RESP withdrawals: Basic rules and strategic considerations

A registered education savings plan (RESP) is an effective vehicle for funding post-secondary education expenses, although the complex withdrawal rules can be confusing. Parents with children who are currently attending or who will be pursuing post-secondary education want to make sure tuition and living expenses are well funded through RESP withdrawals. Parents whose children have already completed their post-secondary education or who have decided not to pursue post-secondary education at all want to wind down the RESP in the most tax-efficient way. In this article, we go back to basics and review the three types of withdrawals available from an RESP, along with offering some strategic considerations when making a withdrawal.

The three buckets of an RESP

An RESP is generally divided into three buckets for tax-reporting purposes:

• Contributions are simply after-tax contributions made by the RESP subscribers (usually the parents or grandparents); RESP contributions are not deductible for tax purposes.
• Grants are incentives received from the government, including the Canada Education Savings Grant (CESG), Canada Learning Bond (CLB), and other provincial grants.
• Growth represents the investment earnings that accumulate within the RESP.

The RESP promoter tracks all three buckets.

Educational Assistance Payment (EAP)

An EAP is a withdrawal for an RESP beneficiary’s educational purposes. Certain conditions must be met for the beneficiary to qualify for an EAP withdrawal. Typically, an EAP comes from the grants and growth buckets; however, it is possible to request a withdrawal of contributions when EAP conditions are met. From an income tax perspective, grants and growth that an RESP beneficiary receives are taxed at their marginal tax rate, while contributions are not taxable on withdrawal. That said, is it better to take out grants and growth first or contributions first?

Generally, it is beneficial to maximize the use of grants and growth first, especially if the RESP beneficiary is in a low income tax bracket. As grants and growth are fully taxable as income to the RESP beneficiary, any income inclusion for the beneficiary may be lightly taxed or perhaps not subject to income tax at all; beneficiaries often fall in the lowest of our progressive income tax tiers and may use certain personal tax credits to reduce or eliminate the taxes they owe. In addition, grants can only be used for educational purposes. This means grants are lost (i.e., returned to the government) if not used as part of an EAP. Growth, on the other hand, can be paid out to the subscriber for non-educational purposes. That said, growth is subject to punitive rules (discussed in the “Accumulated Income Payment (AIP)” section). For all of these reasons, it may be a good idea to maximize withdrawals of grants and growth while the beneficiary is eligible for EAPs.

On the other hand, in certain situations, it may make sense to withdraw contributions before using up all grants and growth in the RESP. For example, if a beneficiary is currently in a relatively high tax bracket (e.g., earning income by working part time outside school) but expects low income in a future school year, it could make tax sense to “save” the income inclusion for a future year while taking out non-taxable contributions in the meantime. In addition, where there are multiple RESP beneficiaries in a family RESP, there may be planning opportunities to maximize grant sharing among beneficiaries while minimizing the overall tax liability.

Note that there is a 13-week rule for EAPs. In simple terms, an RESP beneficiary is generally limited to withdrawals of grants and growth totaling:

• Up to $8,000 in the first 13 weeks for full-time programs. 
• Up to $4,000 in every 13-week period for part-time programs.

The 13-week rule applies on a per-promoter basis only to the grants and growth buckets. Therefore, if $8,000 in the first 13 weeks is not sufficient to support a beneficiary attending a full-time program, the subscriber could choose to withdraw contributions to increase funding. Find more details on the 13-week rule on our Tax & Estate infopage, Registered education savings plans (RESPs)

Lastly, there is a common misconception that an RESP promoter (when the subscriber requests it) can alter the ratio of grants and growth in an EAP. This is not permitted, as a prescribed formula determines the proportion of grants and growth. The subscriber can only control the total amount of the EAP payment but not the breakdown between grants and growth.

To request an EAP withdrawal at Invesco, submit the Invesco RESP Educational Withdrawal Form with supporting documentation.

