Many people fail to realize how vital asset allocation can be. Choosing the right thing to invest in, or the right company to invest it (if you are partial to the stock market) is just one variable in the equation. Where you place it (An RRSP, a TFSA, or an unregistered account) can have long-lasting impacts on your financial planning and wealth building.
While the TFSA is relatively newer when we compare it to the RRSP, it’s still old enough that most of the confusion around it should have been cleared up by now. Unfortunately, many Canadians are still using the TFSA the wrong way. Many use it just to hoard cash, where (thanks to interests) it barely grows enough to keep up with the inflation. But that’s not the only massive mistake TFSA investors are making.
Massive TFSA mistake
According to the CRA, only one in five TFSA investors fill their TFSA to the brim. Almost 80% of TFSA holders don’t max out their TFSAs. This is an understandable pattern when it comes to the RRSP because of its generous contribution limit. But you usually only get to invest $6,000 a year in your TFSA, which comes down to $500 a month – a sizeable amount for many Canadians, but still quite manageable.
This is an unfortunate underutilization of a potent tool. For most Canadian, it’s better if the saving and investment strategy starts with fully contributing to the TFSA. If you are one of the 80% Canadians who aren’t maxing out their TFSA yet, you may want to start now.
What should be in your TFSA
In order to maximize the benefit you can get out of your TFSA, just maxing it out isn’t enough. You also need to pick the right stocks to grow your TFSA. One of the stocks that can help you increase your funds at a decent pace is Northland Power (TSX:NPI). It owns and develops clean and green power facilities and has a stake in power generation facilities capable of producing over 2,600 MW.
The company has a geographically diversified portfolio of power generation facilities. It has a stake in off-shore wind farms in the Netherlands and Germany, onshore renewable and thermal in Canada, and two under construction facilities in Mexico and Taiwan. It has a market cap of $8 billion, and despite having very high levels of debt, the balance sheet looks strong.
It also pays monthly dividends and is currently offering a yield of 3%. The payout ratio is stable enough and the dividends seem safe. But capital growth is the actual reason to buy into this company. Its five-year compound annual growth rate (CAGR) is at 24.3%. At this growth rate, it can convert about half of a fully stocked TFSA i.e., $35,000, into a million-dollar nest egg in less than 16 years.
You should try your best to max out your TFSA every year. If it’s challenging to do with your current income, you may want to look into budgeting, cost-cutting or a secondary income and saving at least $500 a month to put in your TFSA. Without a proper investment goal and financial discipline to save enough every year, you will have a hard time creating any decent-sized nest eggs for yourself.
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 Adam Othman has no position in any of the stocks mentioned.