Passive income allows me to earn some extra money without spending much of my time or effort. It’s quite useful and I can use it to supplement my other income. Eventually, I’d like to use it to replace my earned income completely.
There are several ways to earn passive income. I could buy and let out a property. Or I could start a side business. Both of these ideas involve either significant starting capital or considerable efforts though. Instead, I’d focus on owning dividend shares.
Passive income from dividends
Dividend shares are investments in companies that typically pay above-average dividend yields. The FTSE 100 is an index of the largest companies listed in the UK, and its average dividend yield is currently 3.7%.
But there are many shares that offer much more. For instance, global iron-ore miner Rio Tinto and British housebuilder Persimmon both offer 11%.
One advantage of earning passive income from shares is that I can start with as little as £10 a week. Over a year, I’d have £520 to invest. And if I use it to buy both Rio and Persimmon, I could earn over £57 in dividends.
Compounding returns
It might not sound like a lot right now. But over time it can add up to a tidy sum. And if I don’t need the extra income right now, I could reinvest it to buy more shares. So I’d earn dividends from these new shares as well as my original shares. By continuing this process, I should benefit from the miracle of compound returns.
That way, my investment could grow faster and become a much larger pot. So when I eventually want to withdraw some passive income, it should be a much greater sum.
For example, if I continue my plan for a decade, I could build a pot of almost £8,700. Just from £10 a week. From that, I could potentially earn dividends of £950 every year for life.
Factors to consider
There are some things to bear in mind however. Although the two shares I highlighted currently pay 11%, it doesn’t mean that they’ll continue to do so.
Companies can reduce dividend payments and some might even suspend them if they become uncertain of their earnings. That was a common occurrence during the Covid crash in March 2020.
That’s why I’d want to diversify and pick several shares from different industries. An 11% dividend yield is particularly high, in my opinion. Some shares that offer around 8% might potentially be more sustainable over time.
In addition to the dividend yield, there are a few factors that would make a big difference to my goal. Time is one of the most important factors in investing. Check this out. If I followed my plan for 30 years instead of 10 years, this is what could happen.
My £10 a week could possibly turn into a whopping £103,000. That’s enough to provide an £11k annual income. Currently, that’s more than the annual State Pension. Not too bad for just £10 a week, eh?