Clients with young children are more eager than ever to set aside money for their children’s post-secondary education. Often, however, these clients become confused about their options when it comes to fitting education savings into their overall financial plans.

As a financial advisor, you can show such clients how to take advantage of the various government-supported education saving programs and use other saving strategies to help build, over time, a significant education nest egg.

Front and centre in almost any education savings strategy is getting an early start on a registered education savings plan, the program through which the federal government offers grants and tax shelters to help make the post-secondary funding pot grow.

Some advisors and tax-planning experts think starting an RESP should be every client’s No. 1 saving priority.

“I recommend that parents put any excess cash, after expenses, into an RESP — even before contributing to an RRSP or a tax-free savings account, to get the grant,” says Jamie Golombek, managing director of tax and estate planning with Toronto-based Canadian Imperial Bank of Commerce’s private wealth-management division. “The opportunity to get [the grant] is something no one should give up. The government is giving you free money.”

The RESP program may get most of the attention, but there are other viable ways to save for college or university — strategies your clients may be surprised and grateful to hear about.

> Setting Goals

The first step is to establish targets, taking into consideration a variety of factors, including the number of years expected until the child begins his or her post-secondary education and the future cost of tuition.

Tuition fee increases generally outpace the rate of inflation. According to Statistics Canada, the average tuition cost for one year of study for a full-time undergraduate degree program in 2010-11 was $5,138, up by 4% from the previous year and up by 16.8% from four years ago.

Another tricky part of education planning is trying to anticipate the stream of education the child might pursue, or how many years of schooling he or she might need. That is impossible to predict when the child is in diapers, but as he or she grows older, a clearer picture could emerge. A child who appears interested in attending a trade school, for example, will represent a less expensive potential educational cost burden than a child more likely to head for law school. In the latter case, the costs can easily skyrocket if the child decides to attend university outside Canada.

“It’s the children who want to go to Harvard [who make it] really difficult for the parents to prepare,” says Myron Knodel, director of tax and estate planning with Investors Group Inc. in Winnipeg.

For most parents, however, saving for education is more a function of how much money can be carved out of an existing, often already tight budget.

“Most of the time, it comes down to what money [clients] have to save,” says Mark Neufeld, a financial advisor with Rogers Group Financial Advisors Ltd. in Vancouver. “I might run the projections and tell parents they need to save, say, $4,500 a year. But very few clients can commit those kinds of dollars.”

But goals are far more manageable when approached as a monthly payment. In most cases, even very modest contributions can add up substantially over time, depending on how early your clients start on their education savings plan. Almost all of Neufeld’s clients who use RESPs contribute to them monthly. “It’s the most practical way to build a routine of saving,” he says.



RESPs

Most new parents are aware that RESPs exist, but they might not have a clear idea about how these work. As a financial advisor, one of your first tasks will be to walk your client through the benefits of the plans.

A subscriber, usually a parent, opens an RESP with a financial institution on behalf of a beneficiary — the child. There are self-directed RESPs, which come in two types: individual, for which the subscriber names one beneficiary; and family plans, for which the subscriber names two or more beneficiaries who are related to the subscriber by blood or adoption.

There also are group or pooled RESPs, in which the contributions of many subscribers are pooled and invested on behalf of the group, with payments being made to listed beneficiaries when they enrol in a qualifying post-secondary institution.

The subscriber makes contributions to the plan, but unlike RRSP contributions, the client can’t deduct RESP contributions from his or her taxable income. The contribution portion of RESPs always comes out of the plan tax-free, regardless of whether that money is ultimately paid to the beneficiary or back to the subscriber. Income and growth earned on the contributions and grants are sheltered from taxes while in the plan. The subscriber always retains full control of the plan throughout its life and determines when the money is to be paid out.

The government bolsters your client’s contributions with the Canada education savings grant — 20% of each year’s contribution, up to $500 per year. Unused contribution room may be carried forward, but the maximum grant in that scenario for any one year is $1,000. The lifetime RESP contribution room for any one beneficiary is $50,000; the maximum CESG money that can be granted per beneficiary over the life of an RESP is $7,200.

An enhanced CESG rate is available for lower-income families. For the 2011 tax year, families with net income of more than $41,544 but less than $83,088 will receive the CESG at a rate of 30% on the first $500 of their RESP contributions, and the usual 20% on the next $2,000. Families with less than $41,544 in net income will receive the CESG at a rate of 40% on the first $500, then 20% on the next $2,000.

Alberta and Quebec also offer additional grants for RESPs, based on conditions such as residency and income.

The combined contributions, grants and income generated in any RESP appreciate tax-free as the beneficiary approaches the time he or she will attend a qualifying educational institution.

When the beneficiary-child enrolls in a post-secondary program, income from the plan, in the form of education assistance payments, can be paid out to the child as taxable income. In most cases, the child, who usually has little or no other income and who is eligible to claim various educational tax credits to boot, will end up paying no taxes on that income.@page_break@At this point, your client also can choose to give part of the contribution portion of the RESP to the child, to leave contributions in the plan or even take contributions back, free of taxes.

