RESP Contribution And Grant Rules For 2020

One of the main benefits of RESP accounts is the federal Canadian Educational Savings Grant (CESG). This grant is 20% of any eligible contributions in an RESP account.

How the RESP grant system works

Let’s say you open an RESP account for your bouncing new baby and contribute $1,000 into the account. Your financial institution will send the account and contribution information to the Canadian government for grant approval. If the grant is approved, the institution receives the grant money and deposits it into your account.

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The math

20% of the $1,000 contribution is $200, so you will now have an extra $200 in the account courtesy of the Canadian government. This basically gives you an extra 20% one-time return on your contribution.

Basic RESP contribution rules and numbers to know

  • $2,500 – Amount of annual grant-eligible contribution room accrued each year starting in 2007 or the year the child was born (whichever is later). The contribution room continues accruing up to and including the year when the child turns 17 years old. This amount is based on the calendar year and not the birth date.
  • $2,000 – Amount of annual grant-eligible contribution room accrued each year starting from the year the child was born or 1998 (whichever is later) up to and including 2006.
  • 20% – Amount of grant earned on an eligible contribution. For example: a $1,000 contribution would earn a grant of $200, if that contribution is eligible for a grant. There are additional grants available for lower income families.
  • $500 – Maximum amount of grant a beneficiary is eligible to receive for each calendar year from the year they were born or 1998 (whichever is later) to the year they turn 17 years old. This amount was only $400 for years prior to 2007.  A calendar year is from January 1st to December 31st.
  • $7,200 – Lifetime grant limit per beneficiary. If you contribute $2,500 every year, you will hit the maximum grant level in the fifteenth year, and no more grants will be paid to the beneficiary. This limit includes additional grants available to lower income families.
  • $50,000 – Lifetime contribution limit per beneficiary. Because there is no annual limit, you could potentially make one single contribution of $50,000 to an RESP if you choose.
  • Contribution room carry over. One of the great things about the RESP is that you can carry over unused contribution room into future years. However, there is a catch: Only one previous year’s worth of contributions can be used each year.
  • Contributions are not tax-deductible.  You won’t get a tax slip, and you can’t deduct RESP contributions from your taxable income.

For example: If you start an account for your six-year-old child, you can contribute $2,500 (this year’s contribution room) plus another $2,500 (from previously unused contribution room) for a total of $5,000, to receive a grant of $1,000. You are allowed to contribute more than $5,000 in this scenario, but there will be no grant paid on the amount above $5,000. When calculating contribution room carryover from past years, don’t forget that the contribution limit was only $2,000 prior to 2007.

RESP contribution examples

Let’s do some examples to clarify exactly how this works.

Example 1 – Simplest example

Steve was born in 2010. His parents are broke, but one kindly grandmother decides to open an RESP account for him.

She opened the account in 2010 and has $2,500 of contribution room available. She contributes $1,500 to the account in 2010, so the RESP grant is $300 (20% of $1,500).

In 2011, she contributes $1,200, thereby qualifying for a $240 grant.

Example 2 – A more complicated example

Little Johnny was born in 2006. His parents decide in 2010 to set up an RESP account for him. They want to know how much money they can contribute each year to catch up on all the missed government grants.

Let’s add up the current contribution room.

2006 – $2,000 of contribution room

2007 – $2,500 (new rules)

2008 – $2,500

2009 – $2,500

2010 – $2,500

In 2010, the couple has $2,500 of contribution room for the current year plus $9,500 of contribution room from previous years.

Since the rule is that you can only contribute up to $2,500 of previously carried over contribution room each year in addition to the current contribution room, this means they can contribute this year’s amount ($2,500) and another $2,500 for a total of $5,000, which gives a grant of 20% or $1,000 for 2010. Since they only used $2,500 of their available $9,500 of carried over contribution room, they now have $7,000 in contribution room to carry over for the future.

  • In 2011, they can contribute another $5,000 for a $1,000 grant. $4,500 of contribution room is carried forward to the next year.
  • In 2012, they can contribute another $5,000 for a $1,000 grant. $2,000 of contribution room is carried forward to the next year.
  • In 2013, they can contribute only $4,500. $2,500 from the current year plus $2,000 they carried over from the past.
  • In 2014 and beyond, they can only contribute $2,500 each year and expect to receive the full grant of $500.

