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INVESTING IN ACHILD’S EDUCATION
YOUR GUIDE TO SAVING FOR
A CHILD’S POST-SECONDARY EDUCATION
Member of Royal Bank Financial Group®
® Registered trade-mark of Royal Bank of Canada
F U L L Y R E V I S E D A N D U P D A T E DIncludes information on how to take advantage
of the new Canada Education Savings Grant
7851
(07/
2000
)
one
THE IMPORTANCE OFHIGHER EDUCATION
In a survey commissioned by Royal Trust of morethan 500 wealthy Canadians, more than two-thirds of the respondents credited education as one of the keys to their success. It ranked
second only to “willingness to work hard.” When asked
what advice they would give to others seeking financial
success, their number one response was: “Get as much
education as possible.”
It should come as no surprise that
these people had reaped the
benefits of their own
advice: 86 per cent of
them had received
some form of
post-secondary
education.
“Get as
much
educat ion
as poss ible .”
dd
WHAT ARE YOUR EDUCATIONAL
SAVINGS OPTIONS?
REGISTERED EDUCATIONSAVINGS PLANS
page six
SELF-DIRECTED RESPS
page sixteen
NON-REGISTEREDEDUCATION SAVINGS
page twenty two
TRUSTS
page twenty nine
LIFE INSURANCE
page thirty nine
OPTIONS AT-A-GLANCE
page forty four
Readers are advised that the material contained in this booklet isintended solely for information purposes and should not be used as asubstitute for consultation with a legal, tax or financial services professional. The information contained herein is based on sourceswhich Royal Mutual Funds Inc. (“RMFI”) believes to be reliable, but isnot guaranteed to be accurate, and does not purport to be a completestatement or summary of the available data. Any opinions expressedare subject to change without notice. The unitholders, directors, officersand employees of RMFI are not responsible for errors or omissions.
THE RISING COSTS OFEDUCATION
In the past 10 years, tuition fees at Canadiancolleges and universities have more than doubledand the trend is not expected to improve any timesoon.
Government cutbacks are escalating. With their subsidies
shrinking, schools are being forced to develop alternative
funding strategies. Unfortunately, tuition hikes are often
seen as the answer. At several Canadian universities, for
example, annual tuition fees for MBA programs are
approaching $20,000.
As well, there is a growing trend toward charging higher fees
for more popular programs, such as computer science,
business, and engineering.
Unfortunately, tuition costs are only part of the problem.
Accommodation, living expenses, books, activity fees and the
like will also continue to hit
students right in the
pocket-book.
Education has always opened doors. And our society’s
growing reliance on technology is fuelling an unprecedented
demand for skilled workers with advanced education and
specialized training.
The most recent figures from Statistics Canada report that
from 1990 to 1997, there were 1,833,000 new jobs created
for post-secondary graduates. During that same period, the
number of jobs for those without higher education fell by
1,058,000.
Approximately 41 per cent of Canadian jobs were held by
individuals with post-secondary credentials in 1990, and as
the decade drew to a close the number had grown to over
52 per cent. Meanwhile, those without high school
diplomas saw their share of the job market fall to only 18
per cent.
In fact, young people without high school diplomas are 2.4
times more likely to be unemployed than post-secondary
graduates.
As a final incentive, consider that post-secondary
graduates have higher earnings than high school grads.
Average salaries are significantly higher for those who are
graduates of colleges and universities according to 1995*
census figures.
LEVEL OF EDUCATION AVERAGE SALARY
Grades 9-13 but without a diploma $18,639
Grades 9-13 with a diploma $22,846
Less than university degree $25,838
University degree $42,054
*latest figures available from Statistics Canada
two
d W
three
Until recently, it was thought that the full cost of a four-year
undergraduate degree at a Canadian university would hit
$100,000 in about 15 years. But with the blistering pace of
both cutbacks and tuition hikes, six-digit tuition fees may be
much closer than anyone had previously imagined.
Even more disturbing, the Canadian Federation of Students
estimates that current university graduates will leave school
with $25,000 in outstanding loans. How much more could it
be for the next generation of graduates?
WHAT IS ANEDUCATION SAVINGS PLAN?
With individuals facing increasingly higher costsfor post-secondary education, the answer is aformal plan to save and invest. What are yourchoices? In a nutshell, an education savings planis any type of savings plan earmarked to fund apost-secondary education. It can be as simple as asavings account, or as complex asa portfolio of stocks andbonds.
AW
four five
Six-digi t tui t ion
fees may be c loser
than anyone had
previously imagined.
The government recognizes the importance of education,
and its own limitations in providing affordable education to
Canadians. To alleviate some of the burden, the government
offers a tax incentive to encourage families and students to
save for post-secondary education on their own.
If you wish to take advantage of special tax rules, you can
accumulate these savings in a Registered Education Savings
Plan (RESP). An RESP enables you to defer or postpone the
tax on any investment income that your plan generates.
Although contributions are not tax-deductible, any earnings
generated by your plan are permitted to grow on a tax-
deferred basis. (For full details, see the section on RESPs
later in this Guide.)
As well, under the recently-announced Canada Education
Savings Grant (CESG) program, the government will match
20% of contributions to a maximum annual grant of $400
per beneficiary.
Of course, RESPs are not the only way to save for future
education goals. You can always put money aside for the
benefit of your child using a variety of other approaches
and investments.
WHAT ARE YOUR EDUCATIONSAVINGS OPTIONS?
There are many ways to save towards futureeducation costs, and each has its own set ofadvantages and disadvantages. Some offerconsiderable long-term growth potential; withothers, security is a key benefit.
This section will review the different choices available for
your education savings program. These are:
• Registered Education Savings Plans
(self-directed and pooled trust)
• Non-registered education savings
• Trusts (formal and informal
“in trust”)
• Life insurance
As you review each of these investment
options, you’ll want to keep your own
objectives and expectations in mind. Is
deferring taxes more important than flexibility? What kind of
growth rate do you hope to achieve? How much are you
willing to spend in fees and expenses? And what will you do
if the beneficiary decides not to pursue higher education?
REGISTERED EDUCATIONSAVINGS PLANS
An RESP is a savings vehicle to which youcontribute money over a period of time. The money
in the plan is intended to help your beneficiary finance a
post-secondary education at a qualifying institution.
