RESPs and Filing Your Taxes
It’s almost the time of year that everyone loves… No, I’m not talking about the holidays, I’m talking about the income tax filing deadline! All kidding aside, it’s important to make sure you file your taxes on time. The tax filing deadline for 2018’s income tax return is April 30, 2019. If you don’t file your taxes on time, if you owe money to the Canada Revenue Agency (CRA), you could be required to pay penalties and interest. Not a fun situation to be in, to say the least!
You’ve set up a Registered Education Savings Plan (RESP) to provide your child with a brighter future. But if you’re like most parents, you’re probably wondering how it affects your income tax return.
Let’s take a closer look at RESPs and filing your taxes.
Although RRSPs (short for Registered Retirement Savings Plans) and RESPs may share similar initials, the tax treatments on contributions are treated totally differently.
When you contribute to your RRSP, you receive a tax refund. That’s because RRSP contributions are tax deductible. That means it reduces your taxable income. Not so with RESP contributions.
It helps to think of RESP contributions like TFSA (Tax-Free Savings Account) contributions. Similar to the TFSA, when you contribute to your RESP you don’t get a tax refund. That’s because you’re contributing after-tax dollars. Once you understand this concept, it makes things a lot easier.
There’s no tax reporting required at this point.
This is where the RESP has a lot in common with the RRSP and TFSA and is one of the major benefits of the RESP. Any money contributed to the RESP for your daughter or son grows tax-free within the account. That means as long as you don’t touch it, you don’t have to include any income on your tax return. It doesn’t get any simpler than that!
Again, there’s no tax reporting needed at this point.
Let’s say you’ve been contributing to your daughter or son’s RESP for 18 years. Your daughter or son is all grown up and ready to go to college or university. Because of this, you’ll need to start withdrawing money from their RESP. This is where the income tax finally part comes into play, but not for you, for your child.
Before we talk about the taxation of RESPs, it helps to discuss how RESP withdrawals are classified. RESP withdrawals are made up of two components: Refund of Contributions and Education Assistance Payment (EAP).
A Refund of Contributions is as it sounds. It’s the withdrawal of your original contributions. Since you’ve already been taxed on these funds, you won’t have to pay taxes again. As such, your daughter or son can withdraw these funds without paying any tax.
An EAP, on the other hand, is treated as taxable income. The EAP is comprised of tax-free government grants and tax-sheltered growth. Since these funds have never been taxed, the CRA will require your daughter or son to pay their fair share of taxes.
The good news is that the income is taxed in the hands of your child. If your child is like most young adults, they’ll have minimal income. As such, they’ll pay a small amount of taxes, if any at all. They’ll receive a tax slip with the amount of income related to the RESP to claim on their income tax return. As parents, you won’t need to claim any income related to the RESP on your tax return.
It’s a good idea to help your daughter or son with the tax filing process. She or he most likely won’t be very familiar with it. Your daughter or son should receipt a tax slip with the amounts to report on their taxes for the RESP. Outside of contributing to your child’s RESP, this is another nice thing you can do to give your child a helping hand.