Summary of contributions they can make to get all the government grants:

  • 2010 – Contribute $5,000, receive $1,000 grant, $7,000 of unused contribution room
  • 2011 – Contribute $5,000, receive $1,000 grant, $4,500 of unused contribution room
  • 2012 – Contribute $5,000, receive $1,000 grant, $2,000 of unused contribution room
  • 2013 – Contribute $4,500, receive $900 grant, $0 of unused contribution room
  • 2014 and onward – Contribute $2,500, receive $500 grant

Please note there are special RESP contribution rules for 15, 16 and 17-year-olds.

RESP family plan contribution allocations

If you have a family plan with two or more beneficiaries, you need to allocate each contribution between the beneficiaries. For example, you might want to set up all contributions to be divided equally between the account beneficiaries. Or you might have a particular contribution that should be allocated to just one beneficiary. You must set the allocation so the government can track the grants for each child.

When you open an RESP account or add a new beneficiary to an existing account, you can set up the default allocation to split the contributions equally among the children on the account. If you want to make a contribution with a different allocation, you have to indicate this on the purchase order.

More detailed RESP information

Check out the RESP rules page for a list of more detailed RESP articles on this site.


Why I’m sticking with Questrade

Last week Canadian Capitalist broke the story that TDW was offering stock trades for $10 with a minimum balance of $100k. This is important news because as far as I know it’s the first time that one of the brokerages owned by a bank has offered semi-competitive pricing for stock trades. Prior to this announcement TD charged $29/trade.

I decided a couple of months ago to go with the independent brokerage Questrade mainly because of their fees – for trades involving less than 495 shares they charge $4.95 which is a fantastic deal. Ironically my second choice was TD, but with their $29 trades they were a distant second choice.

Having signed up with them, I’ve found that Questrade customer service was quite excellent with minimal wait times and very pleasant staff. I like their trading platform and their simulator helped me get acquainted with entering trades since I had never done so before.

Canadian Capitalist had some valid concerns about Questrade which is why he’s switching back to TD but the fact is that none of the things that affect him, concern me in any way.

His concerns:

  1. Funding in US$ can only be done by cheque and Questrade holds the money for 20 days. I agree that this holding period is ridiculous and apparently there is no other way to move US$ to the account. Having said that I have no reason to move US$ into my account so no big deal for me.
  2. Wash trades – this occurs when you own a US$ security and you want to sell it and buy another US$ security. Currently with all the brokerages except TD this involves selling the US$ security, the US$ get converted to CDN$ (and you pay a fee) and then you convert the money to US$ again (another fee) and then buy another US$ security. Apparently Questrade is working to resolve this issue but regardless I don’t have any issue with it since all the US$ equities I plan on buying will be ETFs and I will be holding them until retirement at which point I’ll convert them back to CDN$ so this issue doesn’t concern me either.
  3. E-series index funds. These funds are the lowest cost index funds available in Canada so if you want to contribute to an rrsp, resp or open account with small dollar amounts then the E-series funds are a great way to do it. However, in my case I make all my contributions to a group rrsp at work so I don’t plan on doing this type of contribution anywhere else.

One thing I noticed about my account is that there are three different logins to get into the main account, the webtrader platform and your financial history screens. I’m not sure what other brokers do but this seems excessive.

My suggestion for anyone who is looking to switch to a new broker or looking for their first broker is to take their time and research their options to make sure they are getting the best fit for their needs.

More resources

Check out the comprehensive guide to Canadian discount brokerages.



Why I Suck At Trading

I’ve come to the realization that I would not make a very good stock trader. The evidence leading to this conclusion became glaringly apparent when I made my first ever stock purchases over the last couple of months. Both trades were Bank of Montreal purchased for my leveraged stock plan.

After doing a bit of research on the mechanics of buying stocks along with practicing on the trading simulator at Questrade, I was able to get comfortable with getting the real time quotes and placing an order with a limit. The limit probably wasn’t necessary since I was buying board lots of a heavily traded company, but better safe than sorry.

The other part of being on the “buy side” was waiting for a dip. I had read in many books and blogs that the best way to accumulate dividend stocks was to “buy on dips”. It seemed pretty obvious that all one had to do was wait until said dip appeared and then let the trading begin! The only problem was an an extreme lack of patience on my part. Once I got it into my head that I was going to be buying some stocks then I kept a close eye on the price in order to identify a dip at which point I would pull the trigger. However due to the feverish excitement I was in, I ended up spending way too much time at work checking the price of the stock. I’m sure my co-workers were suspicious since I was spending a lot more time glued to my computer than I normally do. After a while I decided that dip or no dip it was probably better to pay a couple of bucks too much for the stock rather than lose my job because I was checking real time quotes all day long. The other problem I had was a constant irrational fear that the price would skyrocket and if I didn’t buy right away I would never get it for that price again.

