RESPs 101: The RESP withdrawal rules

The perks of having an RESP

The RESP was first introduced in 1974 as a tax-deferred savings vehicle for a child’s post-secondary education. While it’s typical for parents to open an RESP for their children, anyone can open one for any child, and anyone can contribute to the account. When it comes to RESPs, three key terms to know are “the subscriber” (typically the parents or a guardian), “the beneficiary” (the child), and “the provider” or “promoter,” the account-holding financial institution or professional.

The investments you can hold in an RESP are the same as those in an RRSP, such as bonds, stocks, mutual funds, guaranteed investment certificates (GICs) and cash. The difference between an RESP and other registered accounts is the ability to earn government grants on annual contributions, known as the Canada Education Savings Grant (CESG), which is worth up to $7,200. Rick Kenney, CFA, CIM, FCSI, the chief compliance officer at Embark Student Corp., says, for example: “If you contribute $1,000, you get 20%—another $200—in a grant. We term that as ‘free money’.”

This “free money” is calculated as a 20% match on annual contributions, up to a maximum of $2,500 per year (for a grant of $500)—but there is no annual contribution limit so long as it doesn’t surpass the lifetime RESP contribution limit of $50,000 per beneficiary. To get the full $7,200 in CESG, a family would need to contribute $2,500 every year for 14 years, plus $1,000 in the 15th year. 

Low-income families with one to three children earning $53,359 or less are eligible for an additional $2,000 per child through the Canada Learning Bond (CLB), whether or not they make any personal contributions. (For families with four children, the adjusted income level is $60,205, and for those with five children, it’s $67,079). Parents of more than five children can call the federal government support line to inquire about their adjusted income level: 1-800-622-6232.

The RESP withdrawal rules 

By now, you’re probably wondering, “Who can withdraw?” “How do I withdraw?” “What are the withdrawal limits?” and “What can RESP funds be spent on?” Here’s the nitty-gritty on RESP withdrawal rules. Note that RESP withdrawals are payable only to the subscriber (the person who opened the account), who can then give them to the designated beneficiary (student).

There are three forms of withdrawals:

1. Post-Secondary Education Payment (PSE): This simply returns the original contributions to the subscriber (parent or guardian), tax-free.
2. Educational Assistance Payment (EAP): This is the most beneficial withdrawal method, as it includes investment earnings, government grants and growth. However, EAPs are taxed in the student’s hands, usually when they earn too little to owe income tax in most cases—or they pay very little.
3. Accumulated Income Payment (AIP): AIP, used when a child is not enrolled (and doesn’t intend to enroll) in a post-secondary program, refers to the interest or growth from the RESP not used by the beneficiary as an Educational Assistance Payment (EAP). AIPs are typically paid to the subscriber and are subject to income tax of the subscriber plus an additional 20% (or 12% for those in Quebec). 

To avoid this tax burden, it’s recommended that subscribers withdraw EAPs first, and online tools are available to help. The remaining investment growth that is not used as EAP becomes an AIP and is taxed at the subscriber’s marginal tax rate.

For example, if your parents contributed $2,500 annually for 10 years, they’d have contributed $25,000. With government grants and investment growth, let’s estimate that your RESP might have grown to $40,000. When you attend university, your parents can withdraw the initial $25,000 (PSE) tax-free. The remaining $15,000 (EAP) is considered the student’s income and taxed accordingly. If any of the $15,000 remains unused after graduation, it becomes an AIP and is taxed in the parent’s hands.