How to save for your child's education
By Jasmine Miller • Bankrate.com

The most expensive gift you'll ever buy your child is probably a post-secondary education. Chances are it will also be one of the most useful presents -- university grads earn more on average than those without a degree -- but it will cost you dearly.

How much exactly depends on many factors: will your daughter live at home while she learns to write computer software? Will your son have a part-time job while he studies the classics? No matter what the answers, the final tally for a post-secondary education will be more than you can fathom right now.

"In 2020, a university degree will cost $96,000," says Michele Benson, group product manager of needs-based solutions and investment plans for Bank of Montreal in Toronto.

Before you freak out, take a deep breath. It is a lot of money, but there are some great savings options available. Here's a rundown of the best ways to save for your child's education:

Registered education savings plans (RESPs)
There isn't much free money around these days, so when you see some, pounce on it. With an RESP, you save for your child's education costs and the federal government helps out with a 20 percent Canada Education Savings Grant (CESG) on the first $2,000 you contribute each year.

You can sock away as much as $4,000 annually, with a lifetime maximum of $42,000 per child. You can open a plan anytime for a beneficiary 21 or younger, but the CESG is only paid until the beneficiary is 17. The maximum grant paid in any one year is $400, which can turn into a gift worth $7,200, the lifetime maximum that can accumulate on behalf of any one child.

You can open a plan as soon as your child has a Social Insurance Number, but contribution room can't be carried forward. So even if you can't afford the maximum contribution right now, you should still start saving now.

"You don't get a tax deduction for your contributions, as you do with RRSP payments, but your contributions grow tax-free until the funds are withdrawn," says Adrian Mastracci, of KCM Wealth Management Inc., in Vancouver.

That's the second advantage of RESPs: tax deferral. When the income is withdrawn from the plan, it is taxed in your child's hands -- not yours -- so presumably there will be less tax to pay since she'll be in a lower tax bracket than you when she withdraws it.

Parents and grandparents can open two kinds of RESPs for their children or grandchildren: a family plan or an individual plan. Non-family members, including aunts, uncles and friends, can only open individual plans. "With a family plan, if one child doesn't go on to a qualifying post-secondary institution, you can transfer the income earned to a second beneficiary, as long as they are related to the subscriber [the parent or grandparent] by blood or adoption," says Mastracci.

Even if you have only one child now, you can still open a family plan. Some individual plans can be converted to a family plan, while others cannot, so check with your provider.

All RESPs must be closed after 25 years, which is not usually a problem unless your child takes time off before or during her post-secondary studies. Regardless, all income from the plan must be withdrawn after the 25th year, so plan ahead as best you can.

Invest RESP funds aggressively early on
You can open an RESP at your bank or through a financial adviser and choose whatever mix of investments you like: stocks, bonds, mutual fund units, etc. Unlike RRSPs, there are no foreign content restrictions on RESPs. (To check current rates on investments such as GICs, click here.)

"RESPs tend to run a little more aggressive than personal portfolios," says Mastracci. He says most Canadians are happy with a 60-40 equity to fixed income mix in their RRSPs. But with RESPs, that ratio should be closer to 70-30.

That's a good ratio if your child is at least seven years away from going to university. If your time horizon is shorter, you'll want to be more conservative. Mastracci suggests choosing index funds and exchange traded funds (ETFs) for the equities component of the plan to minimize management fees.

"Since you can only contribute a maximum of $42,000 to the plan, a 2 percent to 3 percent management expense ratio will really make a difference," he says.

If your child does not go to university, your contributions are returned to you tax-free. But when it comes to the grant money and income in the plan, you have a few options.

If you have a family plan, the grant money can go to another child (provided it doesn't put him over the $7,200 maximum) or be returned to the government.

As for the income, you can it move to your RRSP provided you have the contribution room. "If you have to take the income out as cash, you will incur a 20-percent charge as well as have to declare it as income, and pay tax at your marginal rate," says Benson.

Scholarship trusts
If you invest in a scholarship trust, you still qualify for the CESG but you don't get to choose your investments. Instead, you buy units in the plan, usually directed by a foundation, which invests in conservative holdings, such as bonds and mortgages. The younger your child, the cheaper the units are to buy. Some scholarship trusts won't accept new clients if the child is older than 12.

When your child heads off to college, your contributions are returned to you with the idea that you'll use them to fund the first year of expenses. For the following three years, you get a scholarship payout based on the number of units you bought and the value of each unit that particular year. The foundation's actuary determines the unit's annual value.

Ten years ago, Dan Bortolotti, of Toronto, opened a scholarship trust for his newborn daughter, Jaimie. Since then, he has contributed $61.90 a month into the plan. "The main drawback with the scholarship is the lack of flexibility," he says. That's why when his son, Erick, was born seven years ago, Bortolotti opened a self-directed RESP through his bank.

"When Jaimie was a few years old, I had some savings bonds that came due. It wasn't much, about $1,000 or so, and I wanted to deposit that money into her RESP," he says. "I wasn't allowed to do that. You can't make lump sum contributions."

He could have increased the total number of units he held for Jaimie, but he didn't want to increase his monthly payments.

At one point Bortolotti considered stopping his contributions to the scholarship, but discovered that while he'd get back his contributions in full, he would be charged $100 per unit to get out of the plan. All together, it would have cost him $1,000. With a self-directed plan, you can stop your contributions at any time for free.

The scholarship option comes with one major benefit over self-directed plans: life insurance. "If either I or my wife dies, the plan matures automatically without any more payments being made," says Bortolotti.

Still there are other pitfalls with scholarships: With many of them, kids must pursue continuous study. If they take any time off, they forfeit all or part of the plan's money.

Trust funds
There are two kinds of trust funds: informal and formal. The first is more common and easier to set up; you can do it through most banks and financial advisers. Formal trusts, called "inter vivos trusts," require a designated trustee, separate from the contributor, as well as a lawyer. No trust fund is eligible for the CESG.

Mastracci prefers RESPs to trusts for a few other reasons. "Trusts can't be family trusts, you have to open individual plans for each child," he says. "And there's no tax deferral. If the trust earns interest or dividends, you pay tax on it."

And perhaps the most important difference: When your child hits the age of majority, the assets in the trust are hers to spend however she wants. Can you say Lincoln Navigator? How about breast implants? No matter how distasteful your child's choice, it's hers to make.

With an RESP, you determine how much they get and for what purpose --tuition of course, but will you allow funds to be diverted to dorm living or would you prefer your child live at home and save some bucks, for example?

With RESPs, the money must be spent on education, but you are in control. With trust funds, your children get that control before they are old enough to drink legally in the United States.

Jasmine Miller is a writer based in Toronto.