When it comes to planning for your child’s future, an RESP is the tool. Whether you’re a new parent, grandparent or guardian, knowing how to use this investment wisely can make all the difference in your financial readiness for your child’s post-secondary education. As your child approaches college or university, reducing investment risk in your RESP is key. In this article, we’ll go through how to invest in an RESP to get the most benefits and the least risk.
Understanding the Basics of a Registered Education Savings Plan (RESP)
Before we get into risk management, let’s define what an RESP is. An RESP is a tax-advantaged savings account to save for a child’s post-secondary education in Canada. Parents, family members or friends can open an account for a child, and the contributions grow tax-free until withdrawal. Plus, the Canadian government offers grants like the Canada Education Savings Grant (CESG), which matches up to 20% of annual contributions up to certain limits.
The Importance of Strategic Investment as College Approaches
As the RESP withdrawal time approaches, the investment strategy should switch from growth to preservation. When your child is younger, you can take on more risk and aim for higher returns through equities or equity-heavy mutual funds. But as the withdrawal time gets closer, you should switch to preserving the money.
From Growth to Preservation: Timing Your Investment Shift
One way to transition your investment strategy is the “glide path” approach. This involves gradually reducing the percentage of higher-risk investments like stocks and moving to more conservative investments like bonds and GICs. That way, you won’t lose a bunch of money when you need the funds to be available and stable.
Assessing Your Time Horizon and Risk Tolerance
Your investment choices should be based on your time frame and risk tolerance. If your child is 10-12 years from post-secondary education, your RESP can still hold a large chunk of the equities. However, when the time frame gets to about five years, you should start to shift to lower-risk investments.
Selecting the Right RESP Policy and Providers
Pick the right RESP and Registered Education Savings Plan Provider. Look for providers with flexible investment options and transparent fees. Also, look for providers with educational resources, good customer support and tools like RESP calculators or an “RESP Quote” to estimate how much you’ll save based on your contributions and investments.
Investment Options Within an RESP
When investing in an RESP, you want to choose a mix of assets that matches your child’s age and your own risk tolerance. This asset allocation helps with growth in the early years and preservation of capital as the funds get closer to being used. Below, we break down the types of investments for an RESP and how they fit into each stage of your child’s post-secondary journey.
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Equities and Equity Funds
Stocks and stock funds are equities and represent ownership in companies and are used for long-term growth in an RESP. When your child is many years away from university—more than a decade—this category has the potential for higher returns than other investments. Stock funds, especially those that are diversified across different sectors and geographies, can reduce some of the risks of individual stocks. But they come with higher volatility, which is more manageable when you have a longer time horizon to weather the market’s ups and downs.
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Bond Funds
As your child gets closer to college age – typically 5-10 years from needing the funds – you should start to move some of your investments out of equities and into bond funds. Bonds are safer than stocks and pay interest. Bond funds invest in many bonds, spreading out the risk and providing more stability and less volatility than equities. They are good for the middle part of your investment time frame to preserve the capital you’ve built up from riskier investments in the earlier years.
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GICs and High-Interest Savings Accounts (HISAs)
In the last few years, before your child heads off to post-secondary, investment has become a top priority. Guaranteed Investment Certificates (GICs) and High-Interest Savings Accounts (HISAs) offer very low risk and preserve the principal. GICs have a fixed interest rate for a set term, and the principal and interest are guaranteed to be returned at the end of the term, so they’re perfect for those last years when you can’t afford to risk your savings. HISAs offer liquidity and safety so you can earn interest and have access to your money when you need it, which can be super helpful for paying application fees, tuition deposits and other education expenses as they come up.
- Integrating These Options into Your RESP
To effectively integrate these options into your RESP, start with a higher allocation to equities when the beneficiary is young and gradually transition to bonds and then to GICs and HISAs as they near the start of their higher education. This strategy, often referred to as a “glide path” approach, ensures that your investments are aligned with the decreasing risk tolerance and shorter investment horizon as college or university approaches.
RESP and Tax Implications
You need to understand the tax implications of withdrawals. Contributions to an RESP are not tax deductible, but the growth and grants can be withdrawn tax-free by the student who often has a lower income and, therefore, a lower tax rate. So, RESPs are a tax-efficient way to save money for education.
Monitoring and Adjusting Your Investments
You need to monitor and adjust your RESP investments. Economic conditions, market trends, and personal financial situations can change, and you need to adjust your investment strategy. Plus, when you get your annual “Registered Education Savings Plan Quote” you can see if you are on track to meet your goals for your child’s education.
The Final Verdict
Investing in an RESP in Canada needs to be done with a balanced approach, especially as your child is nearing college or university. By understanding the RESP investment and shifting from growth to preservation, you can reduce financial risk and have your savings work toward your child’s education goals. Remember, choosing the right RESP provider, staying informed on your investment options and adjusting your strategy as circumstances change is key to your child’s education.
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