RESP Account And Tax Deferral
It is quite common that U.S. citizens living in Canada hold a Registered Education Savings Plan (RESP) on behalf of their children.
A RESP account allows money deposited for a child’s post-secondary education to grow on a tax-deferred basis. Unfortunately, unlike RRSPs, the RESP is not considered to be a tax-deferred plan for U.S. tax purposes. They are not granted the same tax-deferral election under the US-Canada Treaty as an RRSP.
RESP Income Is Taxable In The U.S.
Income earned in the RESP is taxable to the subscriber (generally the parent) on their U.S. return in the year the income is earned. It is important to note that any grant received from the Government of Canada, such as Canada Education Savings Grants (CESGs) in the RESP is also considered income, and is taxable in the U.S. in the year it is received. Thus, all interest, dividends and capital gains inside those plans must be reported annually on your U.S. tax return.
Further, if any holdings in the account include foreign mutual funds, it is likely that they are considered PFICs and would require additional disclosure on the Form 8621.
U.S. persons must report this income on their U.S. tax return, despite the fact that they are not required to do so for Canadian tax purposes.
In the case of RESPs, this can result in double taxation on the RESP– once in the hands of the parents on their U.S. tax return, and again in Canada in the hands of the child when the funds are withdrawn from the RESP several years later.
Foreign Trust Treatment Of A Registered Education Savings Plan
In addition to these negative consequences, the IRS considers RESPs to be a foreign trust. The RESP subscriber will have to file Form 3520, Annual Return To Report Transactions with Foreign Trusts and Receipt of Certain Foreign Gifts for any year in which they contribute to, or withdraw from, these plans.
In addition, the subscriber will need to file Form 3520-A, Annual Information Return of Foreign Trust with a U.S. Owner for any year that the plan exists. A separate set of each form will be required for each RESP account.
The Form 3520 and Form 3520-A foreign trust returns are complicated to prepare and thus, the compliance required for these investments can become very costly. Not to mention that there can be significant penalties for failure to file the forms.
One practical solution to these issues is to transfer the RESP into the hands of a non-U.S. citizen/resident subscriber. Typically, a non-U.S. parent, grandparent or other relative becomes the subscriber. This transfer does not, however, address the filing requirements of the U.S. citizen for the tax years in which they were still the subscriber. However, it will provide relief on a go-forward basis for future years.
It is important to recognize that the U.S. tax rules treat certain items differently than they are treated under Canadian tax rules (the same can be said for any other country for that matter). In the case of RESP accounts, they are never treated as tax-deferred vehicles in the U.S., and are generally subject to U.S. foreign trust tax filing obligations.
FBAR Reporting For RESP Accounts
Finally, it is important to note that all of the accounts discussed in this article must be disclosed on the FinCen Form 114 (FBAR) and IRS Form 8938, Statement of Specified Foreign Financial Assets, if the respective filing thresholds for these two forms are met.
Our goal at Tax Samaritan is to provide the best counsel, advocacy and personal service for our clients. We are not only tax preparation and representation experts, but strive to become valued business partners. Tax Samaritan is committed to understanding our client’s unique needs; every tax situation is different and requires a personal approach in providing realistic and effective solutions.
Click the button below to request a Tax Preparation Quote today to get started with the reporting of your RESP accounts.
Tax Samaritan is a team of Enrolled Agents with over 25 years of experience focusing on US tax preparation and representation. We maintain this tax blog where all articles are written by Enrolled Agents. Our main objective is to educate US taxpayers on their tax responsibilities and the selection of a tax professional. Our articles are also designed to help taxpayers looking to self prepare, providing specific tips and pitfalls to avoid.
When looking for a tax professional, choose carefully. We recommend that you hire a credentialed tax professional such as Tax Samaritan that is an Enrolled Agent (America’s Tax Experts). If you are a US taxpayer overseas, we further recommend that you seek a professional who is experienced in expat tax preparation, like Tax Samaritan (most tax professionals have limited to no experience with the unique tax issues of expat taxpayers).
Randall Brody is an enrolled agent, licensed by the US Department of the Treasury to represent taxpayers before the IRS for audits, collections and appeals. To attain the enrolled agent designation, candidates must demonstrate expertise in taxation, fulfill continuing education credits and adhere to a stringent code of ethics.
Every effort has been taken to provide the most accurate and honest analysis of the tax information provided in this blog. Please use your discretion before making any decisions based on the information provided. This blog is not intended to be a substitute for seeking professional tax advice based on your individual needs.