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Forget NS&I Premium Bonds and Income Bonds. I’d buy UK dividend shares for a passive income

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Holders of NS&I Premium Bonds and Income Bonds are set to find it more difficult to make a passive income in the coming months. Low interest rates mean the returns on both products, as well as other bonds and cash savings accounts, are set to be extremely low.

As such, buying UK dividend shares could be a sound move. Their high yields, growth potential, and low valuations may allow you to achieve a worthwhile income return. They may also deliver impressive capital returns in the coming years as the stock market recovers from the recent crash.

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Obtaining a worthwhile passive income

Making a passive income has been more difficult for many people since the global financial crisis. It prompted historically-low interest rates that sent the returns on bonds and cash savings accounts to lower levels. However, the coronavirus pandemic has pushed interest rates even lower. And they could even move into negative territory. As such, making a generous income return from bonds and cash savings account has become almost impossible.

It may even be the case that some savers and bondholders experience a negative return once inflation has been factored in. This situation could be detrimental to their long-term financial futures, since it would mean a loss of spending power.

Buying UK dividend shares

While making a passive income has also become more difficult for investors in UK dividend shares, many companies continue to make generous shareholder payouts. Certainly, a wide range of FTSE 100 and FTSE 250 stocks have cut, or cancelled, their dividends this year. However, the stock market’s low price level means those companies still paying dividends now offer high yields, in many cases.

Therefore, it’s possible to obtain a significantly higher income return from a portfolio of shares than from NS&I Premium Bonds and Income Bonds. Furthermore, dividend growth is likely to return across many companies as the economic recovery takes hold. This may mean you enjoy a high income return that grows at a faster pace than inflation over the coming years. By contrast, low interest rates look set to remain in place for some time.

Managing risks from UK shares

Of course, making a passive income from UK dividend shares is far riskier than holding NS&I Premium Bonds or Income Bonds. The recent stock market crash highlighted the ongoing risks that face investors.

However, by holding a diverse range of stocks, you can reduce overall risks. Furthermore, investing in companies with solid financial positions and affordable dividends may improve the resilience of your income stream over the long run.

With dividend yields substantially ahead of interest rates, the additional risks from holdings stocks may be worth taking in order to generate a higher passive income in the coming years.

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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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