The types of investments you can hold vary according to the
type of RESP you select. With some RESPs, your money is
pooled with that of other participants and invested on your
behalf. With others, such as a self-directed RESP, you can
select your own investments from the company’s mutual
funds or other investment choices.
six
A
HOW AN RESP WORKS
Although RESP features and investment options differ widely
from company to company, the overall Federal laws
governing them are the same. Below is a brief overview of
the main rules:
• You choose the beneficiary when you set up the plan. It
can be anyone, including your children, grandchildren,
nieces, nephews, or family friends. Beneficiaries of a
“family RESP” must be related to you by blood or
adoption, and be under 21 years at the time designated
as beneficairy
• You can invest up to $4,000 per beneficiary, per calendar
year, up to a lifetime maximum of $42,000 per child.
• Once you start contributing, all of your capital appreciation,
including interest, capital gains, and dividends, is allowed
to grow on a tax-deferred basis.
• Contributions themselves are not tax-deductible (as they
are with a Registered Retirement Savings Plan), but your
money is allowed to accumulate without any income tax
liability, until the beneficiary enrolls in a qualifying post-
secondary program and begins to receive “educational
assistance payments.”
• Most plans permit that, at any time, all of the principal you
contributed into the plan can be returned to you (less any
fees or charges). As this is simply a return of the money you
contributed, which you were already taxed on, you don’t
have to pay any additional income tax on it.
• Most plans permit accumulated growth to be withdrawn,
subject to conditions, by you or transferred to your RRSP or
a spousal RRSP, should beneficiaries not pursue higher
education.
• Since January 1, 1998, RESP contributions are eligible for
the government’s new Canada Education Savings Grant
(CESG). For more details on this, see the section “How the
CESG Works” on page 13.
seven
U
nine
When the Beneficiary is Ready for Post-Secondary School
• When the beneficiary is enrolled full-time in a qualifying
post-secondary program, you can direct the plan’s accumu-
lated earnings, including any grant money received, to be
distributed as educational assistance payments (EAP) to,
or on behalf of, the student.
• An EAP can also be paid to a student not in full-time
enrollment where the student has a mental or physical
impairment and medical documentation that states that
the effects of the impairment are such that full-time
enrollment is unreasonable.
• In most cases, the EAPs are spread out over the number
of years the student expects to be enrolled. All of the
money distributed in this way is taxed in the student’s
hands. In most cases, the student’s income level and
eligible tax credits will mean that little, if any, income tax
will be payable.
• The amount of an EAP can be limited to $5000 in certain
cases, such as during the first 13 weeks of enrollment.
• Your actual contributions to the plan can be withdrawn as
a refund of payments, tax-free, and either returned to you
or directed to the student to assist them with their
educational costs.
If the Beneficiary Does Not Go On to Further Studies
If your original beneficiary decides not to pursue higher
education, you may have several options available, depending
on the type of RESP you have:
eight
U U1. Share with other beneficiaries
With some plans, the accumulated earnings can be
distributed as EAP among the other beneficiaries of a
family plan if a particular beneficiary does not go on to
post-secondary school.
2.Designate another beneficiary
Some plans will let you select another eligible beneficiary to
receive the proceeds. However, if the plan has received grant
money through the CESG program, changing beneficiaries
could trigger a repayment of the remaining grant pool to
the government.
3.Withdraw your contributions
Most plans permit a tax-free withdrawal of all the money
you contributed to the plan. However, a withdrawal of
contributed funds that is not used for educational
purposes, may trigger a CESG repayment from the RESP to
the government equal to 20% of the withdrawal. Any
growth generated by the repaid grant would remain in the
plan. In addition, withdrawal of unassisted contributions
may result in temporary suspension from the CESG program
until the end of the second following year and loss of
grant contribution room for those two subsequent years.
I f your original benef ic iary decides
not to pursue higher educat ion,
you may have several opt ions .
WHICH SCHOOLS QUALIFY?
As a condition of investing in an RESP, the student must use
EAPs from the plan to attend a “qualifying educational
program” at a qualifying “post-secondary educational
institution.”
The definition of a qualifying school depends on the terms
of the plan. In some cases, only colleges and universities are
recognized. With other plans, a qualifying school is more
broadly defined to include:
a) Designated educational institutions:
• all Canadian universities and colleges;
• Canadian educational institutions designated by the
Federal government or a provincial
government; and
b) all Canadian educational
institutions that are certified
by the Ministry of Human
Resources Development,
such as trade schools and
technical institutes; and
c) most universities, colleges
or educational institutions
outside Canada provided the
student beneficiary is enrolled in
a post-secondary level course of at
least 13 weeks.
With non-registered investment plans, there are no restric-
tions on how the money can be used, and no limits on the
types of institutions the student can attend.
eleven
4.Withdraw your growth
You may be able to access the RESP’s accumulated growth
(excluding grant money), either by withdrawing it in cash
or by transferring it to an RRSP.
• Generally, to take advantage of these options, the RESP
must have been in effect for at least 10 years, and the
beneficiary must have reached age 21 and be ineligible to
receive educational assistance payments.
• The cash withdrawal of accumulated growth will be
subject to income tax in the year it is withdrawn, along
with an additional 20% penalty.
• If you have allowable RRSP contribution room, you can
transfer up to $50,000 from the RESP into your RRSP or a
spousal RRSP as a regular RRSP contribution. The amount
transferred into an RRSP in this manner will not be subject
to income tax or the 20% penalty. Any grant pool still
remaining in the RESP must be repaid to the government.
5.Donate the money to an educational institution
You also have the option of directing the plan’s accumu-
lated growth to a “designated educational institution”. In
this case, you will still be able to withdraw your contribu-
tions (less fees and expenses), but you will forfeit the
plan’s accumulated growth and remaining grant pool.
Please remember that this brief overview does not take into
account the many special rules governing such matters as
death, marriage breakdown, relationship requirements, grant
limitations and restrictions, transfers, beneficiary changes, etc.
These rules are complex. Your tax, financial, or legal advisors
can help you determine how they may affect your RESP.
ten
U U
HOW THE CESG WORKS
RESP contributions made after January 1, 1998 are eligible for the government’s new CanadaEducation Savings Grant (CESG).