I ended up buying the first 100 shares of BMO at $71 which was after the shares had been hanging around $68 for a while because of the trading scandal. The reason I couldn’t buy when the stock was lower was because I didn’t have the account set up yet and it took a while for that to happen. For the next trade I told myself that I would wait patiently until the stock hit the very bottom (wherever that is). But history repeated itself and I ended up buying 200 shares at $68.60 which felt a lot better than $71 but of course, better deals could have been had with a little patience.

Since my plan is to hold these shares for a long time, the initial purchase price isn’t all that important but the competitive spirit in me demands that I get the best price possible. I didn’t accomplish that goal with my purchases this time but I’m hoping that next time I’ll be able to stay cool long enough to get a good deal. If not, the dividend cheques will help make up for it.


Leveraged Investments – Interest Rate Exposure

This is the third post in the “Leveraged Investments” series. Check out the previous post entitled “Leveraged Investments – The Risks”.

My biggest concern with doing leveraged investments since I have a large mortgage is interest rate exposure with respect to cash flow. In my opinion, nobody “needs” to do leveraged investing including myself which is why it is important to understand and minimize the risks. However I find the idea of it rather enjoyable and believe that I can make a profit out of it. Although I’m fully aware that the investment plan may not work out (won’t be the first time) I don’t want it to negatively affect my personal cash flow to the point where I regret doing the plan. This will mean limiting the borrowing to fairly modest amounts (compared to say the Smith Maneuver) which will limit any potential profit but it will also limit my exposure in case things go south.

I outlined in my last post most if not all of the ways that the plan could fail, however my biggest concern is interest rates since if they go up, the cash flow for the plan will go more negative and that’s not a good thing if it’s taking money from other activities that I like to do.

My assumptions for the interest rate calculations are extremely conservative and I wouldn’t think any less of someone who didn’t adhere to the same level of stringency.

My calculations:

In my mind, to calculate your interest rate exposure properly you should include all your debt so I will include my mortgage & investment loan.

Currently I’m paying $1500 / month on my mortgage. This amount is a bit much which is why we are lowering our monthly payment but we can get by ok on this amount if necessary. Regardless of what happens with the leveraged investments or interest rates, I don’t want to have to pay more than $1500 / month to cover my total debt payments

We have recently locked in our mortgage for a five year term which is important in this calculation because it is not the current amount of the mortgage that is at risk if interest rates change, but rather the portion which will still be outstanding at the time that the locked in period ends. In our case I estimate that once the five year period ends, we will owe $110,000 on our mortgage.

I’ve assumed a worst case rate of 15% interest – feel free to pick your own poison. I’ve also assumed my stocks have completely stopped paying dividends. Like I said, my safety test is stringent! I have however assumed that the tax rebate is intact and that my tax bracket is unchanged.

One more thing – I’ve stated that the current monthly maximum loan payment I am willing to handle is $1500. In five years at 2.5% inflation, that amount will be $1700.

Ok, to start off – I will owe $110k on my mortgage in five years and the interest rate is 15%, so the monthly payments will be $1447 – less than the $1700 maximum so there is room to borrow. In this case I’m amortizing over 25 years.

To add the investment interest payment to the calculation I have to account for the tax rebate, so for every dollar of investment interest, I’m only responsible for 56% of that amount. In other words I have to add 56% of the investment loan to the mortgage amount.

After playing with the numbers, if I have a $110k mortgage and a $40k investment loan then the monthly payment will be $1700 ($1500 in 2007 dollars) at 15% interest. So from that, $40k is the maximum amount I can borrow for investments.

Needless to say, this type of calculation has to be kept up to date since any changes in the rate of mortgage payments or any new debts will affect the amount available to invest.

The other limiting factor is the effect on your current cash flow from borrowing. If you were to borrow $100k at 6% and start a plan like this on January 1, your spreadsheet might tell you that your net cost per month is only $79 per month, however you might not get any dividend cheques for a few months and you won’t get the tax rebate for over a year so you need to be able to handle the gross interest payment ($500) for at least a little while. This is why I have only started the plan with $7100 so far and will be taking my time to get up to the $40k limit (if I get there at all).

Anyways, not sure how clear that is but feel free to ask questions or offer comments or criticisms!

The next post in the series is “Exit Strategies”.


Leveraged Investments – The Risks

This is the second post in the “Leveraged Investments” series. Check out the first post entitled “Leveraged Investments – My Grand Plan” .

