The Tax-Free Savings Account (TFSA) has been around long enough for financially savvy Canadians to realize that it is one of the best Canadian retirement accounts and far more than a tax-free savings account, as its name might suggest. Sure, the name is literally a tax-free savings account, but I think it’s better described as a powerful investment vehicle for the Canadian stock market investor.
Any returns from investments held in a TFSA do not incur taxes. Provided you follow the rules and use only eligible investments without exceeding your annual contribution room, your TFSA can turn into a powerful tool for long-term wealth growth. You can use it in various ways, from creating a self-directed pension for your golden years to a passive income stream.
Everything you earn in a TFSA is yours, without worrying about capital gains or dividend tax. Today, I will discuss how you can use the TFSA to hypothetically generate $500 per month in tax-free income without lifting a finger by using an Exchange-Traded Fund (ETF).
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Canoe EIT Income Fund
Canoe EIT Income Fund (TSX:EIT.UN) is a closed-end income-focused fund trading on the TSX that offers investors returns in cash as one of its primary goals. The $2.69 billion market-cap fund operates like a stock. It pays investors monthly distributions based on the number of units (or shares) they own. EIT.UN does this by holding a diversified portfolio of dividend-paying stocks split between dividend-paying companies in Canada and the US. The advantage of the fund is the income it can offer.
Unlike typical ETFs, Canoe EIT Income Fund is a higher-risk investment to consider. The fund uses leverage to offer potentially greater returns than the investments made by its shareholders. The fund’s management is allowed to borrow up to 20% of the portfolio’s value, meaning that it can operate with as much as 1.2 times the actual capital invested into the fund.
The leverage can be an excellent way to maximize the impact of positive returns. It will technically deliver greater returns than what its underlying holdings would typically offer. However, the leverage can also amplify the losses during market downturns. Higher-yielding returns always come with the caveat of potentially greater-than-usual losses.
With an ETF, however, the diversification tends to offset the losses from one asset held in the portfolio through better performance by others.
Tax-free monthly income
As of this writing, EIT.UN trades for $16.96 per unit and pays investors $0.10 per unit each month, translating to a 7.3% annualized dividend yield. Suppose you want to generate $500 in tax-free passive income each month. In that case, the table below illustrates how much you might need to invest in the fund to generate this amount each month.
| Ticker | Recent Price | Monthly Dividend Per Unit | Number of Units | Total Monthly Dividend | Investment Required |
| EIT.UN | $16.96 | $0.10 | 5000 | $500 | $84,800 |
Foolish takeaway
The example above is only to show how a high-yielding income-generating asset can return up to $500 per month in dividend income. I would highly discourage allocating too much capital to one or two assets. With an ETF, you get one-ticket exposure to a group of stocks, diversifying your income. However, I would advise creating a well-balanced portfolio with lower-risk investments to even out the odds.