Under the CESG program, annual RESP contributions of up
to $2,000 qualify for government assistance up to the end
of the year that the plan’s beneficiary turns 17 years old. The
government will match 20% of your contributions to a max-
imum annual grant of $400 ($2,000 x 20%) per beneficiary.
Even if you do not make an RESP contribution in a given
year, the RESP beneficiary still earns $2,000 of “grant-
eligible” annual contribution room each year – even during
those years prior to becoming an RESP beneficiary. In other
words, all children, whether they already have RESPs or not,
will begin accumulating grant contribution room from the
later of January 1, 1998 and year of birth.
Any unused “grant-eligible” contribution room can
be carried forward to produce a maximum annual
grant of up to $800, per beneficiary, in any
given year (assuming there have been $4,000
in contributions and carry forward grant room
of at least $2000 that year).
The maximum cumulative grant over the life
of the RESP is $7,200 ($400 x 18 years).
thirteen
RESP CONTRIBUTION LIMITS
You are permitted to contribute up to $4,000 perbeneficiary, per year, to an RESP. The lifetimemaximum per beneficiary is $42,000.
These limits apply to the beneficiary, not to the contributor.
You can invest in as many RESPs as you like, as long as the
total contribution amounts per beneficiary, from all contrib-
utors, does not exceed the maximum limits. Should the
maximum limits be exceeded, a Revenue Canada penalty will
be incurred by the contributor(s).
To be eligible for any given year, contributions must be
made between January 1 and December 31. There are no
carry-forward provisions for RESP contibutions.
With more flexible plans, you can invest in the RESP at any
time for up to 22 years (year plan opened + 21 years). After
that, no further contributions can be made. Although
the plan is closed to new contributions, it can
remain open for up to 26 years (year plan
opened + 25 years).
At that time, if all of the capital appreciation
in the plan has not been paid to the student
beneficiary, it may be taken in cash, rolled
into an RRSP or spousal RRSP or paid to the
designated educational institution of your
choice. Your options will depend on the type
of RESP you have.
twelve
U U
Annual RESP contr ibut ions
of up to $2,000 qual i fy
for government ass is tance.
HOW TO CAPITALIZE
ON THE NEW RESP GRANT
The introduction of the Canada Education Savings Grant
(CESG) makes RESPs a compelling way to save for future
education goals. However, if you want to take advantage of
the CESG program, the child must be:
• a resident of Canada
• a beneficiary of a RESP
• have a Social Insurance Number (SIN)
• under the age of 18 throughout the year in which a
contribution is made (subject to special rules for 16 and
17 year olds).
fifteen
Although the grant is generally available up to the end of
the year the beneficiary turns 17, there are special rules for
beneficiaries for the years they turn 16 and 17. In these cases,
the grant will be awarded only if there have been RESP con-
tributions of at least $100 per year in any four years before
the year of turning 16, or the plan’s cumulative contributions
total at least $2,000 before the year of turning 16.
The CESG does not reduce your annual contribution limit to
an RESP. For example, you could invest the maximum $4,000
annual contribution and still receive up to $800 of grant.
As well, with more flexible “self-directed” RESPs, you have
full control over how the grant money is invested.
One caveat with the CESG is that if you withdraw any of your
original contributions before the plan matures, you may trig-
ger a CESG repayment or suspension from the CESG program.
Therefore, it’s usually best to defer such a withdrawal until
after the last education assistance payment has been made.
Other CESG repayment transactions include:
• plan termination or payment to a DEI
• education payment to a non-beneficiary
• the entire plan is transferred to a new plan unless:
a) at least one beneficiary becomes a beneficiary of the
new plan; or
b) a beneficiary is the sibling of a beneficiary under age
21 of the new plan
• a partial transfer of a plan
fourteen
UU
The CESG does not reduce your
annual contr ibut ion l imit to an RESP.
The introduct ion
of the CESG
makes RESPs a
compel l ing way
to save for future
educat ion goals .
ADVANTAGES OF A SELF-DIRECTED RESP
• Contributions are eligible for the CESG.
• Combines the growth potential of mutual funds and other
investments with the tax-deferred earnings of an RESP.
Although investments must be Qualified Investments (i.e. same
as for RRSPs and RRIFs), there is a wide selection available.
• Unlike an RRSP, there are no foreign-content limitations on
your RESP accounts. You are free to take full advantage of
international investment opportunities.
• Usually has very flexible rules for beneficiary designation.
If the plan’s original beneficiary chooses not to go on to
higher education, you can name another beneficiary, or
even use the money yourself if you attend a qualifying
program at a qualifying school.
• If you contribute through a pre-authorized investment
plan, you can invest with as little as $25 a month.
• You retain full control over how your money is invested.
• Mutual fund investments are generally easy to redeem.
This means you can adjust your holdings as you see fit.
IMPORTANT POINTS TO CONSIDER
• The RESP’s accumulated growth and CESG may be
forfeited if principal is withdrawn early, or the child does
not pursue post-secondary education.
• To get the most from your investments, your portfolio
needs regular monitoring, review and possible adjustment
to ensure it meets your objectives.
• Some plans require an initial deposit of $500 or more to
open the account.
• Depending on the underlying investments in the plan your
capital may not be guaranteed.
• Funds must be used for the purpose of assisting in
financing the child’s post-secondary education.
seventeen
SELF-DIRECTED RESPS
“Self-directed” may sound more intimidating thanit really is. A self-directed RESP is simply anaccount, governed by RESP rules and restrictions,over which you have investment control. Theseaccounts are offered by a number of financialinstitutions and investment companies.
Most of these self-directed accounts enable you to choose
from investment options offered by that company. The self-
directed features will allow you to enjoy the investment
potential of mutual funds, for example, in addition to the
tax-deferral benefits of an RESP.
o o
sixteen
government-guaranteed, such as Treasury
bills and government bonds. So returns
on these investments tend to be
conservative.
Number of participatingstudents. The more students
who are sharing in the interest
pool, the fewer dollars there
will be for each individual.
Generally, there is a separate
pool established for each
calendar year. Your pool is
determined by the year in
which you establish your
RESP.
