We’d all love to have a second income that requires very little effort. Investing in dividend shares is one way to do this. And while it may take a long time, we can get started with as little as £20 a week.
What are dividend shares?
Dividend shares are traded companies that distribute a portion of their earnings to shareholders in the form of dividends. Dividends are typically paid out on a regular basis, such as quarterly or annually, and are a way for companies to share their profits with investors.
In some respects we can compare dividend shares to a buy-to-let investment. The value of the shares, like houses, can go up and down, but I’d also be earning an income by renting out the home, or just by holding the shares.
Of course, dividends are by no means guaranteed and a company can choose to cut them at any point. This we can compare the notion of having a tenancy void in a rental home.
However, from experience, I prefer investing in stocks to houses. For one, I don’t have to deal with leaky taps and other issues that might arise. Moreover, by utilising a Stocks and Shares ISA, I’m likely to pay a lot less tax.
Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.
Just £20 a week
Nowadays, partly due to fractional shares and no-fee platforms, it’s possible to start investing with a limited amount of capital.
So, having opened an investment account, ideally within an ISA, I could start investing with a small regular contribution. In fact, starting with just £20 a week, over time, I could develop a very sizeable portfolio by harnessing the power of compound returns.
Compound interest is a powerful concept in investing. It works by earning interest on both the initial investment and the accumulated interest over time. Essentially to make it work, I need to reinvest the dividends I receive each year.
As the investment grows, the dividend earned in each period is added to the principal amount, creating a compounding effect. This leads to exponential growth over time.
So, the bigger the pot grows, the more income I could potentially draw each year. Here’s how much passive income I could take annually at certain milestones, assuming an 8% annualised yield and £20 a week in contributions.
| Potential passive income | |
| 5th year | £512.69 |
| 10th year | £1,351.65 |
| 20th year | £4,463.74 |
| 30th year | £11,371.48 |
Boosted income
Of course, to make this work I need to make the right investments. Currently, there are a handful of FTSE 100 stocks, such as Legal & General, offering dividend yields in excess of 8%.
However, big dividends are sometimes a warning sign. As such, I need to do my research, looking at the dividend coverage, earnings stability and cash flow, among other things.