Advisors with experience in managing RESPs say the earlier that clients open and contribute to an RESP, the better, as income in the plan compounds and grows tax-free. If your clients can contribute a lump sum early on, they can certainly do so; but it’s advisable not to contribute so much in one year that they lose the opportunity to obtain all the CESG money available.

If your clients delay too long in starting to contribute to RESPs, they may lose the opportunity to earn the full $7,200 in grant money available. If a parent hasn’t started to contribute to an RESP by the year in which the intended beneficiary turns 15 years of age, the plan is no longer eligible to receive the CESG.

Often, grandparents will contact their financial advisors to open an RESP on behalf of grandchildren.

Although it’s possible to have two or more RESPs for the same child, the amount of the CESG available is limited to $500 per year per child. Most advisors prefer that grandparents work with the parents on a common education savings strategy for the child, with the parents at the centre of that strategy.

“As nice as it may be for a grandparent — or, indeed, any other person — to attempt to save for the sake of a child, it’s probably best to co-ordinate with the parents,” says Doug Carroll, vice president of tax and estate planning with Invesco Canada Ltd. in Toronto. “You could end up with duplication of effort, money put into unneeded structures or conflicting investment portfolios.”

Rules governing which investments qualify for an RESP are similar to those for an RRSP — most securities and investment products are eligible. Most advisors who manage RESPs recommend that clients place RESP money in growth-oriented investments early on in the life of the plan, when the child is many years away from needing the money, then shift into more conservative investments as the time for college or university nears.

Careful monitoring of asset allocation is key, Golombek says. If, for example, the bulk of the money in an RESP is invested in equities just before the time the funds are needed for school, a sharp market correction could lower the value of the investments in the plan, with no time left in which to recover.

Your clients cannot make contributions to an RESP after the end of the year in which the plan has its 31st anniversary; further, the plan must be closed by the end of the year that represents its 35th anniversary. These dates may be extended in cases in which the beneficiary is entitled to the disability tax credit in the 32nd year of the plan.

If the beneficiary of an RESP chooses to bypass post-secondary education, it may be possible to substitute another beneficiary, but the rules vary for individual plans and family plans. If none of the intended beneficiaries of an RESP is enrolled in a qualified program by the age of 21 and if the RESP has existed for 10 years, then the subscriber can choose to transfer up to $50,000 in RESP income into his or her RRSP — if contribution room exists — or receive the income and be subject to a 20% tax on that amount in addition to regular income taxes.

Withdrawals should be managed strategically and with cash-flow needs in mind. Golombek suggests that withdrawals for the beneficiary should come from income and the grant portion first, with the contribution portion left until later.

“You can always get your contributions out,” Golombek says, “and they always come out tax-free, and to the subscriber.”



> Other Strategies

For your clients who have maximized the CESG benefits available by contributing to an RESP, alternatives exist for education saving.

One is the informal “in trust” account, which your client can set up with a financial institution. Funds in this account can be invested on behalf of a beneficiary. Your client, who would be the trustee of the account, has no right to the funds in the trust; but when the beneficiary reaches the age of majority, that child will have full claim to the money in the account.

Income on money invested within the trust is taxable in the hands of the contributor or trustee, but the capital gains are taxed in the hands of the beneficiary, who is likely to have little tax liability on the gain due to low income. Money in such trusts is usually placed in investments that avoid generating income.

For clients with larger sums to set aside for education — for example, $50,000 or more — you might recommend a formal trust. Although more costly to set up, a formal trust allows your client, as the contributor, to exert more control, including setting limits as to when and how much money can be withdrawn.

Clients who own shares in a family business have another tax-efficient education-saving option. The clients would arrange for their child to own a certain class of shares of the company. When the child turns 18, the corporation will pay dividends on that class of shares. The child will have to report those dividends on his or her tax return, but again, will probably not have to pay taxes.

“In this way,” Knodel says, “you can remove money from the corporation to finance a child’s education in a very tax-efficient manner.”

Some clients might consider using a TFSA of their own as another way to save for a child’s education, informally earmarking the money for that purpose.

Alternatively, the child can open his or her own TFSA upon reaching the age of majority, taking advantage of the flexibility these accounts offer. A client who was contributing yearly to an RESP could shift to contributing to his or her child’s TFSA when that child is eligible to open such an account.

“With RESPs, your client’s entitlement to CESGs ends in the year the child turns 18,” Carroll says. “Just as a matter of family finances, clients could say: ‘I’ve already set aside money in my budget on a year-to-year basis for putting money into an RESP. Now that my child is 18, why don’t I just put the money into my child’s TFSA?’”

Once the parent gives a child money to contribute to a TFSA, it will be that child’s money to use as he or she likes. IE