Subscribers who stopcontributing. If subscribers
stop investing in their plans before
maturity, or the beneficiary doesn’t go
on to higher education, the contributions
will likely be returned to the subscriber and the
earnings forfeit, leaving more money in the pool available
for the other participants.
nineteen
OUR ADVICE
The flexibility, tax advantages, and growth potential of this
option make it one of the better choices for your education
savings. You will benefit even more if you have the
discipline to maintain a regular savings program. (Setting
up a pre-authorized investment plan can help with this).
POOLED TRUST PLANS
Pooled trust plans are offered by severalCanadian “scholarship trust” companies. They are
perhaps the best known of the registered educational
savings vehicles.
When you subscribe to one of these plans, you agree to buy
a certain number of shares (called units), and to pay for
them over a specified period of time. The company then
combines the money from its subscribers, and invests it for
them in very secure fixed-income investments.
When your beneficiary enters a qualified post-secondary
school, the money you contributed (less fees and adminis-
tration charges) is returned to you with the intention that it
will be used to pay for the first year of school.
When the student enters second year, the interest payouts
begin (called “scholarships” by these firms). Your benefi-
ciary’s share of the pool is determined by the number of
units you purchased. The value of those units is determined
by several factors, including:
Interest rates. By law, all of the plan’s investments must
be held in debt securities that are either insured or
eighteen
V V
The more s tudents who are sharing
in the Interest pool , the fewer dol lars
there wil l be for each individual .
children under the age of 13; contributions cannot be
made after the child’s eighteenth birthday; and scholar-
ships must be used before age 21. For example, if you
enroll a six-year-old child, you have only 12 years in which
to contribute.
• Flexibility is often a problem. Not all schools are
recognized by all plans. Some place severe restrictions on
changing the plan’s beneficiary. There are some plans with
better flexibility, but they come with higher fees and lower
scholarships.
• Some plans will not allow you to transfer the scholarships
to another student if the person for whom the plan was
originally intended does not go on to post-secondary
school. In addition, withdrawal or transfer to an RRSP of
plan growth may not be permitted. In these cases, all of
the plan’s earnings will be forfeit.
OUR ADVICE
If you might not otherwise have the discipline to maintain
a long-term savings program, or if you cannot afford the
minimum monthly investment required by other plans, a
pooled trust plan could be an appropriate choice.
If you are interested in one of these plans, shop around.
Fees and flexibility can vary considerably. Read the
Declaration of Trust carefully; you may also want to seek
professional legal advice to fully understand it.
twenty one
ADVANTAGES OF POOLED TRUST PLANS
• Contributions are eligible for the CESG program.
• Investments held in these plans are very secure. There is
little chance of losing your principal.
• Because it’s a formal RESP, the money grows on a tax-
deferred basis. In other words, there is no immediate
income tax bite on your earnings.
• Contribution minimums are very low, in some cases you
can invest with as little as $10 a month.
• They provide young people with a strong incentive to
attend post-secondary school.
IMPORTANT POINTS TO CONSIDER
• The plan’s investment portfolio consists solely of cash and
fixed income securities. These provide only modest long-
term growth and may not always keep pace with inflation.
• Payouts are governed by factors you cannot control,
including the number of other students participating in
your pool (or dropping out of it).
• Up-front fees are relatively high. In most cases, enrollment
fees come off the top, like the front-end load on a mutual
fund. They can be as high as $200 per unit.
• There are no “partial” scholarship payouts. If you stop
investing at any point before your plan matures, you may
receive only your principal, less any fees or penalties. If
you also forfeit growth, all of your interest goes into the
pool for the rest of the beneficiaries.
• With most plans, student must continue their studies
uninterrupted. If they leave school before graduation, or
take off a year or two, payouts may cease.
• Pooled plans are designed exclusively for young children.
In most cases, enrollment of the beneficiary is restricted to
V V
Some plans wil l not al low you to transfer
the scholarships to another s tudent .
twenty
YOUR NON-REGISTERED
INVESTMENT ACCOUNT OPTIONS
Just about any investment can be used as a vehicle to fund
post-secondary education, including bank accounts, term
deposits, Guaranteed Investment Certificates (GICs), stocks
and mutual funds. Of course, some of these investments
provide considerable growth potential, while others are
known for their secure but more limited returns.
If you are not registering your investments in a formal RESP,
you can hold virtually any security you want. And down the
road, you can use the money in any way you wish.
When considering an investment for a non-registered edu-
cation savings plan, be sure to consider its growth potential,
liquidity (how quickly it can be converted into cash, in case
of an emergency), convenience, security and tax treatment.
For example, a stamp collection might have tremendous
growth potential, but could be difficult to sell for fair value
at tuition time.
BANK ACCOUNTS
Bank accounts pay minimal interest.
As well, because of their high
liquidity (the accessibility of
the money), contributors
may be tempted to dip
into their savings. In
reality, there are many
better options available
for long-term savings.
twenty three
NON-REGISTEREDEDUCATION SAVINGS
Suppose you want more flexibility than RESPsoffer. In that case, you can save and invest in anon-registered account.
The drawback is that non-registered investment accounts
don’t offer the same tax-deferral benefits of formal RESPs
nor can you take advantage of the CESG program. Any
income and realized net capital gains on investments
outside an RESP will be subject to applicable income tax in
the year that it is earned, sometimes in the hands of the
contributor and sometimes in the hands of the beneficiary.
Unrealized capital gains (losses) are tax-deferred until
realized by a disposal of the related asset(s) which can be
deferred for years.
Without the restrictions of a formal plan, you can put money
aside in any investment you like — bank accounts, GICs,
mutual funds, stocks, bonds, and more.
Non-registered investment accounts give you greater control
and flexibility with how the money is used. And there is no
forfeiture of account growth if the plan’s intended beneficiary
does not attend a qualifying post-secondary school.
Full details on your non-registered investment account
options, their tax implications, and suitability for education
savings are covered in the next section.
twenty two
VV
Some parents like to purchase shares of “kid-friendly”
companies, such as Disney or Mattel, for their children. A
portfolio made up only of these kinds of securities may lack
the diversification necessary for the best long-term potential.
MUTUAL FUNDS
Growth-oriented mutual funds offer most investors the
opportunity to keep pace with inflation, tuition hikes, and
investment markets.
With a time horizon of seven to 10 years or more, equity-
based funds can be a wise choice during the early years.
