Creating passive income through shares is very easy and relatively cheap for those of you who want to create an income stream that with some careful selection can outlive several generations.
What is a share? –A share represents an ownership in a public company. That’s right if you buy a parcel of shares in a company the company is now reporting to you. Your decision at the Annual General Meeting can help direct the future of the company. When you first buy a share it can be registered against your name, a business name, a trust, or under you and your partners name. A share has no expiry date so therefore if you purchased Consolidated Edison, Inc in 1979 for $6.09USD and it is now worth $78.51 USD in 2019. This is only a 40-year period but stocks can be owned for much longer than that. Over this time the company will pay dividends to the owners.
What is a dividend? A dividend is a payment made from a company to the owners as consideration for investing in that particular company. An investor wants a return for the money that they have invested in the company and that can either come from dividends or capital growth. The alternative to a dividend being dividend growth represents the increase in the share price over a period of time. Say you initially buy a share at $10 and after 1 year it is now $15 then you have a $5 capital gain. Generally the dividend and realized capital gains will be taxable with unrealized capital gains not being taxable. An unrealized capital gain is when you are still holding onto the share and have not sold it. When you sell the share the unrealized gain will become realized and that is when the item becomes taxable.
Average Dividend Yield – This answer can vary wildly but I would say that between 1-5% dividend yield in a year is average. There are stocks that pay a much larger dividend and there are stocks that do not pay a dividend. Generally the dividend yield will help explain where the business is. A company which is paying a large dividend may need the money urgently in the short term and are willing to offer up a bigger yield to investors in order to get lots of money in. Usually the bigger dividend yield will come at a cost of capital growth in the long run. A company offering no dividends will be focusing entirely on growth and as a result long-term share price growth or capital growth. There is a trade off for each option and you need to choose which option you are after before investing.
Frequency of dividend- The most common dividend frequency is semi annual, which will occur 6 months apart. However some dividends pay once a year, some pay every month and some don’t pay dividends at all. The frequency is entirely up to the company and they are able to change it at any time they want. Generally they wont change it as investors see this as a bad sign, a sign that the financial strength of a company is poor and often you will see an adverse movement in the share price if a business was to do this.
Dividend aristocrat A dividend aristocrat is a company that has generated 25+ years of dividend growth. This can be a good result for an investor as a rising dividend means they are getting growing returns from their initial investment. If you were to only select dividend aristocrats over the last 25 years your portfolio would be doing an excellent job. Some dividend aristocrats on the NYSE are:
– 3M Company (MMM)
– AT&T (T)
– Chevron Group (CVX)
– Colgate Palmolive (CL)
– Exxon Mobil Corp (XOM)
Whereas some dividend aristocrats on the ASX include:
– ARB Corporation Limited (ARB)
– CSL Limited (CSL)
Note – even though CSL is a dividend aristocrat it pays a really small dividend yield at around 1.32%. So just because the company is a dividend aristocrats does not mean that they pay a high dividend yield.
Dividend Reinvestment Plan or DRIP – Some companies will offer a Dividend Reinvestment Scheme (DRS) or Dividend Reinvestment Plan (DRP), this is when instead of the investor receiving a cash payment of a dividend into their selected bank account, and they will instead receive additional shares in the company. So say the share price of a company is $10 at the time the dividend is paid out and they pay a 5% dividend, an investor who owns 100 shares will receive instead of $50 in cash, they will receive an additional an additional 5 shares in the company. The next time the company pays its 5% dividend they will calculate it on 105 shares owing to this company. This is often an excellent set and forget plan, if you buy the shares sign up for the DRP plan and forget about them for 50 years, the initial number of shares you would have bought would be increased substantially over the 50 years. There is however a trade off with this DRP system that is if the company you acquired was a good performer when you first bought it and had 10 years of good performance, and then became a poor performer for the next 40 years. If you had set and forgot about these, the reinvested money could be invested better elsewhere. So you just need to keep that in mind when you establish the DRP system. Remember that you can join and unjoin the DRP system at any stage so you are not locked it at all. The last thing is that this method can mean you own a percentage of a share. As you will not always have the exact amount to buy 1 full share you end up with part share ownership which is no problem at all, you still get your return calculated on the full amount invested not rounded down to the nearest share.
What is the difference between “Issuer sponsored” and “CHESS sponsored” holdings?
This can be a little confusing at times for investors; they are very similar and won’t affect you much. Issuer sponsored shares are managed by the issuer of those shares via the issuer’s Share Registry. This allows them to be traded via any broker and they are then allocated a SRN beginning with an “I”. In contrast to this are the CHESS sponsored shares, which are registered to a particular stockbroker. They are required to be converted before being sold which a process completed by the stockbroker. A CHESS sponsored share beings with a “X”. Generally if you purchase all your shares through a broker such as CommSec then they will usually fall under the CHESS sponsored category. You can transfer shares between CHESS and Issuer sponsored. For more information on this topic please see – The difference between Broker Sponsored and Issuer Sponsored.
So how do you make passive income through dividend investing?
Here is what you do:
Step 1. Save up your cash
The minimum parcel of shares on the ASX is $500 on the NYSE the minimum is $1 (although buying $1 worth of shares would not be advisable as there may be transaction costs which could be up to $30). Therefore you need to make sure you have the cash to invest as your first step.
Step 2. Select your investment
Determine which company you want to invest in, this should be inline with your investment strategy and overall goals of what direction you want your investments to take. After you select the company then you can proceed.
Step 3. Invest
There are many different online brokers you can use to purchase the shares, some popoular ones include CommSEC, Robinhood, Fidelity, Etrade etc. Choose wisely as they all have their advantages and disadvantages.
Step 4. Wait
Again once in line with your investment strategy, determine if you will sign up for the dividends to be reinvested or not, or whether you just receive the cash dividends as passive income. That’s it – after you initially invest any dividends paid out is now passive, no more heavy work to do (if that’s what you are after).
There you go – that should be just a taster of passive income through shares and dividend investing.
Disclaimer– The information on this website is for general information purposes only. It is not intended as legal, financial or investment advice and should not be construed or relied on as such. Before making any commitment of a legal or financial nature you should seek advice from a qualified and registered legal practitioner or financial or investment adviser. No material contained within this website should be construed or relied upon as providing recommendations in relation to any legal or financial product.
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