Risks & returns of RESP investments

Registered Education Savings Plans lose value in Canada's declining stock market

Students with Registered Education Savings Plans invested in stocks face greater potential for loss, says Louis Gagnon, associate professor at Queen’s School of Business.
Students with Registered Education Savings Plans invested in stocks face greater potential for loss, says Louis Gagnon, associate professor at Queen’s School of Business.
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Lauren Witterick ended the summer with an eye on her investments. When the Toronto Stock Exchange wavered in August, she watched her Registered Education Savings Plan (RESP) dwindle.

“It’s always a worry that money won’t come in on time to pay tuition,” Witterick, ArtSci ’14, said. “It changed by a couple hundred dollars in two or three days.” RESPs are a Canadian government savings program allowing families to invest money into a tax-free fund to support a child’s post-secondary education. The amount the federal government contributes to RESPs is based on the investment put into it by the providers.

The government may also give additional grants such as the Canada Education Savings Grant (CESG), a 20 per cent government grant added to the RESP for the first $2,500 each year.

A provider can only receive the yearly grant until the beneficiary is 17, but contributors can continue to deposit money in the RESP for the rest of their lives.

Witterick chose to invest her RESP in a mutual fund.

“As of right now, it’s more knowing the money’s there and that everything’s okay,” Witterick said. “But we’ve had close calls.”

Investing RESPs in stocks can be a risky decision in the current market, said School of Business associate professor Louis Gagnon.

“We are going through an extremely volatile period in the financial market,” he said.

The Globe and Mail reported that Toronto Stock Exchange (TSX) stocks dropped 91.67 points in the past week, while Dow Jones took a hit of 108.08.

Points in the stock market are a representation of overall increase or decline in publicly traded stocks.

“Students have real needs for this cash in the near future and can’t take the risk,” Gagnon said.

Gagnon said migrating an RESP to a high interest savings account or a Guaranteed Investment Certificate (GIC) ensures money will be available whenever a student needs it. If a student’s RESP was started at birth, it would have time to gather financial return in the 17 to 20 years before they begin post-secondary education. Gagnon said the nature of RESPs make it difficult to compensate for losses which occur during this time.

“Brokers tell people that in the long-run you tend to be compensated for risk so stay invested in the market,” he said. “But risk is risk and when you need your cash you might need it exactly when the market tanks.”

Statistics Canada reported that Canadian tuition fees went up four per cent last year from an average of $4,942 to $5,138.

“We can’t rely on the stock market to rise with tuition fees,” Gagnon said. “Parents who want to send their children to school are going to have to make greater sacrifices than ever before,” he said.

Many people choose to invest RESPs into mutual funds because the compilation of stocks they encompass are already selected by portfolio managers, Gagnon said.

In 1999, 41 per cent of Canadians with post-secondary education savings used RESPs. According to Statistics Canada, the percentage rose to 55 per cent in 2002 and 69 per cent in 2008.

Professor Daniel Thornton from the School of Business opened an RESP for his new-born grandson last week.

“It’s a way of saving for future costs of a child’s education,” Thornton said. “The RESP itself is not an investment. It’s just a vehicle for holding investments, so you can have safe investments or grow stocks in there.

“The key feature is that once you make the investment, any of the returns between now and when the child needs the money are completely tax-free.”

A provider, usually a parent or guardian, can contribute up to $50,000 for a beneficiary. Thornton said the tax-free shelter of the RESP is its largest benefit.

“If you were to save by yourself outside of the tax-free savings account, you would have to pay tax on the interest, dividends or capital gains that were realized inside your investment account,” he said.

There are two types of RESPs: Individual Beneficiary Plans and Family Beneficiary Plans chosen based on the number of kids the plan will support.

The Family Beneficiary Plan can save for any of the children within a family, Thornton said.

“That’s helpful if you think it’s risky that perhaps one of the children would not be able to attend post-secondary school,” he said.

If a child doesn’t go to post-secondary school, and there are no other children left to benefit from the RESP, the money would have to be withdrawn and taxed.

“Not only that, I would be slapped with a 20 per cent penalty tax to make up for the fact that during those 17 years, everything was earning interests, dividends and capital gains tax-free,” Thornton said. “So I would have to pay the government back for the privilege of having all those tax-free savings.”

— With files from Terra-Ann Arnone

Terms of investment

Beneficiary
• Student who will receive the
RESP funds.

Providers
• Contributor to the RESP
(usually a parent, guardian or
family member).

Mutual funds
• A collection of investments
compiled by a bank’s
portfolio manager.

Interest
• Money earned from a
financial institution when
investing money.

Family Beneficiary Plan
• RESP for families with one
beneficiary or more.

Individual Beneficiary Plan

• RESP contributed to by a
person unrelated to the
beneficiary.

Canada Education Savings
Grant (CESG)

• A sum of money granted by
the Canadian government
to RESP beneficiaries 17-years
old and under.

Commodities
• Products which are
traded publicly.

Guaranteed Investment
Certificates (GICs)

• Bonds guaranteed to return
the initial investment.

Portfolio manager

• The person who chooses
stocks to be included in a
mutual fund.

Capital gains
• Money earned from selling
shares of a stock.

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