As the student progresses through high school, holdings can
be shifted to focus on more conservative funds to preserve
the capital that has been accumulated.
twenty fivetwenty four
Use your bank account as a place to deposit the money you
plan to invest in your education savings plan. Then set up
your plan so that a pre-authorized amount is deducted from
the bank account each month.
GUARANTEED INVESTMENT CERTIFICATES
These term investments are sometimes used for education
savings because people are familiar with them and because
they are secure. However, they can lack the liquidity and
growth potential of other investments.
CANADA SAVINGS BONDS
For years, parents and grandparents have used Canada
Savings Bonds to help put their young scholars through
school. Because CSBs have high liquidity, are issued by the
Government of Canada and can be purchased through
payroll deduction, CSBs are popular with many Canadian
investors. And they do let you know exactly how much your
investment will be worth over a given period of time.
But like GICs, they are unlikely to provide the long-term
growth potential you will need to keep pace with rising
tuition fees and inflation.
STOCKS (EQUITIES)
These can be a good option for investors with the time and
confidence to manage a portfolio of stocks. However, for
most investors, it’s difficult to ensure proper diversification,
and to stay up to date with the prospects for each stock.
Active trading can also be costly.
V V
I t ’s d i f f icul t to ensure
proper divers i f icat ion.
ADVANTAGES OF
NON-REGISTERED EDUCATION SAVINGS
• Ability to invest in a variety of securities, some of which
may not be available within a particular formal RESP,
including GICs, Canada Savings Bonds, and mutual funds.
• The amount you can invest has no limit placed on it.
• There are no constraints on how the money can be invested
or spent.
• If invested in your name, you retain full control over the
money.
IMPORTANT POINTS TO CONSIDER
• Investments are not eligible for the CESG program.
• There is no tax deferral on the plan’s earnings, and
realized net capital gains.
• All of the earnings will be taxed in your hands; however,
depending on the arrangement and/or income attribution
rules applicable, second-generation income may be
taxable in the child’s hands, along with the realized net
capital gains.
• Depending on the investment, your capital may not be
guaranteed.
OUR ADVICE
Other than your RRSP, your educational savings program is
probably the biggest and longest-term savings commit-
ment you will make. This means that your time horizon is
appropriate for growth-oriented options such as equities.
Along with their built-in diversification, liquidity, and
convenience, equity-based mutual funds provide most
investors with their best opportunity for long-term growth.
HOW YOU CAN HOLD THESE INVESTMENTS
Non-registered investments earmarked for your educational
savings program can be held in your name or “in trust” for
the child. Each option presents different ownership, control
and tax consequences.
If the investments are held in your name, all of the income
earned on them will be taxed in your hands in the year
it is earned. As well, you retain ownership of the investments
for life. If you don’t want to give it to your teenager to back-
pack across Europe, you don’t have to.
Alternatively, investments that are held “in trust” for the
child under 18 years old, may offer certain income-splitting
opportunities. If the “in-trust” account is constituted and
recognized as a trust, all first generation income earned by
the investments is attributed to the contributor, while second
generation income (income earned on income) and realized
net capital gains can be taxed in the hands of the benefi-
ciary. On January 1st of the year the child turns 18, income
is no longer attributed to the contributor. At that point, all
further earnings will be taxed in the child’s name. Once the
beneficiary reaches the age of majority, you may lose control
over the “in-trust” account. (See section on Informal “In
Trust” Accounts).
twenty six
V V
Income
attr ibut ion wil l
cease at age 18.
twenty seven
TRUSTS
Trusts are legal arrangements that can determinehow assets (such as your investments) areinvested, administered and distributed. When itcomes to education savings, there are three trustoptions to consider: A formal living trust (inter-vivos trust), an informal “in trust” arrangement,and a pooled trust plan.
INTER VIVOS TRUSTS
One important option is an inter vivos trust, also called a
living trust. This is a formal trust arrangement in which you,
the settlor, transfer the legal title of assets or contribute
cash to a trust with instructions to one or more trustees as
to how the property is to be used for the benefit of the
trust’s beneficiary. You can establish a living trust for the
benefit of anyone, including your children, grandchildren,
nieces, nephews, or family friends.
Many types of assets can be held in a living trust, assuming
the trust agreement permits, including cash, bank accounts,
real estate, stocks and bonds, and shares in your business.
Keep in mind that although many assets are eligible for inclu-
sion, some are more appropriate to your education savings
goals than others. Moreover, the 1999 federal budget intro-
duced measures to discourage minors from earning income
from a family business or private corporation.
You can establish a living trust by creating and signing
a trust agreement, usually prepared by a lawyer or notary,
and transferring ownership of the designated assets to the
trustee of the trust. You can choose to retain control over
the assets by naming yourself as one of the “trustees”, but
twenty nine
INVESTING FORINTERNATIONAL BENEFITS
Diversification is one of the keys to successfulinvesting. International growth funds offer youyet another way to diversify your educationsavings, by investing outside Canada.
Today, specialty mutual funds have been created to cover
virtually every region of the globe, from superpower
economies like the U.S., to Europe and the so-called emerg-
ing markets. These mutual funds give Canadian investors the
opportunity to diversify their holdings internationally, and
capitalize on the growth potential in other countries. At the
same time, they can offer a hedge against fluctuations in the
Canadian dollar.
International funds invest in securities denominated in many
currencies. This gives investors the opportunity to benefit
from currency exchange movements. Not only can this help
reduce volatility caused by swings in any one currency,
including our own, it can also help to improve returns.
As part of a balanced portfolio, international funds can
potentially help reduce volatility while enhancing the long-
term performance of your portfolio.
u g
With an irrevocable
l iv ing trust , you cannot
change or cancel the
terms of the trust .
The trust can be non-discretionary or discretionary. If it is
non-discretionary, the trustee is directed when to pay out
income, and the capital as set out in the trust agreement. If
it is discretionary, the trustee makes some or all of these
decisions. This allows you to arrange for the beneficiary to
receive a regular income from the trust’s assets over a given
period of time. This can be an advantage while the student
is in school, or in providing a controlled amount of income
should the beneficiary choose not to go to school.
thirty one
you will lose some of the potential tax advantages.
Alternatively, you could name two or three co-trustees.
