Top three tax-efficient tools for education funding

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Statistics Canada reports that an undergraduate degree costs close to $6,200, but according to a new study, 80% of parents don’t know that. Worse, most parents are poorly informed about tax-efficient ways to save, especially weak on knowledge about Registered Education Savings Plans (RESPs). Here’s a summary of education funding options available to parents, including the RESP, the Tax-Free Savings Account (TFSA), and the Registered Retirement Savings Plan (RRSP).

Tax-Free Savings Account (TFSA)

Deposits to a TFSA are made with after-tax dollars (there is no deduction for the deposit), but grow quickly because the investment income earned in them is always tax-free. The holder of the TFSA must be at least 18 years old at the time of the deposit and also must be a resident of Canada. The deposit may be made by the parents, grandparents, or anyone else who wishes to make the contribution. When the money is withdrawn, TFSA contribution room is not lost, meaning it can be replenished for other purposes, like buying a home after graduation.

By accumulating funds in a TFSA for their children, and/or starting a TFSA when their child turns 18, parents also avoid a tax liability in the future if the child doesn’t attend school. Not so for the RESP, discussed below. TFSA contributions are limited to an annual contribution room currently set at $5,500. Since inception, total TFSA contribution room has grown to $46,500, which can be topped up anytime.

Registered Education Savings Plan (RESP)

RESPs allow parents to accumulate savings for their children on a tax-deferred basis with the added bonus of government grants of up to 20% of the first $2,500 contributed by the parent. The maximum annual grant is $500, but catch-up grants of up to $1,000 are available.  The maximum contributions to the plan are $50,000 per beneficiary. For low-income families, an annual Canada Learning Bond is also available even if no contributions are made by the parents.

If the beneficiary becomes a full-time student, the funds (called Education Assistance Payments, or EAPs) are taxable to the student. But because students often have low income levels, tax payable by the student is often zero. If the beneficiary does not become a student, the grants and bonds must be repaid, and any amounts earned in the plan must be included in income of the contributor, with a 20% penalty over and above the normal tax rate (this is called an Accumulated Income Payment). However, if the contributor has RRSP contribution room, up to $50,000 may be transferred into the RRSP, resulting in deferred taxation.

RRSP Lifelong Learning Plan (LLP) withdrawals

Students who have an RRSP and are residents of Canada, may be able to withdraw funds to fund their education from their own RRSPs, on a tax-free basis under the LLP. (Note: You cannot fund your child’s education with an LLP withdrawal). The money must later be repaid, over a maximum of 10 years. The following conditions must be met to qualify for LLP withdrawals:

* The student must be enrolled full time in a designated educational institution or qualifying educational program (or has received an offer to enrol before March of the next year).

* “Full-time” means lasting three consecutive months or more and requiring 10 hours or more per week on the course or work in the program, including lectures, practical training, lab or research time, but not study time. The educational institution determines who is a full-time or part-time student.

* The qualifying educational program requirement is possible for courses taken by correspondence or for a distance education program.

* The institution may consider the student to be enrolled on a part-time basis. If this is the case, the student cannot participate in the LLP. The only exception to this rule is those who are disabled, who can attend part-time.

Students who study at certain qualifying educational institutions, such as Knowledge Bureau, may qualify for some or all of these funding options. Knowledge Bureau will consider the student to be in full-time attendance if that student enrols in a designation program which is completed in five months.

Courtesy Fundata Canada Inc. © 2016. Evelyn Jacks is president of Knowledge Bureau. This article originally appeared in the Knowledge Bureau Report. Reprinted with permission. All rights reserved.