Canada Revenue Agency Taxes CPP and OAS Pensions: Here’s a Better Way to Get Passive Income With a TFSA!

Here’s how you can generate tax-free income in retirement and supplement your OAS and CPP payout.

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I hate to bring you bad news, but the Canada Revenue Agency taxes your CPP (Canada Pension Plan) and Old Age Security (OAS) pensions. These two pension programs aim to provide a steady stream of recurring income for Canadians on retirement. However, if your net income is over a certain limit, the CRA will levy a tax on your monthly pension payout.

After CRA taxes your pension, you might have to crack open your retirement nest egg to fund a comfortable lifestyle. However, if you spend your principal income rather than the interest, there is a high risk of running out of savings, which is a major threat for retirees. Further, it’s not advisable to depend only on pension programs to fund your retirement.

There are several ways to keep the Canada Revenue Agency from taxing your pension. You can look to delay the CPP payout until the age of 70. This will not only result in a 42% higher monthly income but may also help to reduce a clawback on your OAS.

There is another way to finance your retirement and pay zero taxes to the Canada Revenue Agency. With high-yield dividend stocks in your TFSA (Tax-Free Savings Account), you will be able to supplement your taxable pension income to realize a generous payout.

Dividend stocks provide investors an opportunity to grow wealth via dividend payments as well as capital gains. Any withdrawals from the TFSA are exempt from Canada Revenue Agency taxes, making it a viable account to hold quality dividend-paying stocks. These withdrawals are also not counted as part of your net income.

Alternatively, if you hold investments outside a TFSA, you run the risk of triggering an OAS clawback if your net income is over the threshold limit.

A top-quality utility stock for your TFSA

The TFSA contribution room for 2020 is $6,000, while the cumulative TFSA contribution limit is $69,500. You can calculate your TFSA contribution limit for 2020 and allocate capital to buy utility stocks such as Algonquin Power & Utilities (TSX:AQN)(NYSE:AQN). Shares of this Canadian utility giant are trading at $17.68, which is 21% below its 52-week high.

The recent pullback in share prices has increased Algonquin’s forward yield to 4.8%. This means an investment of $69,500 in the stock will generate annual dividends of $3,336. The company’s stable stream of income makes a dividend cut unlikely.

In fact, Algonquin managed to increase dividends by 10% in the March quarter. It has increased dividends every year since 2011.

Algonquin is not just attractive for its dividends; it is also a growth stock. The company provides essential services to 800,000 customers and is forecast to grow sales to US$2.17 billion in 2021, up from just US$1.62 billion in 2019.

Its rate-regulated business model makes Algonquin a solid bet in an uncertain macro environment. The company is focused on acquiring new facilities and driving top-line growth higher. Company shares are up close to 100% in the last five years and should be on the radar of most Canadian investors.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Aditya Raghunath has no position in any of the stocks mentioned.

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