You can make the trust revocable or irrevocable. With a
revocable living trust, you can change your mind at any time
and take back some or all of the trust’s assets. This flexibili-
ty does, however, have a cost in that all income and capital
gains of the trust will be included in your income for tax
purposes as if the trust never existed. That could be a cost-
ly consequence over time.
With an irrevocable living trust, you cannot change or cancel
the terms of the trust. You give up your right of ownership
when the assets are transferred into the trust. In return, you
can achieve some tax advantages. Any income or
capital gains generated that are not paid (or
payable) out of the trust are taxed within
the trust each year. Any income that
is so allocated will be taxed to
the beneficiary, if the benefi-
ciary is 18 years of age or
older. If the beneficiary is
under age 18, first
generation interest
and dividends paid
to a minor will be
taxed in your hands.
All second generation
interest and dividend
income (income earned
on income) and realized
net capital gains allocated
to a minor will not be
attributed back to you.
thirty
g g
thirty two
OUR ADVICE
If you have substantial wealth, or highly complex finances,
a living trust might be a good choice. Otherwise, you
might be better served with one of the other educational
savings options.
thirty three
ADVANTAGES OF A LIVING TRUST
• No contribution limits.
• No age limits for the contributor or the beneficiary.
• If the investments held in the trust are aimed primarily at
generating capital gains, this can provide an excellent
income-splitting opportunity provided the trust agreement
is properly drafted.
• If investments generate income, good income-splitting
opportunities can exist for second generation income.
• If you already have specific assets you want to use to fund
your child’s education, this can be a good option.
IMPORTANT POINTS TO CONSIDER
• First generation dividend or interest income generated and
paid (or payable) to a beneficiary will be taxed back to
you if the beneficiary is under 18 years old.
• There is a deemed disposition of the assets every 21 years
which requires advance consideration.
• Income not allocated to a beneficiary is taxed in the trust
at the top marginal tax rate.
• There may be tax consequences to you when you transfer
certain assets to the trust.
• Investments are not eligible for the CESG program.
• Formal trusts can be complex. Professional advice is
essential to ensure the trust meets your objectives and
the benefits outweigh the costs.
gg
Profess ional
advice is
essent ial to
ensure the
trust meets
your object ives
and the benef i ts
outweigh the costs .
Revenue Canada may treat the “in-trust” account as a trust
for the benefit of the beneficiary, although no T3 Trust
Return will be required, and allow some income-splitting
opportunities, provided:
• the trustee, the property and the beneficiary are clearly
identified. An account set up with the “trustee’s name” in
trust for “the beneficiary’s name”, which holds specific
investments, should meet this requirement.
• the account is operated as a trust for the beneficiary,
meaning that the money in the account is used only for
the benefit of the child.
• the person who contributes to the account (the “settlor”)
is different from the person who makes the investment
decisions for the account (the “trustee”), and
• the settlor can support their intention to create a trust. In
the absence of a formal written document that spells out
the terms of the trust, the best way to demonstrate an
intention to create a trust is to set up and operate the
account as discussed above.
Although this approach does not give you
the tax-deferral advantages of a formal
RESP, it does provide some income-
splitting opportunities with a minor
under age 18. Any realized net capital
gains earned on investments held in trust
for a minor can be taxed in the minor’s
hands. In other words, if you invest in
capital-gains producing investments, you
should be able to effectively transfer much of the
tax liability for those earnings to your child (or any related
or “non-arm’s length” minor under age 18) who will likely be
in a lower tax bracket.
thirty five
INFORMAL “IN-TRUST” ACCOUNTS
You can designate just about any investment “intrust” for your child by opening an account andwriting “in trust for” and the beneficiary’s nameon the investment application form.
There are two possible situations where an “in trust”
account may be considered; each has different legal and tax
implications:
1. Money belonging to the child - An Agency Relationship
A parent, grandparent or guardian can set up an account
“in- trust for” a child to manage money that the child has
received as a gift from an unrelated party (deals at arm’s
length with the minor), through inheritance, or from Child
Tax Benefit payments. The money belongs to the child but
the investment decisions are made by the adult until the
beneficiary reaches the age of majority. In this situation, the
account is established with the child’s Social Insurance
Number and all investment earnings can be taxed in the
minor’s hands.
Where the source of money is a gift from a related party to
a non-arm’s length minor, the income attribution rules will
apply as described below.
2. Money to be used for the benefit of a child
- A Trust Relationship
If a parent, grandparent, guardian or other related party
wants to set money aside for the benefit of a child, invest-
ments registered “in trust for” the child may offer certain tax
advantages.
These benefits will be realized if the “in-trust” account is
constituted and recognized as a trust.
thirty four
g g
ADVANTAGES OF
“IN-TRUST” ACCOUNTS FOR MINORS
• No contribution limits.
• No deadline on when the money must be used.
• No restrictions on how the money can be used providing
it is for the benefit of the beneficiary.
• Any realized net capital gains earned by the investments
can be taxed in the minor’s hands, usually with little or no
tax payable.
• Similarly, second-generation income will generally be
taxable in the minor’s hands.
• If you choose your investments carefully, you can minimize
any interest and dividend income (since first generation
income will attribute back to the contributor). Equity
funds, particularly those specializing in shares of growth
companies, don’t usually generate significant interest or
dividend income.
IMPORTANT POINTS TO CONSIDER
• If the person who contributes to the account and the
person who makes the investment decisions for the
account are the same person, the income splitting
advantages associated with the arrangement may be lost.
• First generation income is taxable in your hands.
• You may eventually have to relinquish control over the funds.
• You cannot use the funds for the benefit of anyone but the
beneficiary, or all income and capital gains will be taxed
in your hands.
• Depending on the interpretation of the rules at the
financial institution where you have invested, control over
the investments may transfer to the beneficiary when they
reach the age of majority. The money may not be used in
the manner you had intended.
All first generation dividend and interest income is attributed
to the settlor who contributes the money to the “in-trust”
account.
Second generation income (ie. income earned on income) is
generally not attributed to the settlor and is taxed in the
hands of the child; this can result in a significant income-
splitting opportunity after several years of reinvestment.
On January 1 of the year the beneficiary turns 18 attribution
to the settlor will cease and any future income and capital
gains will be taxed in the beneficiary’s hands. The attribution
rules will also cease on death of the settlor, or where either
the settlor or beneficiary becomes a non-resident of Canada.