Two main assumptions for the success of my leveraged investment plan are –

  1. Interest rates staying at reasonable levels and
  2. Steady dividend increases.

Although the interest rate is tax deductible, if interest rates increase, the interest amount (the interest payment minus the tax deduction) payable goes up as well and this results in a lower profit or higher loss for the investment plan.There is certainly some room for interest rates to go up and I can still make money but if they get too high and aren’t matched by offsetting increased dividends then the plan won’t be profitable.The other problem with increased interest rates which I’ll cover in great detail tomorrow is cash flow.If I borrow too much and then interest rates increase then my personal cash flow will be affected which I would like to avoid.

I can’t do much about the risk of increased interest rates affecting the profits of this plan other than perhaps locking in the loan for a longer period of time.As far as the interest rate risk with respect to cash flow – I need to make sure I don’t borrow more than I can handle.

There are many other risks involved with this plan:

Future growth rate of dividends:If this doesn’t happen then the plan will fail.Not much I can do here other than to try to pick good companies with proven histories of both paying dividends and increasing them.Based on the last 10 years this looks like a slam dunk.But as William Bernstein wrote in Four Pillars of Investing “Ignore the last ten years” when looking at trends.I’ll have to ignore William on this one.

Investment diversification:Having only Canadian dividend stocks in your portfolio is not very diversified.This risk I can mitigate by treating the leveraged portfolio as part of my regular investment portfolio which is quite a bit larger and I can adjust the asset allocations accordingly so that the diversification is not an issue.

Capital gains:At the conclusion of this plan I’ll want to sell the stocks at a (great?)profit.If the dividend increases go according to plan and interest rates are not too high at the time of selling then this shouldn’t be a problem.However if interest rates are high and someone can earn 9% on a GIC then it’s hard imagine a stock that only pays 3% being worth a whole lot.All I can do with this one is to be flexible on when I’m going to sell.If I have a five or even ten year period in which to wind the plan down then that should help avoid high interest rate periods.

Equity risk:All equities are risky investments.The Canadian banks and other large successful companies are probably less risky than most but there is still risk involved.I believe the Canadian banks in particular are pretty safe but there is no guarantee that they will still be around in 25 years.Things that could change are the laws about Canadian bank ownership – if foreign banks are allowed to come in to Canada and compete then that will negatively impact the big five.Another thing that could happen is a one time event like a trading scandal that sinks a bank.It happened to Barings (subject of another post) and it could happen to any of the Canadian banks.

Other factors:This plan requires negative cash flow for the first several years so what happens if I end up unemployed for a long time or have to take a lower paying job?I might be regretting this plan if it’s hard to make the payments.Sure you can always sell the equities but what happens if the stocks are underwater at the time you want to sell?Also, the tax rebate won’t be as high if you are in a lower tax bracket – or are in no tax bracket at all which will change the economics of the plan.

Policy change:What happens if the interest deductibility rules change?What if dividend taxation rules change?These would have a huge impact on my plan.

Another point – if you are thinking of buying another house (upgrading) in the next decade or so and will be borrowing a significant amount to do so, then this plan might work against you because of the debt involved. I don’t know how banks treat investment loans but I would assume it would reduce the amount you could borrow for a mortgage although I guess it would depend on the value of the equities as well. In my case we’ve already moved out of our “starter” homes and won’t be upgrading for the forseeable future so it’s not really an issue for me.

Some of these risks are not all that likely and are hard to manage other than to keep the investment loan amount to a level which will allow me to be able to handle unforeseen situations.

Obviously there are a lot of potential risks to this plan but for most of them it’s hard to say how likely they are, which is why in my mind the big two (dividend increases & interest rates) are the ones to watch most closely.

Tomorrow’s post will deal with calculating how much I can comfortably borrow.



Leveraged Investments – My Grand Plan

This is the first post in the “Leveraged Investments” series.

There has been a lot of discussion lately in blog world about leveraged investing so I thought I would add my take on the situation.I decided at the beginning of this year to look into the feasibility of using some leverage to buy dividend stocks.I figured with my long time line for this project, the favourable dividend taxation rates, and the tax deduction on the interest, that there was a reasonable chance to implement an investment plan which would eventually pay for itself from a cash flow point of view and provide an eventual net profit from the dividend flows and capital gains at the conclusion.

I have three posts prepared on this topic, today’s post outlines “the plan”, next post will cover all the risks (and there’s a lot of them) and some steps I’m taking to manage the risks, and the last post will look in depth at my analysis of my personal interest rate risk which includes my mortgage as well the investment loan.

