Most parents are desperate to give their kids a financial advantage. They’re searching for a hack: a special account or a little-known saving or investing strategy that, if implemented early enough in life, will bolster their children’s finances.
Their worries are understandable. Millennial and Gen Z parents have experienced crushing student loan debt, unaffordable housing and sky-high inflation. They’re in the thick of it, and they don’t want their children to struggle the same way.
But the reality is that parents should focus on securing their own financial footing first, before trying to invest in ways that will benefit their children. There is a trio of wealth-building assets Canadian parents can use when building wealth for their family and the best way forward is to tap them all.
The best tool parents have at their disposal is the registered education savings plan (RESP), a tax-advantaged account they can use to invest for their child’s postsecondary education.
Here’s how it works: Parents can contribute up to $2,500 a year to the RESP until their child turns 18 and the Canadian Education Savings Grant will add another 20 per cent – up to $500 annually – of the contribution, with a lifetime maximum of $7,200. The RESP is a simple steady way to plug away at giving your child the gift of a debt-free college or university education.
Once each year’s RESP contribution is made, parents should direct any additional cash available to invest to their own investment accounts, namely the tax-free savings account (TFSA) and registered retirement savings plan (RRSP).
While some U.S. personal finance influencers promote setting up an investment account for a newborn to make them a millionaire by age 65, Canadian parents have limited tax shelters to choose from (and saving for your baby’s retirement is senseless, but that is another column for another day).
The TFSA, RRSP and RESP are the best wealth-building assets for your family, and you should make use of all of them with a preference for your own accounts above those of your child.
If your TFSA and RRSP are not maxed out, you should not be looking to open any investment accounts for your children beyond the RESP. It might seem counterintuitive to focus on your own investment accounts when every parent wants to put their child first, but you can’t create financial security for your kids if you don’t have it for yourself.
Saving in your retirement accounts is very much a “put on your own oxygen mask first” situation. Prioritizing additional investments for your children over your own might feel good in the short term, but it merely passes the buck of financial responsibility to the next generation.
Good financial planning is meant to avoid a scenario where you end up needing them to support you in retirement because you neglected your own retirement savings accounts.
A dollar invested in the stock market within an RRSP doesn’t compound any differently than one invested inside an RESP, but if you think you’ll make better financial choices than an 18-year-old, you might consider keeping the money in your account. We tend to forget that the money invested in our TFSA or RRSP will still be ours 20 or 30 years from now, at which point we can decide at that time whether we want to spend it on our children.
If you focus on maxing out your TFSA, you can always gift adult children from that account without any tax consequences. Earmark $6,000 in your TFSA for this purpose when your child is born, and by the time they turn 25, you will be able to gift them $41,000 completely tax-free, assuming an average rate of return of 8 per cent.
If their RESP paid for all or most of their postsecondary education, this cash gift can go toward travel, a house down payment or starting their own business. But the only way you’ll be able to raid your TFSA to help your kid without compromising your retirement is if you build up the account in the first place.
Padding your own bank accounts before your child’s might feel you’re like depriving them of a shot at the financial security you never had, but all you’re really doing is controlling the disbursement of your family’s future wealth.
It’s difficult to predict whether you or your children will be more in need of extra cash flow a couple of decades from now, but it’s only by prioritizing your accounts that you’ll have a say in who gets what.
Bridget Casey, MBA (Finance), is founder of Money After Graduation, a financial e-learning company. You can follow her on Instagram and Twitter at @BridgieCasey.