Regardless of the type of “in-trust” arrangement, many
financial institutions will only take instructions from you, the
client, and never the beneficiary — even after the beneficiary
has reached the age of majority.
If the beneficiary has reached the age of majority, and you
deny the beneficiary access to the “in-trust” account, he or
she can ask the courts to grant it. If the court orders a distri-
bution to the beneficiary, you will lose control over the
account and its assets, Furthermore, there could be potential
legal complications over the ownership of the account’s
assets, if you or the beneficiary dies.
Whether tax slips use the SIN number or the trustee or
beneficiary, it is the trustee’s responsibility to ensure that
the income attribution rules are correctly applied.
Different financial institutions have different interpretations
of the rules that govern “in-trust” accounts. Check with your
financial institution and legal and tax advisors before you
invest.
thirty six
g g
thirty seven
LIFE INSURANCE
Most life insurance companies offer at least onecash-value life insurance plan that’s available toparents as an educational savings plan for theirchildren.
These insurance plans combine life insurance on the child’s
life with a savings or investment component. A portion of
each premium dollar goes to pay for the life insurance and
a portion is invested on the child’s behalf for the future.
A full range of investment choices
Your cash-value may be based on the performance of the
insurance company’s fixed-income investments. Or, you can
choose how you want to invest your savings, usually from a
selection of the company’s guaranteed interest accounts,
index-linked accounts (linked to the performance of a stock
market indicator such as the TSE), or segregated funds
(similar to mutual funds).
These life insurance plans cannot be registered with
Revenue Canada as an RESP, but they do
offer their own tax-deferral benefits,
similar to your RESP.
thirty nine
• In cases where the informal “in-trust” arrangement is not
considered a formal trust, family problems could arise if
the beneficiary goes to court to order a distribution of the
assets in the account.
• Some investments, may not be an eligible investment within
a trust, unless authorized by the trust legislation in your
province. Therefore the beneficiary of an informal trust may
have the right to go to court to recover any losses resulting
from unauthorized investments made by the trustee.
• Investments are not eligible for the CESG program.
• Informal trust arrangements lack the certainty provided by
a written trust document and therefore may be open to a
different interpretation by Revenue Canada or the benefi-
ciary than you had intended. Uncertainty can be reduced
by using a Declaration of Trust signed by the settlor.
• The rules relating to informal trusts can be complex and
may change over time. Professional advice is essential to
ensure the account meets your objectives.
OUR ADVICE
Depending on your circumstances, an informal “in-trust”
arrangement may be a good option for those who have
already maximized their RESP contributions or those who
are uncomfortable with the restrictions of a formal RESP.
If you receive a windfall or inheritance that exceeds the
RESP contribution limit and its size does not justify the
expense involved in setting up a formal trust, an informal
“in-trust” arrangement could be a good way to share the
wealth with your children or grandchildren.
The person who gives property to an informal trust should
not be the person who controls the in-trust account.
Otherwise, income and capital gains may be attributed back
to the settlor even after the beneficiary reaches age 18.
thirty eight
g
ADVANTAGES OF LIFE INSURANCE
FOR EDUCATIONAL SAVINGS
• Virtually no limits on the amount you can invest, subject
to the child’s insurability.
• No restrictions on how or when the money can be used.
• Earnings are tax-deferred until withdrawal.
• Policies can often be fully paid-up with an accelerated
payment schedule.
• Life insurance exists from the first day a policy is issued;
death benefits from a tax-exempt policy are non-taxable.
• Various protection features can be included such as a
disability waiver for the payor and guaranteed life insura-
bility for the life insured.
• The policy can often be transferred to the life insured on
a tax free basis, where the life insured is a child or spouse
of the policyholder.
IMPORTANT POINTS TO CONSIDER
• Be sure to find out what the cost of the insurance is, and
how much of your deposit is actually going into the
savings or investment component.
• Normally a medical questionnaire is required to establish
insurability.
• Projected cash values could be much lower than actual
performance.
forty one
Tax-deferred Growth
The cash value (your investment and earnings) that accumu-
lates in your policy is allowed to grow on a tax-deferred
basis. When you withdraw your investment component
(generally as a policy loan or when you cash in your policy),
often only the earnings on your investment portion are
taxable – at the policyholder’s current income tax rate at the
time of the loan or withdrawal.
Use the investment fund as you wish
If the student does not continue with post-secondary
education, there is no loss of investment funds or earnings.
And there are no restrictions on how or when your money
can be used.
Does your child need insurance on his/her life?
This consideration should be made separately from your
educational savings objectives. Life insurance on your child
can provide a guarantee that your child will have life
insurance later in life – regardless of future health
conditions. Your child’s insurability does not depend on
whether he/she has future education
plans. So please be sure to
consider these two issues
separately when consi-
dering life insurance.
forty
forty three
• Tapping into the cash value that accumulates in an
insurance policy can be expensive. If you take a policy
loan, you will pay interest. If you access cash values by
surrendering the policy, the insurance is no longer in effect.
• If you decide to cancel the policy, penalties can be steep.
If you cancel within the policy’s first two years, you could
lose up to 100 per cent of your investment.
• Premiums are not eligible for the Canada Education
Savings Grant program.
OUR ADVICE
If you have maximized your child’s RESP, and you are
looking for additional tax deferral, a cash value insurance
plan might be an option to consider.
If you feel that life insurance on your child is essential,
consider an inexpensive term rider on your own insurance
policy. Invest the difference in an education savings
vehicle, like an RESP, which has more flexibility and
growth potential.
forty two
I f you access cash values
by surrendering the
pol icy, the insurance is
no longer in e ffect .
Li fe insurance on your chi ld can
guarantee that he or she wil l have
l i fe insurance later in l i fe .
What types of post-secondary schools arecovered by this plan? Some plans cover only degree-
granting colleges and universities, while other recognize
virtually every institution of higher learning in Canada and
some abroad. Ask for the description or list of educational
institutions that qualify for the plan. Be comfortable that
there is sufficient flexibility for your family needs.
What rate of returns assumptions are you using?If you’re looking at projections of how much a plan or
investment might be worth down the road, be sure that the
rate of return assumptions are realistic. Generally, most
conservative investments, such as those held in a pooled
trust or cash value life insurance policy, should be
utilizing equally conservative interest rate
assumptions. You might be able to expect
higher rates of return with equity-based
investments, if you are willing to
assume greater risk.
