Tax-Free Savings Account (TFSA) users who think a $1 million balance is unimaginable undermine the power of the tax-advantaged account. Either the investment horizon is short term, or their finances won’t allow maxing out annual contribution limits.
One million in a TFSA will generate $40,000 annually if the rate of return of the income-producing assets in the account is 4%. However, the yearly passive income could be much higher if the stocks are Bank of Nova Scotia (TSX:BNS) and BCE (TSX:BCE). The average yield of these two dividend heavyweights is 6.99%.
TFSA limitations
The Canada Revenue Agency (CRA) sets a yearly TFSA dollar limit and announces it every November. Because of this annual contribution limit, a user can’t make a lump sum contribution to purchase BNS and BCE shares. The limit for 2024 is $7,000, but if you have never contributed to a TFSA and have been eligible since 2009, you can contribute $95,000 or the cumulative contribution room.
BNS trades at $60.90 per share and pays a 6.96% dividend, while it’s $55.20 and 7.01% for BCE. Given their current share prices and dividend yields, you would need to own 822 shares of BNS ($50,059.80) and 906 of BCE ($50,011.20). Your money would compound to $1,023,139.76, including dividend reinvestment, in 19.5 years.
The example assumes the prices and yields are constant throughout the period and beyond. Your annual TFSA tax-free income would be $71,496.90.
Taking steps for the next growth phase
Canada’s fourth-largest bank impressed investors little during its most recent earnings release. In Q4 fiscal 2023, BNS’ profits dipped 33.5% to $1.4 billion versus Q4 fiscal 2022. The apparent reason is the 138.2% year-over-year increase in provisions for credit losses to $1.3 billion. For the full fiscal year, net income fell 26% to $7.5 billion versus fiscal 2022.
Besides a higher PCL, its CEO Scott Thomson said the quarterly results reflect front-loading of costs that should translate to earnings growth ahead. The $73.9 billion bank can navigate a potentially difficult economic scenario in fiscal 2024 due to its improved balance sheet strength and liquidity positions.
Some analysts say the loan-loss provision is too much, while others believe the bank is taking necessary steps for future performance.
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Cash cow
BCE is a cash cow, and cash cows are ideal holdings in a TFSA. This $50.4 billion telecommunications company provides essential wireless, wireline, and Internet services without which people can’t live. Its net income has increased yearly since 2020, with an average of $2.8 billion.
Expect BCE to earn more brownie points from people and businesses following its recent acquisition of additional spectrum licenses through the federal government. Combining 3500 MHz and 3800 MHz spectrum bands would bring super-fast and reliable 5G+ wireless service.
Sound advice
Financial experts advise starting early when investing in a TFSA. The power of compounding is at play when you reinvest the dividends. Since money growth in a TFSA is tax-free, the balance grows faster. The second advice is to maximize the annual limits as much as possible. Otherwise, try to catch up because unused contribution room carries over to the following year.
Wealth-builders BNS and BCE complete the ingredients to financial success. When you’re retired and start living off the tax-free income, TFSA withdrawals are also tax-exempt.
