Dividend investing could unlock me a second income worth £3K a month!

I’d love to be able to create a second income, especially for me to enjoy in later life.

I reckon it’s possible to do this, with some careful planning, and following some key rules.

Let me explain how I’d do this.

Rules of engagement

Firstly, I’d put the best investment vehicle in place, which I think is a Stocks and Shares ISA. The reason for this is due favourable tax implications on dividends received, which are the bedrock of my additional income. Plus, a £20K annual allowance is attractive.

Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.

My next task is to look for and buy the best dividend stocks. I’m looking for a diverse portfolio, as this helps mitigate risk. Plus, I want to bag the most dividends possible, but understand that there are risks to be wary of.

The biggest risk is that dividends aren’t guaranteed. Furthermore, each stock comes with its own pitfalls that could dent earnings and returns too. A healthy rate of return, solid financial health in the form of a good balance sheet, and prospect of consistent payouts are things I look for.

Let’s say I had £20k to kick my plan off. Next, I’m going to be frugal today, in order to benefit in the future, so I’ll add £500 from my wages each month. To make this easier, I could split this with my husband.

Investing these amounts, for 25 years, and aiming for an 8% rate of return, could leave me with £622,316. I’d draw down 6% annually, and split it into a monthly amount, which equates to just over £3,000.

It’s worth mentioning that if I don’t bag an 8% rate of return, my final amount will be less, leaving me less to draw down from.

One stock I’d buy

If I was following this plan today, I’d buy Taylor Wimpey (LSE: TW.) shares in a heartbeat. As one of the biggest house builders in the UK, the prospects for dividends today and moving forward look good to me. Plus, the fundamentals are attractive too.

I reckon Taylor Wimpey’s dominant market position, as well as the housing imbalance in the UK, could boost earnings and returns for years to come. In terms of the latter, demand for homes is outstripping supply. Filling this gap could be a money spinner. Furthermore, the new Labour government is heavily backing social and affordable housing initiatives, something Taylor Wimpey undertakes.

Taking a look at some risks, my biggest concerns are volatility and inflation. Inflation can take a bit out of margins, which underpin profits and returns. This is related to higher costs of building. The other issue is higher interest rates, which push up mortgages, and dent consumer affordability. This means Taylor Wimpey could experience less sales, like recently.

Moving back to the good stuff, Taylor’s fundamentals look attractive to me. The shares offer a dividend yield of 6%. Plus, the shares trade on a price-to-earnings ratio of 15. This isn’t the cheapest, but sometimes I understand the need to pay a fair price for a quality business.

The post Dividend investing could unlock me a second income worth £3K a month! appeared first on The Motley Fool UK.

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Sumayya Mansoor has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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.