After a hard day working and caring for one’s family, spending hours in the kitchen is the last thing some people want to do. So it’s easy to understand why it’s so often tempting just to reach for the phone and order a takeaway dinner.
But by cooking at home instead of ordering in just once a week, the money saved can be put aside to start earning a passive income. That’s money that comes in without having to work for it. Here I explain how.
How a little can go a long way
One of the myths about passive income is that one needs to be rich to earn it. Of course, starting with a huge landholding or rights to a bestselling song would help. But it’s not necessary. By just saving a small amount each week or month and putting it away, it’s possible to start building a nest egg. With continued regular saving, even using a small amount like the cost of a weekly takeout dinner, the capital will start to grow.
Putting the money into an interest bearing account could earn some income. But with interest rates low, I’d prefer to put the money to work in a Stocks and Shares ISA. That way I could start earning passive income by investing in some high-yielding shares. Those are shares that pay out a relatively high percentage of the purchase cost as a dividend. So, for example, while a growth company such as DotDigital pays a yield of less than 1%, GlaxoSmithKline pays almost 6% and insurer Legal & General pays out 7%. So my takeout dinner savings would start to generate a much higher level of passive income.
Why I’d try to diversify for passive income
Just because a company has paid a dividend in the past doesn’t mean it will keep doing so. So I have a few ways to mitigate my risk. First, I try not to put all my eggs in a single basket. If I was starting out, and could only buy one share I’d consider a broad-based unit trust that held a basket of high-income shares.
I also don’t just look at dividend history, although it’s useful. I also look at a company’s free cash flows and the cost of its dividend. So, for example, while Legal & General’s competitor Aviva announced a dividend cut last year, Legal & General plans to sustain the current level. I think its finances enable it to do so. Such information should be available online in a company’s annual report. It helps me get a sense of how future business changes could affect the dividend payout.
As my capital grew, I would have a choice. Either I could take my dividend payouts as passive income, or I could reinvest them to buy more shares. With passive income as an objective for sacrificing my Friday night takeaway, I might want some regular income from the shares. But as my holdings grew with regular contributions, I would also consider reinvesting at least some of the dividends. That would help me get more capital quicker. A few years down the line, that would mean I had more sources of passive income. That’s tastier to me than a takeout.