Making passive income is a great feeling. It allows me to focus my time on making returns from other active investments. One way I can make passive income is via top dividend shares. If I’m selective in the stocks I buy and work at putting funds away each month, then I can work my way up over time to making a decent amount of income. In fact, £500 a month certainly isn’t beyond my reach.
Characteristics of top dividend shares
Before I get to the specific numbers, it’s important to run through the concept first. After all, I can replace the numbers with whatever figures I want, but the concept has to hold true regardless.
When I’m looking to build myself a portfolio with top dividend shares, I need to look for several things. Although some might be surprised, the dividend per share isn’t high up on my list. This is because when looked at in isolation, the dividend per share doesn’t tell me much. Rather, I need to look at the dividend yield. This compares the dividend per share to the share price itself.
In my opinion, a top dividend share would have a yield in excess of 4% so that it’s comfortably above the FTSE 100 average. Besides this, I’d want to see shares with good dividend cover and a generous dividend payout ratio.
The dividend cover shows me how many times the dividend can be covered by the latest earnings. The payout ratio highlights how much of the earnings are paid out as a dividend versus being retained in the business.
Adding in the numbers
In order to make £500 a month in income from top dividend shares, I need to be patient. It’s not impossible to achieve, but at the same time it’s difficult to do overnight.
At face value, I could simply invest £120,000 into a portfolio of shares with an average yield of 5%. I personally can’t afford to do this. Rather, I’d aim to put away £500 a month. Whenever I receive a dividend, I’d look to reinvest this back into shares until I reached the desired income level.
Using this method, it would take me just under 14 years to reach a pot size where my dividend shares would then generate me £500 a month. If I hold a broad range of stocks with different dividend payment dates, this should work out close to a monthly payout of that amount.
This timeline might sound like a long one now, but the main thing is that I make a start and get going. This method of making income is passive in nature, so it’s not something I’d have to think about all of the time.
Of course, none of this is guaranteed as share prices can fall and dividend payments can be cut. But overall, by picking top dividend stocks that have attractive characteristics, I’d hope to build up my investments to generate income over time.
The post Top dividend shares: why making £500 income a month isn’t beyond reach appeared first on The Motley Fool UK.
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