Accumulated Income Payments -AIP
Accumulated Income Payments (AIPs) are funds withdrawable from the Canadian government’s Registered Education Savings Plan if the beneficiary does not intend to attend college.
How Accumulated Income Payments Works
The Canadian government backs the Accumulated Income Payments through the Registered Education Savings Plan (RESP). Some of the unique features that accompany this savings plan include the following:
- Canadian parents can begin saving for their child’s college education right from the child’s birth.
- Either parent or relative can open an account in a credit union, bank, or other financial institution and begin making the contributions.
- The government, which sponsors the RESP, contributes a certain percentage as its portion towards the fund.
- The government matches the benefits up to $2,500 contributed per year.
- The maximum grant amount paid by the government is $7,200.
- The child, once in college, receives educational assistance payments (EAPs) which are the beneficiary’s income.
- If the beneficiary does not receive the payments, the contributor will receive back all the contributions tax-free.
The AIPs help a child go through college by receiving the EAP funds. The taxes on withdrawal of these funds is usually zero because the beneficiary is a student and deemed to have no income.
If the AIP discontinues, an income tax rate must apply and an additional federal penalty tax of 20 percent.
To avoid paying tax penalties, the contributor can roll the AIP funds into a registered retirement savings plan.
Another way to avoid paying tax penalties is to substitute the beneficiary’s name and instead register a younger sibling who plans to attend college.
A Real-World Example of Accumulated Income Payments
According to Globe and Mail, a couple confronted a difficult situation after an RESP investment they contributed to for their granddaughters grew an unprecedented amount. Their problem was that they could not withdraw all the money while their beneficiaries were still in college because the figure was already too big.
The financial advisor offered some options, which include making a withdrawal on the contributions. It means the contributor may get all the funds initially deposited into the RESP tax-free.
The other option is the Educational Assistance Payment. The advisor offered different modalities under which different EAPs work, including the size of the funds and the timing of the EAP. A child must enroll in the college’s full-time program to make the first withdrawal of up to $5,000.
The government sets an annual EAP threshold limit, which caps to a certain amount due to inflation—a maximum of $24,432 in 2020. For withdrawals of higher amounts, the college will need receipts to prove that the funds pay for education-related expenses.
An education-related expense can constitute tuition, rent if the student is living on their own, food, computers, furniture, care expenses, clothing, and just about any other cost the beneficiary incurs while studying.
Suppose a student studies an expensive course such as medicine or engineering and lives in an upscale city. The student would easily spend more than the set EAP limit on genuine expenses.
If the funds are unspent while the beneficiary is still in college, the withdrawal of the AIP will be taxable and face an additional 20 percent tax. The only other way is to roll over up to $50,000 to a retirement savings plan.
Significance of Accumulated Income Payments
The AIPs are an excellent opportunity to invest in a child’s college education over a long time, allowing the savings to grow tax-free.
The contributor assumes payment of AIPs only if the listed beneficiary will not pursue a college education. The fund also ends if there is no other beneficiary named or if the beneficiary is deceased.
The contributor can still gain full tax benefits if the RESP remains open for a period of up to 36 years. It could allow the beneficiary to go to college at a later time in their life.