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This year, eligible Canadians can contribute $6,500 based on the Tax-Free Savings Account (TFSA) contribution limit. While it is best to take advantage of the entirety of the tax-free room, you only need to invest $2,000 per year for the next 15 years to earn at least $1,513 in annual income. To earn more than $1,513 per year you need to invest in solid dividend stocks that pay out safe dividends. Toronto-Dominion Bank (TSX:TD) is an excellent example.
Why invest in TD stock?
Toronto-Dominion Bank is a quality business that is able to make more profits over time. Simultaneously, it delivers solid long-term returns for its shareholders. For instance, in the past 10 years, it increased its share price and dividend by approximately 7.9% and 9.4%, respectively, per year.
Of course, the fact that the bank stock has dipped about 14% in the last 12 months makes it a good buying opportunity for long-term investment.
TD data by YCharts
Currently, investors can gobble up shares for a compelling dividend yield of 4.7% and discount of approximately 20% from the bank’s long-term normal valuation. That’s an awesome discount for the wonderful business with an S&P credit rating of AA-.
Invest $2,000 and earn $1,513 in passive income
|Year||TD stock price
|Contribution||# shares bought||Total shares||Dividend per share
You don’t even need to use up your $6,500 TFSA limit to get decent passive income rolling in. Based on the scenario illustrated in the above table, you’re investing $2,000 at the start of each year to get the quarterly dividends for the rest of the year.
The first $2,000 buys you 24.6 TD shares and brings in $94.46 of dividend income for the year. The scenario assumes the TD stock price grows at a compound annual growth rate (CAGR) of 7.5%. You can see that by investing the same amount (of $2,000), you’re buying a lower number of shares over time because the stock is worth more over time. If the company continues to grow its dividend by 9% annually, by the 10th year, you own 181.5 shares that produces you $1,513.91 in passive income.
In fact, if we were to continue the projection, even if you don’t buy more shares after 10 years, you can expect to earn more and more passive income from your TD holding if the stock continues to increase its dividend.
If you had invested $6,500 instead each year in the stock, you would make $4,920.21 in annual passive income by 2032. However, you’d want to build a diversified TFSA portfolio to spread your risk across a group of stocks that you expect will become more profitable over time, which is why the example uses $2,000.
Limitations of the TD stock example
There’s a limitation in the TD stock example. It assumes a CAGR. However, in reality, stocks are volatility. Stock prices can be down one year and up much more the next. Their dividends don’t grow smoothly at a specific rate either. Moreover, it’d be easier to save and invest $166.67 per month instead to add up to $2,000 a year with commission-free platforms like Wealthsimple.