A little bit of extra income could often come in handy – or a lot! But the problem of working for extra income is that it can take time and effort.
That is why I try to supplement my earnings each month by investing in dividend shares. Dividends are the way a company divvies up some of its earnings among shareholders. Last year, for example, the retailer Sainsbury’s made profits of £677m. Of that, it paid £238m out to its shareholders as dividends.
So if I owned Sainsbury’s shares, I could have got some part of that payout as a dividend. If I kept the shares, hopefully I would keep receiving dividends in years to come that could supplement my income without me lifting a finger.
Dividend shares as ways to earn extra income
That is not guaranteed though. A company can always cut its dividend, for example if the business has a hard time or needs to spend money on something else. Indeed, you may have noticed that last year, Sainsbury’s only paid out a fraction of its profits in the form of dividends.
That is why I would invest in a variety of companies operating across a range of industries. Hopefully, that would reduce the risk to my second income streams if any one company I owned reduced its dividend.
Building up a dividend portfolio
So how would I go about buying these shares? I would set up a share-dealing account or Stocks and Shares ISA. Then I would save money in it I could use to buy dividend shares.
If my target was £300 a month of extra income, I could do this in one of two ways. I could put in a lump sum upfront. But if I did not have the money available, I could save what I could afford regularly and build up to my target over time.
How much would I need? That would depend on the average dividend yield of the shares I bought. £300 is £3,600 per year. So if the shares had an average dividend yield of 5%, I would need to invest £72,000 to hit my target. If the average yield was 6%, like Sainsbury’s at the moment, I should be able to hit my target by investing £60,000.
Finding shares to buy
However, I would not select my shares based on their yield. Remember – dividends come out of profits. So I would want to buy shares in companies I reckoned had strong long-term prospects of making attractive profits. That could help them fund future dividends.
So I would look for companies with a business model I felt gave them a competitive edge in an industry I expected to see ongoing customer demand. I would also look at the business finances to see, for example, if it had a lot of debt that meant such profits might end up being used for something other than paying dividends, like servicing debt.
Once I had found shares that matched my objectives and struck me as attractively priced, I would start buying them – and moving closer to my goal of extra income.