People are searching for ways to boost income on savings to offset rising living costs. The trick is to increase earnings without being pushed into a higher tax bracket. Fortunately, a Tax-Free Savings Account (TFSA) offers investors a way to generate tax-free passive income.
GICs or dividend stocks
Soaring interest rates make servicing debt more expensive, but the upside to rate hikes is a jump in the rates savers can get from Guaranteed Investment Certificates (GICs). In fact, GIC rates are now at their highest levels in years, paying above 5%. This gives investors a chance to earn attractive risk-free returns on fixed-rate terms of up to five years.
GICs, however, might not be the best choice if you need emergency access to the principal investment in the TFSA. In addition, rates might go even higher, so locking in for several years could result in missed opportunities for better returns.
Dividend stocks have the advantage of liquidity. You can sell the shares at any time to access your money. Top-quality dividend stocks tend to increase their distributions on a regular schedule, so the yield on the initial investment increases with each dividend hike. Great dividend stocks also tend to see the share price move higher over the long run, which can generate nice capital gains.
The downside of owning stocks is the fact that share prices can fall below the purchase price, and companies that get into financial trouble sometimes cut or eliminate their dividend payments. Investors have to be comfortable with the risk associated with owning stocks when deciding on the investments they want to hold inside their TFSA.
At the moment, many good dividend stocks trade at discounted prices and offer dividend yields that are above GIC rates.
The TFSA limit in 2023 is $6,500. This brings the cumulative maximum TFSA contribution space to $88,000. Investors will see the TFSA limit increase by at least $6,500 in 2024.
Unused contribution space can be carried forward, and any funds removed from the TFSA open up new contribution space in the next calendar year. This provides TFSA investors with good flexibility to manage their savings.
Good stocks to buy for passive income
Enbridge (TSX:ENB) is one example of a top dividend-growth stock that now offers a great dividend yield.
The share price is down considerably over the past year due to the impact of rising interest rates. Energy infrastructure is a capital-intensive business, and firms use debt as part of their funding solution for growth projects. Higher borrowing costs can put a pinch on cash available for dividends and share buybacks.
In Enbridge’s case, the pullback in the stock price is probably overdone. The company’s $17 billion capital program is expected to support gains in earnings and distributable cash flow over the next few years. Enbridge can also make strategic acquisitions to boost revenue.
ENB stock currently offers a dividend yield of 7.3%. That’s attractive for a company that has increased the distribution for 28 consecutive years.
The bottom line on TFSA passive income
Investors can put together a diversified portfolio of GICs and high-yield dividend stocks today that would generate an average yield of 6%.
On a TFSA of $50,000, this would generate $3,000 per year in tax-free passive income. That works out to $250 per month!