For many parents, savings for their kids’ education is a priority. But after years of saving, most find that they fall short of the amount needed to foot the entire bill. That’s because many parents believe that if they add $2,500 every year to their Registered Education Savings Plan (RESP), they’ll be set. Reality sets in though as university approaches: there simply isn’t enough in the RESP.
There’s sticker shock associated with the cost of university. Using a sample of four Ontario universities, tuition, housing, food and student fees add up to $25,000 or more per year for students to live away from home. That’s $100,000 over four years – more for some programs like engineering and business.
And the costs are rising. Many universities have been struggling financially, especially after the federal government capped the number of international study permits earlier this year, resulting in lower revenue for schools. This suggests that at some point, tuition fees probably have to go up. Rent has also been rising, especially near university campuses, putting even more pressure on students.
Parents who want to save enough to foot the entire bill have to do more than just dump $2,500 a year in to an RESP. They also have to invest that money aggressively and save additional amounts outside of the RESP.
Too often RESPs are invested in an overly conservative way. Many families I work with as a financial coach have their money invested in balanced mutual funds. This simply isn’t good enough. Earning a 5 per cent return annually won’t give them the boost they need to hit the savings goal.
To earn a higher rate of return on your investments you need to invest more heavily in the stock market. Using this RESP calculator, you can see if that you want to fund four years of university education in Ontario with your child living away from home, and if you contribute the $2,500 a year, which is the amount that will give you the maximum available Canada Education Savings Grant each year, you need to earn 9 per cent on your investments every year over 18 years.
This is not realistic. Although the Canadian and U.S. stock markets have returned about 8 per cent to 10 per cent per year over the past couple of decades, it’s not prudent to invest all of the RESP funds in the stock market for the full 18 years. That’s because as your child gets closer to their post-secondary education, you will want to scale back on the risk level, using more bonds and GICs and this will lower your overall returns.
In the early years of the plan when your child is young and still at least 10 years away from needing the money, investing in exchange-traded funds or mutual funds that give you a lot of exposure to stocks is key. With a long investment time horizon – defined as 10 years or more – it’s okay to have 80 per cent or even 100 per cent of the money invested in the stock market. You’ll need to be able to stomach the volatility with this allocation, but taking a long-term view of investing will help.
When your child gets to be around age 12, you’re going to want to scale back on the stocks and add some fixed income, or bonds. When they are two or three years away from going to school, it’s a good idea to move more money into something safe, like GICs. This strategy of investing aggressively early on and more conservatively later means you will have about $90,000 by the time they graduate high school. That’s not quite enough, though, and you’ll be about $45,000 short of your goal, once we factor inflation into the education costs.
To make up for this shortfall, you’ll need to set aside a bit more. If you add $1,400 a year to your savings and use the same investment strategy, you’ll hit the savings goal. Tax Free Savings Accounts – TFSAs – are a great place to put this extra amount. You could also add a little extra to the RESP since you are allowed to put up to $50,000 per child into the plan. Another strategy is to front-end load your savings, giving the funds more time to grow. For example, you could put $15,000 in a TFSA when your baby is a newborn and that will also get you past the goal line.
Saving enough for university can seem daunting but it is achievable with a good strategy.