Refund of contributions (ROC)

As the name suggests, an ROC is a refund of the subscriber’s original contributions. ROC can be used for non-educational purposes and can be requested at any time without any income tax implications. However, the government has imposed certain anti-avoidance rules to prevent premature redemptions of RESP contributions. Essentially, an ROC may trigger a return of grants to the government and could also “taint” the RESP and disqualify it from receiving additional CESGs (grants available to lower-income families, subject to a family income test) in the year of withdrawal and the subsequent two years. The rules are complex. We encourage you to fully understand and assess the consequences of an ROC before requesting one. If contributions are needed while the RESP beneficiary qualifies for an EAP, requesting the redemption of contributions will not trigger a return of grants.

To request an ROC withdrawal at Invesco, submit the Invesco RESP Refund of Contributions (ROC) Form.

Accumulated income payment (AIP)

The last type of RESP withdrawal applies when using the growth bucket for non-educational purposes.

After the RESP beneficiary stops attending school, there could still be some money left in the RESP. Here is what happens to the three buckets:

• Grants are returned to the government.
• Contributions can be returned to the subscriber through an ROC. 
• Growth can be accessed through an AIP.

That said, the subscriber can only request an AIP if certain eligibility conditions are met. Generally, the subscriber must be a Canadian resident, and one of the following conditions must be true:

• The RESP has been in existence for at least 10 years, and all beneficiaries are over 21 years of age and not eligible for an EAP.
• All RESP beneficiaries are deceased.
• The payment occurs in the 35th year following the year of the RESP’s inception date.

The government may grant an exception if the RESP beneficiary suffers from a severe and prolonged disability.

If the conditions are not met, the subscriber can either keep the RESP and wait until one of the conditions is met or forfeit the growth to a Designated Educational Institution in Canada. The latter choice does not qualify as a charitable donation and will not generate a donation receipt.

If the conditions are met, the subscriber can either take an AIP in cash or transfer it to their registered retirement savings plan (RRSP). When taken in cash, an AIP is fully taxable to the subscriber at their marginal tax rate in the year of withdrawal, plus a 20% penalty tax. Regular withholding tax plus the penalty tax applies at source to cash payments. If the subscriber has RRSP contribution room, they can transfer the AIP directly into their RRSP, up to a lifetime maximum of $50,000 per subscriber. By transferring the AIP to an RRSP, the subscriber avoids immediate income tax and the penalty tax; the transferred amount will eventually be taxable when withdrawn from the RRSP. Regardless of the option chosen, the subscriber must fill out Canada Revenue Agency (CRA) Form T1172, Additional Tax on Accumulated Income Payments from RESPs and attach it to their income tax return for the year in which the AIP payment is received. Furthermore, the RESP must be collapsed by March 1 of the year following the year in which the first AIP is withdrawn.

One strategy when making AIP withdrawals is to spread the payments over two calendar years, with the last payment completed before the “forced closure” date of the RESP in the second year. Potential benefits of this strategy include taking advantage of the marginal tax rates each year for a cash payment and potentially accumulating additional RRSP contribution room to shelter a greater amount for an RRSP transfer.

Keep in mind that an AIP can also roll over on a tax-deferred basis to a registered disability savings plan (RDSP) for the same beneficiary if certain conditions are met.

To request an AIP withdrawal at Invesco, submit the Invesco Accumulated Income Payment (AIP) Form. Invesco requires additional supporting documents for a transfer to an RRSP, including CRA Form T1171, Tax Withholding Waiver on Accumulated Income Payments from RESPs and the subscriber’s Notice of Assessment (NOA) for the previous year. The previous year’s NOA will indicate the current year’s RRSP contribution limit. However, this NOA will not be available until the income tax return for the previous year is filed (usually in April). Therefore, subscribers will rarely have the NOA available for AIP rollover to RRSP requests that are made too early in the year.

All Invesco forms mentioned in this article are available on Invesco Canada’s website. To access them, please visit our website, click on “Resources” in the top menu, and then select “Applications and Forms”.