Generating passive income can be complicated in a taxable account due to varying tax rules on dividends, capital gains, and foreign income. However, a Tax-Free Savings Account (TFSA) simplifies the process by eliminating taxes entirely on investment income.
With the right strategy, a TFSA can be used not just for long-term growth but also to produce steady, tax-free cash flow.
Why a TFSA Is Ideal for Passive Income
In a non-registered account, calculating income isn’t straightforward. Different income types are taxed differently, which reduces your net return. For example:
- Eligible dividends receive favorable tax treatment
- Foreign income is fully taxable
- Capital gains are partially taxed
Inside a TFSA, none of this applies. All income—whether from dividends, interest, or capital gains—is completely tax-free. This makes it easier to plan for a specific income target without worrying about after-tax adjustments.
Choosing the Right ETF Strategy
While the TFSA offers tax advantages, choosing the right investment still matters. Investors should focus on:
- Low fees
- Broad diversification
- Sustainable income strategies
High-yield strategies using leverage or covered calls may boost income, but they often come with higher risk and lower long-term returns.
A Simple ETF for Income and Growth
One option to consider is the BMO Growth ETF Portfolio. This is an asset allocation ETF that holds a diversified mix of investments:
- About 80% in global equities
- Around 20% in global bonds
This structure provides both growth potential and some stability. The management fee is relatively low at 0.18%, making it cost-efficient.
However, the standard version of the ETF offers a yield of only about 1.4%, which may not be sufficient for income-focused investors.
Higher Income With ZGRO.T
To address this, BMO offers a modified version called ZGRO.T, which targets a higher and more consistent monthly payout.
Instead of relying solely on dividends, it combines:
- Dividend income
- Realized capital gains
- Return of capital
This approach increases the yield to approximately 5.4%, making it more suitable for passive income strategies.
How to Reach $4,360 Per Year
Let’s break down how you could generate $4,360 annually:
Step-by-step calculation:
- Target annual income: $4,360
- Monthly income goal: $363
- Monthly distribution per unit: $0.058
To reach your target:
- Required units: ~6,264
- Current price per unit: ~$12.98
Estimated investment needed:
6,264 × $12.98 ≈ $81,300
This means you would need approximately $81,300 invested in ZGRO.T to generate about $363 per month in tax-free income.
Important Considerations
While the income stream is designed to be stable, it is not guaranteed. The value of the ETF will still fluctuate based on market conditions, and distributions may change over time.
Investors should also remember that return of capital can affect the underlying value of the investment.
A TFSA can be a powerful tool for generating tax-free passive income when used strategically. By combining diversification, low costs, and a reliable income-focused ETF like ZGRO.T, investors can create a steady income stream without the burden of taxes.
However, it’s important to understand the risks and ensure the strategy aligns with long-term financial goals.