RESP right away, even though we could only afford small monthly contributions at the time. Here’s why:
- Tax-free growth – Even though your child may be 18 years (or more) away from attending post-secondary school, small contributions can add up quickly. Setting aside just $50 a month for 18 years with an annual return of 4 percent will add up to more than $15,000 by the time your child is ready for post-secondary.
- Canadian Education Savings Grant (CESG) – The government contributes 20 cents for every dollar that you contribute to your RESP (up to $500 per year) through a program called the Canadian Education Savings Grant. Where else can you get guaranteed 20 percent return on your investment? When you include the CESG with the example listed above, the total adds up to approximately $20,000.
We felt it was important to just get the RESP open and start early with whatever contributions we could afford. For two years, that amounted to just $50 per month. But as our budget allowed it, we bumped up our contributions to $100 per month, and now, after our second daughter was born, we contribute $150 per month for each child.
There’s a lifetime contribution limit of $50,000 per beneficiary, however outside of receiving a large inheritance there is little point contributing more than $2,500 per year – which is the amount needed to maximize the CESG grant.
Is there time to catch up?
RESP rules state that you can catch up one year of contributions each year in order to take advantage of the grant. For example, if you haven’t contributed for the first five years, in each of the following five years you can double your maximum contributions (assuming you have the money), so you could put in $5,000 and get $1,000 worth of grants and use up your unused contribution room.
What you can’t do is contribute $20,000 in one year to try and get the grants from the previous five years. Once your child reaches the age of 10 then you start to run out of time if you want to catch up and max out the grants.
How to invest inside your RESP:
The simplest and cheapest way to put your RESP contributions to work is by purchasing a GIC or term deposit through your bank. Rates are low, but remember you’re already getting a 20 percent return on your investment through the CESG grant.
We’re willing to accept a bit more risk in hopes for greater returns by investing about 75 percent in equities and 25 percent in fixed income.
We chose the TD e-Series family of index funds; contributing equal amounts to each of the Canadian index fund, U.S. index fund, International index fund, and Canadian bond fund. Here’s what that looks like:
|Canadian Equity||TD Canadian Index – e (TDB900)||25%||MER – 0.33|
|US Equity||TD US Index – e (TDB902)||25%||MER – 0.35|
|International Equity||TD International Index – e (TDB911)||25%||MER – 0.50|
|Canadian Bonds||TD Canadian Bond Index – e (TDB909)||25%||MER – 0.51|
The total cost of this portfolio is 0.42 percent, which is a fraction of the cost of a typical bank mutual fund. As my children get older, I’ll dial down the risk by increasing the allocation to fixed income. So when my oldest child turns 10 or 12, the allocation might look like this:
- Canadian equity – 20 percent
- U.S. equity – 20 percent
- International equity – 20 percent
- Canadian Bonds – 40 percent
By the time my children are a year or two away from attending post-secondary, I hope to have their entire RESP portfolio invested in fixed income guaranteed products in order to protect their college fund from an inopportune stock-market meltdown.
RESPs are not rocket science, but they’re definitely a step above the RRSP and TFSA in terms of complexity – especially in the withdrawal phase.
If you’re looking for more information on how RESP accounts work and how to set up an RESP, check out The RESP Book by Mike Holman. This book is very useful for parents, no matter what stage they are at with RESPs.