How I’d invest £175 a month to target £12,000 of annual passive income for life

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Earning income without working for it sounds like a great idea – but is it practical? I think it can be, depending on what passive income ideas you use.

I try to earn extra income by investing in dividend shares. Here is how I would use that approach to try and build a monthly income of £1,000, which adds up to £12,000 each year.

Targeting an annual £12,000 passive income

How much would I need to invest to try and reach my target?

That depends on the average dividend yield of the shares I buy. A dividend yield is the money I would hopefully earn annually from a share expressed as a percentage of what I pay for it. At the moment, I think I could realistically target a 6% average yield while limiting my purchases to blue-chip companies. Indeed, some dividend shares I own in my Stocks and Shares ISA, such as M&G and British American Tobacco, currently offer a yield of 6% or more.

At that rate, to earn £12,000 in passive income each year I would need to have an investment pot of £200,000. Saving at a rate of £175 a month, that would take 95 years!

But could I speed things up? I think so. Simply by reinvesting my dividends rather than taking them as cash each year, I should hit £200,000 in 33 years. That is because of the principle of compounding.  

Thirty-three years is still a long time. But it is nowhere near 94 years! If it will take me 33 years to hit my target, though, the sooner I start the better.

Choosing UK shares to buy

In the example above, I presume that share prices and dividends are constant. In practice that is unlikely. They could go down – but they might also move up, helping me hit my target earlier.

Still, this passive income plan is likely going to take me decades. So I need to choose the shares with the mindset of a long-term investor. I am not just looking for shares in businesses that are performing well today. I would try to buy shares in companies I expect could do well for decades to come.

Nobody knows what the future may bring even for the best run companies, which is why I would diversify my portfolio across a range of shares. Nonetheless, some companies seem likely to benefit from long-term demand and their own pricing power, in my opinion. For example, Unilever and Legal & General are two companies I would consider owning in my portfolio on that basis. Indeed, I have already bought Unilever shares and receive passive income from them every quarter.

Lifelong income

Putting this plan into action to hit my target could certainly take a long time. Then again, I think it could really be worth doing. An extra thousand pounds every month in passive income would certainly come in handy as I get older.

If the companies I invest in keep paying dividends, my income streams should continue for as long as I hold the shares – potentially the rest of my life. I would try to find businesses with strong prospects for profit growth that can increase their dividends. That way, I may actually find that over time, my annual passive income gets higher and higher.

The post How I’d invest £175 a month to target £12,000 of annual passive income for life appeared first on The Motley Fool UK.

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C Ruane has positions in British American Tobacco, M&G PLC, and Unilever. The Motley Fool UK has recommended British American Tobacco and Unilever. 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.