Can I Withdraw Money From an RESP Early?

A Registered Education Savings Plan (RESP) is a specialized savings vehicle in Canada designed to help families save for a child’s post-secondary education. This plan offers tax advantages, as the investment income generated within an RESP grows tax-deferred. The primary purpose of an RESP is to support beneficiaries in pursuing higher education, including universities, colleges, trade schools, and apprenticeship programs. While the goal is educational funding, circumstances can change, leading subscribers to consider withdrawing funds early. Navigating these early withdrawal scenarios involves specific rules and potential financial implications, which differ based on the type of funds withdrawn and the reason for withdrawal.

Understanding Early Withdrawal Scenarios

Withdrawing funds from an RESP before the beneficiary enrolls in post-secondary education is considered an early withdrawal, and the rules governing these withdrawals vary depending on the nature of the funds. The RESP comprises contributions made by the subscriber, government grants, and the investment income earned on these amounts. Each component has distinct withdrawal conditions.

Subscribers can generally withdraw their original contributions at any time without incurring tax. These contributions were made with after-tax dollars, so their return is not considered taxable income. However, withdrawing contributions may necessitate the repayment of associated government grants to the government, particularly if the beneficiary is not yet enrolled in a qualifying educational program. The amount of grant repayment is proportional to the withdrawn contributions.

Educational Assistance Payments (EAPs) are the intended method of withdrawal when a beneficiary is enrolled in a qualifying post-secondary program. EAPs consist of the government grants, such as the Canada Education Savings Grant (CESG) and the Canada Learning Bond (CLB), along with the accumulated investment income from the RESP. To qualify for EAPs, the beneficiary must provide proof of enrollment in an eligible program at a recognized post-secondary institution. These payments are specifically for education-related expenses like tuition, books, and living costs.

Accumulated Income Payments (AIPs) are withdrawals of the investment income earned within the RESP, typically made when the beneficiary does not pursue post-secondary education. Strict conditions must be met for an AIP to be allowed. Generally, the RESP must have been open for at least 10 years, and all beneficiaries must be at least 21 years old and not enrolled in a qualifying post-secondary program. An AIP may also be permitted if all beneficiaries have died, or if the RESP is being closed after its 35th anniversary (or 40th for specified plans).

Financial Consequences of Early Withdrawals

The financial implications of early RESP withdrawals can vary significantly based on the type of withdrawal. Understanding these consequences is important for subscribers.

Original contributions returned to the subscriber are not taxed upon withdrawal. However, if these contributions attracted government grants, a portion of those grants may need to be repaid. This repayment mechanism ensures that government incentives are used for their intended educational purpose.

Educational Assistance Payments (EAPs) are taxable income for the beneficiary in the year they are received. EAPs include both the government grants and the investment earnings. Often, this taxation is advantageous because beneficiaries, typically students, have little or no other income during their studies, resulting in minimal or no tax payable on the EAP amounts.

Accumulated Income Payments (AIPs), which represent the investment income from the RESP, are fully taxable to the subscriber. In addition to being taxed at the subscriber’s regular marginal income tax rate, AIPs are subject to an additional penalty tax. This penalty is generally 20% federally, and an additional 10% for residents of Quebec. Any government grants associated with the RESP must also be repaid to the government when an AIP is taken.

Alternatives When Post-Secondary Education Isn’t Pursued

When a beneficiary decides not to pursue post-secondary education, subscribers have several alternatives to an Accumulated Income Payment (AIP) to mitigate potential tax penalties and grant repayments. These options provide flexibility and can help preserve savings.

One alternative is to transfer the RESP to another eligible beneficiary. This is often possible if the new beneficiary is a sibling of the original beneficiary and meets age requirements, typically under 21 years old. Such transfers are generally tax-free and can help retain government grants within the plan for the new beneficiary’s education.

Subscribers may also be able to roll over a portion of the RESP’s accumulated income into their own (or their spouse’s) Registered Retirement Savings Plan (RRSP). This option allows for tax deferral on the income, avoiding the AIP penalty tax. Specific conditions apply, including having sufficient RRSP contribution room and the RESP meeting certain criteria. The maximum amount that can be rolled over to an RRSP is $50,000.

Another less common option is to donate the RESP’s investment income to a designated educational institution in Canada. While this avoids the AIP penalty tax, the original government grants would still be returned to the government. This approach might be considered if other alternatives are not feasible.

If no other options are suitable, closing the RESP account is the final step. When an RESP is closed without the funds being used for qualifying education, the original contributions are returned to the subscriber tax-free. However, all government grants must be repaid, and any remaining investment income will be paid out as an AIP, subject to applicable taxes and penalties.