How to Use a TFSA to Earn $250 per Month in Tax-Free Passive Income

This low-cost Canadian dividend ETF can help you kick-start a TFSA for passive monthly income.

Tony Dong, MSc, CETF® ❯

Tony started investing during the 2017 marijuana stock bubble. After incurring some hilarious losses on various poor stock picks, he now adheres to Bogleheads-style passive investing strategies using index ETFs. Tony graduated in 2023 from Columbia University with a Master's degree in risk management. He holds the Certified ETF Advisor (CETF®) designation from The ETF Institute. Tony's work has also appeared in U.S. News & World Report, USA Today, NYSE ETF Central, NASDAQ Fundinsight, Cboe ETF Market, TheStreet, and Benzinga. He is the founder of ETF Portfolio Blueprint (https://etfportfolioblueprint.com)

Published September 17, 2024 3:45 pm EDT

Remember, all growth – whether from capital gains, interest, or dividends earned within a Tax-Free Savings Account (TFSA) – remains tax-free. This benefit extends even when you decide to withdraw your funds!

While reinvesting these earnings can help your savings compound, it’s also possible to use this account to supplement your income. Even an extra $250 each month can make a significant difference in covering life’s essential expenses—think utilities, phone bills, or car insurance.

Here’s how you can use a monthly dividend exchange-traded fund (ETF) within your TFSA to generate $250 per month in tax-free passive income.

The ETF to buy

To earn a stable $250 per month from your TFSA, it’s essential to choose an ETF that offers monthly distributions, boasts a robust yield – ideally around 5% – and comes with a reasonable risk profile and cost.

My preferred choice for achieving this is the iShares S&P/TSX Composite High Dividend Index ETF (TSX:XEI), which charges a 0.22% expense ratio.

This ETF targets the 75 highest-yielding dividend stocks within the S&P/TSX Composite Index, predominantly populated by sectors like banks, telecommunications, and energy companies.

The appeal of XEI lies in its ability to provide a trailing 12-month yield of 5.2%, which refers to the total dividends paid over the last year divided by the current share price, adjusted for any stock splits that occurred during the period.

Historically, with dividends reinvested, this ETF has delivered an annualized total return of 7.4%. Even if you choose to withdraw the dividends to supplement your income, the investment would still compound at an annual rate of 2.2%.

How much do you need to invest?

Assuming XEI’s most recent August monthly distribution of $0.113 and the current share price at the time of writing of $26.36 remained consistent moving forward, an investor using a TFSA would need to buy roughly $58,308 worth of XEI, corresponding to 2,212 shares to receive around $250 monthly tax-free.