Canadian investors are taking advantage of their self-directed Tax-Free Savings Account (TFSA) contribution room to build portfolios of investments that can deliver tax-free income in retirement.
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TFSA basics
Canada launched the TFSA in 2009 as a new program to complement the Registered Retirement Savings Plan (RRSP) to help people set cash aside to meet financial goals. Since inception, the TFSA cumulative maximum contribution room has grown to $109,000.
Dividends, capital gains, and interest earned on qualified investments held inside the TFSA are non-taxable, either inside the TFSA and when withdrawn. This provides investors with two advantages that are not available when funds are held in taxable investing accounts. People who find themselves in the highest marginal tax brackets can particularly benefit from using the TFSA.
Power of compounding
One popular TFSA investing strategy involves owning top Canadian dividend stocks and using the distributions to automatically buy new shares. Each time a dividend payment is used to acquire more of the same stock, the next dividend payment is larger. This snowball effect takes time to get rolling, but the long-term impact can be significant, especially when the company raises the dividend at a steady pace.
Fortis (TSX: FTS) is a good example of a top Canadian dividend stock to consider for a TFSA portfolio. The company has increased the dividend in each of the past 52 years and plans to raise the dividend by 4% to 6% annually through at least 2030.
Fortis gets most of its revenue from businesses involving power generation facilities, electricity transmission grids, and natural gas distribution utilities. These are rate-regulated operations that churn out predictable and reliable revenue streams.
Fortis is working on a $28.8 billion capital program that will increase the rate base by about 7% per year over five years. This should support the planned dividend increases as the new assets are completed and begin to generate cash flow growth.
Long-term investors have done well with Fortis. A $10,000 investment in the stock just 15 years ago would be worth about $40,000 today with the dividends reinvested.
OAS clawback
Seniors who have high annual incomes can take advantage of their TFSA contribution room to generate income that won’t put their Old Age Security (OAS) pension at risk of a clawback. The CRA implements a 15% OAS pension recovery tax on every dollar of net world income above a minimum threshold. The magic number for the 2026 tax year is $95,323, so a person with net world income of $105,323 in 2026 would see their total OAS reduced by $1,500 for the July 2027 to June 2028 OAS payment period.
Company pensions, CPP, OAS, RRSP or RRIF withdrawals, and income on investments held in taxable accounts all count toward the net world income total. A person who collects maximum government pensions and has a generous company pension can quite easily top the $95,000 mark. As such, making sure the full TFSA contribution space is used to hold income-generating investments before holding investments in a taxable account is a wise strategy for most seniors.
The bottom line
The TFSA is a valuable tool for Canadian investors to plan their retirement income stream in a way that can reduce their tax hit. With the cost of living steadily on the rise, every dollar kept in your pocket is a win.