When will the first paymentbe made? This is a particularly
important issue with pooled
trusts. Occasionally the payouts
begin in the first year. But most
forty nine
CHOOSING AN OPTION
Before you invest in anything, here’s a list of questions to
ask yourself and your investment advisor.
Is there a set-up fee? Enrollment or set-up fees are
charged on some formal RESPs. In most cases, these fees are
taken off the top, like the front-end load on a mutual fund.
Find out exactly how much the fees will be, and how long it
will take you to pay them. In some cases, the fees gobble up
all of your contributions during the plan’s first few years.
What if i change my mind? If you invest in a pooled
trust plan, for example, most allow you 60 days to
change your mind. If you exercise this option,
you may well lose your initial contribution
to the plan’s enrollment fee. The sales
representative may suggest backdating
the contract to take advantage of the
child’s age at a previous birthday. If
it’s backdated more than 60 days,
you have effectively lost your
cooling-off period.
What happens if my childdoes not go on to a post-secondary institution? Find
out if the plan will allow you to
designate another beneficiary, if that
child has to be a family member, and
if there are any age restrictions on the
new beneficiaries. Also, be sure to ask about
the availability of the RRSP roll-over or cash-
withdrawal options. Not all plans offer this flexibility.
forty eight
What types of
post- secondary
schools are covered
by this plan?
W W
GETTING THE MOST FROM YOUREDUCATIONAL SAVINGS
Now that you know what your options are, hereare some ways to get the most out of whateversavings plan you choose.
Read the legal documents that pertain to youreducation savings program. They are not always the
most “user-friendly” of documents, but reading the legal
documents is the only way to have a really clear picture of
your plan or investment.
Take advantage of pre-authorized investmentplans. If you hold mutual funds in your RESP, a regular
monthly investment strategy is the best way to invest. Even
if you can afford an annual lump sum contribution, monthly
investing is often a smarter option. Spreading your
investment out over the year can help to smooth
out the markets’ ups and downs, and
help to reduce the average cost of
your fund units. This is known
as “dollar cost averaging.”
fifty one
often they start in the child’s second year – the return of
your principal is supposed to finance the first year. If the
student leaves school after the first year, you could lose all
of your accumulated interest.
What if the student takes a year off? Can the
payouts be postponed? With some RESPs, payouts must be
used in concurrent years. It might not be possible to defer
the plan’s payouts if the student wants to take some time off.
If I need access to my money, can I get it? With some
plans, like mutual funds, the investments are so liquid that
you can access your money easily should the need arise. If
your mutual funds are held within a self-directed RESP, your
principal is always accessible. With GICs, bonds, insurance
policies, and pooled trusts, it can be difficult or impossible
to get your money before the plan matures.
What are the tax implications? This is an important
consideration. With registered plans all your capital
appreciation is allowed to compound on a tax-deferred
basis. Under a non-registered educational savings
arrangement all of the earnings will be taxed in your hands
or the child’s hands depending on the arrangement and/or
income attribution rules if applicable.
fifty
W
Reading the
legal documents
is the only way to
have a real ly c lear picture .
Maximize your contribution. Whether you decide on a
formal RESP or a non-registered investment or a com-
bination of plans, contribute as much as you can afford.
There’s no way of knowing exactly how expensive education
costs are going to be, but it’s safe to assume that they will
continue to escalate. A few more dollars today could make
a big difference 15 years from now.
Encourage your kids to save, too. If you can involve
your children in the process, you can help instill the desire
to go to a college or university. Encourage them to invest a
portion of their allowance, babysitting dollars, or other
earnings. Offer to match their contributions dollar for dollar.
(Children cannot open an RESP on their own until they are
18. So you’ll have to invest those savings on their behalf ).
Invest that gift money. If your children receive gift
money, deposit it into the account from which your
pre-authorized investments come. And let the rest of the
family know about your educational savings program. Those
generous family members and friends may want to set up
their own educational savings
plans on behalf of your
child.
Take advantage of growth opportunities. In
situations where the education savings is not required for at
least seven to 10 years, you have an appropriate time
horizon for growth-oriented equity investments. These
include both Canadian and international equity mutual
funds. Because there are no foreign-content limits in an
RESP, you can invest as much as you like in these markets
without penalty. Together, these investments are your best
defense against soaring tuition fees.
Equity investments make the grade. The biggest
factor in your RESP’s long-term growth potential is how
much those investments earn. It has an even bigger impact
on your accumulated savings than how much you contribute.
Suppose you have three children and invest $2,000 a year
for 18 years into three different investments. Take a look at
the difference a percentage point or two can make.
RATE TOTAL SAVINGS*
6% $65,519
8% $80,893
10% $100,318
In order for the 6 per cent investment to provide the same
total savings as the 10 per cent investment, you would
have to invest almost $3,100 a year – more than $19,000
in extra contributions.
* These returns are used only for the purpose of illustrating the effects ofthe compound growth rate and are not intended to reflect future valuesof mutual funds or returns on investments in mutual funds.
fifty two fifty three
Royal Mutual Funds are sold by Royal Mutual Funds Inc.,a member of Royal Bank Financial Group. There may becommissions, trailing commissions, management feesand expenses associated with mutual fund investments.Read the prospectus before investing. Mutual funds arenot guaranteed, their values change frequently and pastperformance may not be repeated.
HOW WE CAN HELP
For more information about educational savings,RESPs, and how mutual funds can help you andyour family finance those education goals, pleasecontact your local Royal Bank or Royal Trustbranch or call Royal Mutual Funds CustomerService, toll free:
1-800-463-3863
Member of Royal Bank Financial Group®
OTHER RESOURCESFOR YOUR CHILDREN
As part of the Your Money Matters information series, Royal
Bank publishes additional guidebooks to help teach children
about the basics of money, banking, saving and investing:
Money and Banking - Designed for children ages 9 to 11,
this guide introduces children to the basic concepts of
money, currency, banking, and saving.
Saving and Investing - Designed for children ages 12 to 14,
this guide focuses on how to develop a savings plan
and introduces children to the fundamentals of investing.
Ask for a copy of these publications at your local branch.
