4 simple passive income ideas and why I like them

Our writer sets out four well-known UK dividend shares he’s considering for his portfolio as passive income ideas and explains what he likes about them.

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Passive income is money that comes in without having to work for it. That might sound too good to be true, but there are lots of sources of passive income. One of my favourite passive income ideas is investing in UK dividend shares. I like that because it means I can benefit from the hard work and success of some of the UK’s leading companies.

Here are four passive income ideas I would consider using for my portfolio right now – and why I like them.

Financial services: Legal & General

The multi-coloured umbrella of insurance and financial services provider Legal & General (LSE: LNG) is instantly recognisable to generations of people. That’s good for the business as it helps it to attract and retain customers without needing to spend as much money on marketing as newer market entrants like fintechs.

That’s not the only attractive thing about the company. Its business model, especially in investment management, has enabled it to post strong revenue and profit gains over the past decade. The company has been good at passing this on to shareholders in the form of dividends. Unlike many insurers, it didn’t cancel or postpone its dividend during the pandemic. Currently, the shares offer a dividend yield of 6.2%. The company has also set out plans to keep raising its dividend in coming years. But dividends are never assured and the company does face risks. These include pricing pressure in the insurance market, which could depress profits.

Smoking products: British American Tobacco

Tobacco can be a good source of passive income. Tobacco companies are out of fashion and some investors shun them on ethical grounds. That has deflated share prices, pushing up dividend yields. On top of that, there’s a risk that declining smoking rates in many markets could hurt revenues and profits. That weighs on the share prices of leading UK tobacco companies.

But I still see tobacco companies as good passive income ideas for my portfolio. Consider as an example British American Tobacco (LSE: BATS), a share I hold at the moment. The company owns a portfolio of brands including Lucky Strike. The mixture of brands allows the company to target different markets and a customer base with a range of spending power. Premium brands also give the company pricing power. That means it can rely on brand loyalty to raise prices without damaging sales too much. That’s attractive in any industry, but in one like tobacco where customer demand is declining, it’s imperative to maintain profits. It can also help offset input cost inflation, a risk for the profits of many consumer goods companies right now.

With quarterly dividends and a dividend yield of 8.1%, British American Tobacco is one of my favourite passive income ideas. It has raised its payout annually for over 20 years. It’s also working hard to develop its non-cigarette business, which could help mitigate the revenue and profit impact of declining cigarette sales. But even with its attractive history of raising dividends, they’re never guaranteed.

Energy conglomerate: DCC

While the company flies below the radar of many investors, one of the passive income ideas I would consider for my portfolio is conglomerate DCC (LSE: DCC). It operates in fields ranging from energy distribution to healthcare.

With a yield of 2.6%, DCC is much less rewarding than some of the other names on my list of passive income ideas. So why would I consider buying its shares for my holdings? A look at the track record illustrates what I like about the company. It has been raising its dividend annually for several decades. Nor are these increases tokenistic. Last year, in the midst of the pandemic, the company grew the dividend by 10%.

The reason I like DCC isn’t really its dividend, though, so much as what it says about the business and its future income potential. The company has strong management, a proven business model, and a leading position in markets with high barriers to entry, such as gas distribution. I think that combination of factors could help it produce strong profits for years to come. That can hopefully support a growing dividend.

But there are risks. One is the volatile gas price, which could eat into profits in the gas distribution business depending on how DCC balances its supply contracts and meeting customer demand.

Telecoms: Vodafone

Many people complain about high mobile phone bills. But those bills translate into high profits for many mobile phone companies. That can be rewarding for shareholders.

The fourth of the passive income ideas I would consider for my portfolio at the moment is such a company, Vodafone (LSE: VOD). The well-known mobile phone company benefits from strong brand familiarity and a wide network not only in the UK but also overseas. Bigger demand for services including 5G and flexible working data packages could help the company grow both revenues and profits in coming years. The Vodafone dividend reflects the lucrative nature of this business. The Vodafone yield currently sits at 7%. That’s well above the average for FTSE 100 shares. 

But building and maintaining a phone network is expensive. The Vodafone balance sheet is groaning with debt. The company has already reduced its dividend in the past several years. Further capital spending or debt servicing requirements could lead to another cut.

Putting my passive income ideas to work

One of the reasons some people dream of passive income but don’t achieve it is because they don’t take action.

Investing in UK dividend shares is a simple way to hopefully start generating passive income. I’d consider all four of these ideas for my portfolio today. I already own one of the companies and would consider adding more. I’d also think about buying the other three UK dividend shares, then sitting back and waiting for passive income to start coming my way. I’m happy to receive income while the hard work is done each day by talented employees at leading companies.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be considered so you should consider taking independent financial advice.

Christopher Ruane owns shares in British American Tobacco. The Motley Fool UK has recommended British American Tobacco. 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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