Yes, I know there’s still more than a month to go before school resumes. But with the cost of a postsecondary education – and everything else – soaring, it’s never too early to start thinking about how you’ll be paying for all those classes, meal plans, textbooks and electronics your student will be needing.
That’s where registered education savings plans come in. My column last week highlighting the mistakes financial institutions make when processing RESP withdrawals struck a chord with readers.
Some shared their own harrowing RESP withdrawal tales. Others asked for help navigating the maze of regulations and restrictions governing these plans. Today, in the hope of making the process as painless as possible, I’ll answer some of their questions.
You advised your reader to obtain a proof of enrolment from his child’s university. How does one go about getting this?
Postsecondary institutions typically make PDFs of this and other official documents available for download online, so have your child log into his or her student account and look for “proof of enrolment,” “enrolment verification letter” or something similar. Some universities provide the letter for free, while others charge a small fee. If you are unable to obtain a letter online, contact the university’s registrar.
Providing proof of enrolment to your financial institution is critical when tapping your RESP. Without it, you won’t be able to make an educational assistance payment (EAP) withdrawal, which consists of grants and investment income and is taxed in the student’s hands. If you are requesting a withdrawal of your RESP contributions, I still recommend that you provide proof of enrolment so that the financial institution doesn’t mistakenly return Canada Education Savings Grants (CESG) to the government, as happened to a reader whose story I featured last week.
Is it better to withdraw EAPs or contributions first?
Generally, it is advantageous to withdraw EAPs first, ideally when the student has little or no other income. Thanks to the tuition tax credit for students and basic personal amount available to all taxpayers, many students face little or no income tax on EAPs. Your goal should be to exhaust the grants and investment earnings by the time the child graduates.
The last thing you want is to leave a chunk of unused grants and earnings in the RESP after the child finishes school. In such cases, any remaining grants will have to be repaid and the withdrawal of the investment earnings – called an accumulated income payment (AIP) – will be taxable to the RESP subscriber who set up the account. The subscriber must also pay an additional tax of 20 per cent on the AIP withdrawal.
(Note: The subscriber can defer the income tax – and avoid the additional 20-per-cent penalty – by transferring up to $50,000 of the AIP into a registered retirement savings plan, but only if sufficient RRSP contribution room is available. The subscriber can also make an EAP withdrawal for up to six months after the student has stopped going to school, but it may not be wise to wait that long given that the beneficiary may be working full-time and in a higher tax bracket.)
What restrictions are there on EAP withdrawals?
Until recently, the maximum EAP in the first 13 weeks of full-time enrolment was $5,000. However, the 2023 federal budget increased the amount to $8,000 (or $4,000 for part-time students). After 13 weeks, there are no hard limits on EAP withdrawals, although the Canada Revenue Agency could theoretically ask for proof of education-related expenses to justify withdrawals that exceed the government’s inflation-indexed “annual EAP threshold limit,” which is $26,860 for 2023.
You alluded to a “formula financial institutions use to calculate the percentage of earnings vs. CESG in an EAP.” What is the formula exactly?
In its most basic form, the formula dictates that the ratio of investment earnings to CESG in an EAP withdrawal will be the same as the ratio in the RESP as a whole. For example, if you request an EAP of $10,000 from an RESP that contains $20,000 of earnings and $5,000 of grants, the EAP will consist of $8,000 of earnings and $2,000 of grants – matching the four-to-one ratio in the account. In unusual situations, such as when an RESP has no accumulated income, a different formula is used.
If you have a family RESP – in which CESG can be shared among beneficiaries – you need to be especially careful when making EAP withdrawals to prevent any beneficiary from exceeding the CESG limit of $7,200 per person. For example, if one child has already received $7,000 of CESG, you can ask the financial institution to adjust the formula to make sure no more than $200 of additional CESG is included in an EAP for that beneficiary. If a beneficiary goes over the limit, the excess CESG will have to be repaid to the government.
I opened individual RESPs and contributed the maximum of $50,000 for each of my five granddaughters. However, they have since moved with their families to the United States, and the chances of them returning to Canada are very remote. All five granddaughters, who are aged eight to 12, plan to attend university in the U.S. What are my options for their RESPs?
Unfortunately, now that your granddaughters have left Canada and have no plans to return, most of the benefits of having an RESP will be lost. They can request an EAP when they enroll in a U.S. university, but because they are no longer residents of Canada, the CESG will have to be returned to the government. What’s more, the RESP’s investment income will be subject to non-resident withholding tax (generally 25 per cent) in Canada, and there may be U.S. tax implications as well. (Note: Such restrictions do not apply if the beneficiary is studying abroad temporarily but remains a Canadian resident.)
The good news is that you can withdraw all or part of your contributions tax-free at any time – you’ve already paid tax on your RESP contributions, after all, unlike the tax-deferred funds in a registered retirement savings plan – but any associated grants will be forfeited. Speak to a tax professional for advice regarding your specific situation.
E-mail your questions to jheinzl@globeandmail.com. I’m not able to respond personally to e-mails but I choose certain questions to answer in my column.
John Heinzl