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How I’d aim to generate passive income with £20 a week

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Working for income is something millions of people do. But not everyone spends their weeks slogging away. Passive income is money one receives without working for it. Even if it doesn’t substitute one’s regular job, it can at least provide a welcome financial supplement to it. One of my favourite passive income streams is investing in UK dividend shares and collecting the payouts.

Here is how I would look to start generating passive income streams by putting aside just £20 a week.

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UK dividend shares as passive income streams

First I should explain exactly why I like investing in UK dividend shares as passive income streams. They give me access to high-quality businesses I could never run myself. As a passive income idea, I could set up an online shop. But alternatively, I could invest in a company which already runs a chain of shops with proven success, such as Tesco, B&M, or JD Sports. Such companies have scale and expertise I could never match running an online shop from a spare room or garage.

So by investing in such companies, I am participating in an existing, proven business without having to do the work myself. If they pay dividends, I will earn passive income. Dividends are never guaranteed – sometimes a company’s fortunes can change rapidly and payouts stop. That happened at Tesco some years ago, although it has since restarted dividends. That’s why for passive income I would seek to invest across multiple companies and business sectors. That sort of diversification would help give me some protection against the risk of any one company underperforming.

£20 a week can go far

It might seem hard to believe, but even with a relatively small amount of money one can own part of businesses like these and benefit from their success. Putting aside £20 a week would add up to just over a thousand pounds a year I could invest in UK dividend shares. Investing that in shares with an average “yield” of 5%, I could expect 5% of my investment back in dividends each year. That would be £50. That would come my way each year, if the companies kept paying out, and could increase over time.

How could I know which companies would increase their payouts and which ones would cut them? The short answer is that I wouldn’t. There is a risk with any share that business performance may change. The dividend could be cut or cancelled. With £20 a week, I could spread my first year’s investment over several companies and achieve a bit of diversification. In the following years, as my capital pile grew, I would look to diversify more.

Choosing UK dividend stocks to buy

With limited funds I would emphasise quality when choosing shares. So I wouldn’t necessarily just buy the highest yielding ones. Instead I’d look for quality companies whose future prospects look strong to me.

How high is future customer demand likely to be? Does the competitive landscape suggest ongoing pricing power? How comfortably could free cash flows cover dividend payments? Based on my answers to these questions, I would dip my toe in the water. With £20 a week, I could start to set up more financial security for myself in the longer term.

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Christopher Ruane has no position in any shares mentioned. The Motley Fool UK has recommended B&M European Value and Tesco. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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