The basic plan is to use my home equity line of credit to buy dividend stocks in a taxable account. Stocks would be Canadian dividend stocks, strong record of dividend increases, great companies.Safety of the companies is of utmost concern.

The main reason I was inspired to think of this plan is because of the incredible record of dividend increases that a lot of these companies have had (10% to 20% over the last 10 years).I’m well aware that this is an aberration however that’s what got me interested in this type of investment in the first place.

The other reasons I’m keen on the plan are because of the tax deductibility of the interest on the investment loan and the light tax on dividends. Another attraction is that if the plan is at least moderately successful, it won’t cost me anything to implement.

Here is a model of a scenario that I’ve analyzed.In actual practice I wouldn’t buy $100k all at once, accumulation will be much more gradual and I don’t have a specific upper limit.

Some numbers – my marginal tax rate is 43%, tax rate on dividends is 21%. I set up a model where I buy $100k of stock yielding 3.1% and the dividends increase 5% per year. Interest rate is 6% and never changes.All figures have been discounted to 2007 dollars using a 3% discount rate.

$6000 is paid in interest each year, $2603 tax rebate received each year.

In the first year the dividend income is $3100, after tax dividend income is $2449 so the profit for me is the interest – tax rebate – net dividend income = -$948 for the first year.

In the second year, the dividends have increased by 5% so the annual profit = -$826.

In year eight the annual profit is now positive at $49 and it continues to grow after that.

At the end of year 14 – the total of all the cash flows in today’s dollars add up to $436 which means that at that point in time, my overall cost at that point is zero and I have $436 in profit from the dividends.

By the end of the plan (25 years), the total of all the annual net profits/losses from dividends is $17,866 in 2007 dollars.To calculate the potential capital gain I took the gross dividend income in year 25 ($9,998), divide by 0.05 (I’m assuming a 5% yield) which gives me a $200k valuation of the equities.I calculate that if I were to sell all the stocks at that time and pay off the loan I would have a 2007 present value of $38,500.Adding the net dividend income + net gains gives me $56,374 in 2007 dollars.

Bottom line is that in this model I’m paying only $3620in today’s dollars over the first seven years to get things started. Even in year one, 84% of the interest cost is covered by the tax rebate and net dividend. By the end of year 8 my cash flow is now positive and by year 14 I’ve broken even in that the annual profits I’ve received from the dividends have paid for my initial costs.If the plan works exactly as the model does then I would make a profit equivalent to $56,374 in 2007 dollars.

You might have noticed that like most leveraged plans this one didn’t mention any of the risks involved….that will change tomorrow when I will go through every risk I could think of and how I’m planning to mitigate those risks.

Here is my spreadsheet for this model: Div Sheet

See the next post in this series “The Risks”.


My Portfolio – An Asset Allocation Decision

Last fall I sat down for the first time ever (after 13 years of owning mutual funds) and looked at all our investments and did an analysis to determine what our asset allocation was. As I recall we had over 90% equity and a good portion of that equity was in Canada. At that time I decided to make the equity/bond split to be 80%/20%. This was chosen somewhat arbitrarily although it seemed to be a good mix for a fairly aggressive portfolio with a long investment time horizon. I also changed the country mix in order to reduce the Canadian holdings down to about 30% of the equity portion.

At this point in time I will be revamping my portfolio once again since I decided to move about two thirds of our rrsp to a broker (Questrade) in order to convert it to ETFs. The remainder will stay in low cost mutual funds and GICs. I’ll be discussing some of the specific investments in future posts but I plan to start with the asset allocation since that’s the most important decision in my opinion.

The first asset allocation decision was to lower the equity portion of the portfolio down to 75% from 80% and to raise the bond portion up to 25%. I decided to do this mainly based on the research of William Bernstein (Four Pillars of Investing) which showed that having an equity portion of a portfolio higher than 25% wasn’t worth the extra risk since it usually didn’t result in a significantly higher return and of course results in more ups and downs with the market.

Interestingly enough Bernstein says that although 75% equity should be the maximum for an investment portfolio, 50% should be the minimum regardless of your age. The reason for this is that if you are retired and have a more conservative portfolio ( less than 50% equity ) then inflation is a bigger risk. Another great point he makes about asset allocation is that you should have a more conservative portfolio if you’re not sure if you can handle the volatility in a downturn. If you sell equities every time the market drops and then wait until it goes up before buying in again, then you are better off in a more conservative portfolio (ie 50/50) if that allows you to stay invested during the downturns.