How Much Do You Need to Invest to Live Off Dividends?

How to Start Living Off Dividends

Here’s how you can start living off dividends. You choose a handful of great dividend-paying companies that look like they’ll grow in the future. Then, invest your money in these stocks. The stocks grow and you get an extra quarterly or monthly payments. This extra payment is the dividend.

You can either keep the dividend as income, or you can reinvest it back into your portfolio to grow it faster. Each method is appropriate at different times. It depends on your current needs.

When reinvesting, it’s usually referred to as DRIP. It stands for Dividend Reinvestment Plan. This is when you set up a system, so the dividends paid to you are automatically buying more shares of the stock you own. This will grow your portfolio slowly at first. Then, as time goes on, it will gain more and more speed.

At first, you’ll want a DRIP. Set an income goal. Figure out how much you need invested to meet or exceed your dividend income goal. As your portfolio grows, so will your dividend payouts.

When you meet your goal or pass it, see where you are in your life. If you’re ready to retire or chase a different career, great! You can start living off dividends instead.

If not, great! Let it grow some more while you figure things out.

How much initial capital is required?

You can invest either small or large sums of money in dividends. You can also select an investment strategy based on your financial situation. By selling a business, excess real estate or other assets, you can create a portfolio of stocks to earn a dividend income. For example, an investment of $10,000 will bring in $300 annually with a dividend yield of 3%.

You can start building a portfolio with smaller amounts, such as by buying $100 worth of dividend shares every month (or week). In this case, it will take you more time to generate good interest income.

How much money should one invest in stocks?

If the investor plans to continue working but prepares a cash cushion for the future, they can start with any amount. By purchasing dividend shares for several years and reinvesting the interest received, they will reach a decent passive income after 20-30 years of owning a portfolio.

Let us take an example. Buying $100 worth of stock every month ($1,200 a year) for 30 years will result in an income of $21,000 per year and an accumulation of more than $55,000 in a securities portfolio. Part of the shares for the specified period may considerably increase the yield and the real profit of the investor will be even higher.

Those who want to live on dividends right now need to invest an amount that will ensure the influx of the necessary income. To calculate how much you should invest, take the amount you need to live comfortably (rent cost, food cost, etc.) and multiply it by 12 months. For example, a family spends $1,000 a month or $1,200 a year. The average US stock yield is about 5%. So the initial capital required will be $24,000.

To calculate how much money you need to invest initially, a simple formula can be used:

Investment = Annual Income / Dividend yield x 100 %

In our example described above, it will work out as:

Investment = $1,200 / 5% x 100% = $24,000

Please note that the tax rate and the broker’s commission should be taken into account when calculating the required initial investment or the monthly investment.

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Dividend Terminology

Below is a detailed list of important dividend terms and dates to familiarize yourself with if you intend to invest in dividend paying stocks.

Dividend Dates

Declaration Date: This is the date a company says it will be paying its dividend. A declaration statement will include details of the following: amount paid in dividends, the record date and the date of payment.

Ex-Dividend Date: You must own the dividend paying stock before this date in order to receive the next scheduled dividend payment.

If you were to purchase the stock on or after the ex-dividend date the dividend payment still goes to the previous owner of the stock.

Payment Date: This is the predetermined date that the company will make dividend payments to shareholders on record.

Source: Royal Bank
Source: Royal Bank

Dividend Stock Glossary

Adjustable Rate: The rate in which an annual dividend can vary depending on certain factors.

Average Daily Volume: The average number of shares traded per day of a security in a given time frame.

Backwardation: When a commodity’s spot price is higher than the future price.

Balance Sheet: A financial statement of a company and it’s assets. Including both what it owns (assets) and what it owes (liabilities) as of a specific date. Usually reviewed on the last day of a company’s fiscal quarter.

The difference between the company’s assets and liabilities determines the net worth.

Basis Point: An interest rate measurement equal to one-hundredth of one percent. For instance, 50 basis points equals 0.5 percent and 100 basis points equal one percent. 

CAGR: CAGR stands for compound annual growth rate and is the growth rate of an investment year over year.

Callable: The opportunity the issuer has to redeem a security prior to its maturity.

Call Date: The earliest date a preferred stock can be called.

Call Price: The price the issuer must pay to redeem a stock when called.

Capitalization Rate: Capitalization rate, otherwise known as cap rate is the property’s net operating income divided by it’s purchase price.

A higher cap rate generally means a higher return on investment.

Cumulative: A company issuing “cumulative” preferred shares must pay any skipped dividends on those shares before common stock dividends are paid and before the preferreds are redeemed.

Declaration Date: Date that dividend is announced.

Dividend Capture: This strategy involves buying a dividend paying stock at a precise time in order to capture the dividend payment, followed by the selling eh stock shortly after.

How Much Invested to Live Off Dividends? (Calculation)

Annual Income You Want / Dividend Yield = Amount You Need Invested

If you want a dividend income of $70,000 and your average dividend yield is 4%, you would need $1,750,000 invested.

Here’s a chart to help you visual the amount of shares needed to live off dividends in increments of $1,000 yearly income.

Is It Realistic To Live Off Dividends?

Being able to live off passive income streams such as dividends would be a dream, but is living off dividends even realistic?

Before determining if living off dividends is a viable option, you will need to figure out your monthly living expenses. Of course, the monthly living expense of every individual is different. Therefore, the monetary value you will need to build your investment portfolio will vary significantly from person to person. However, to successfully live off dividends, your investment portfolio will need to be quite large. 

While it is attainable, the average person would need to build an investment portfolio of at least $1 million to fully cover all their living expenses. Let’s dive a little deeper into this figure below and examine the impact dividend yield will have on your ability to live off dividends. 

Dividend Sustainability: What To Look For?

As the stock market and economy rise and fall, dividend yields often follow the same pattern. In order to better determine the dividend sustainability of the stock, shareholders should take into consideration certain factors.

Some factors that shareholders should look at when deciding if a particular stock has good dividend sustainability include:

  • Dividend Payout Ratio: Indicates the portion of a company’s annual earning per share that a company pays in the form of cash dividends per share.  
  • Dividend Coverage Ratio: Indicates the number of times a company could pay dividends to its shareholders using its net income over a specified fiscal period.
  • Free Cash Flow to Equity (FCFE): Measures the amount of cash that could be paid out to shareholders after all expenses and debts have been paid. 
  • Net Debt to Earnings Before Taxes and Amortization (EBITDA): Measures an organization’s leverage and its ability to meet its debt.

The ratios outlined above each provide valuable insight into a company’s ability to sustainably meet dividend payouts each quarter. These ratios are also helpful to investors who are striving to grow their investment portfolios and live off their dividend earnings. 

Is Living Off Dividends a Good Idea?

While there’s something instinctively satisfying about living solely off dividends, it’s usually not necessary to distinguish between living off dividends versus a portfolio of equities in general.

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In truth, there’s no practical difference between distributing money from your portfolio through dividends or through selling assets.

🤔 Think of it this way: Your dividend yield is just a portion of the total return on your portfolio. If you have a 10% return, it doesn’t matter whether it breaks down to 5% value growth and 5% dividend yield or 9% value growth and 1% dividend yield. In other words, if an asset pays you a dividend of $500 and you reinvest it, that’s the same as if the shares increased such that your position’s value went up by $500. The difference, of course, is that a dividend is relatively predictable, while appreciation is not.

The only difference to an investor would come from a variance in tax rates when taking distributions from a taxable brokerage account. In most cases, though, that will work out in favor of selling assets over taking dividends anyway.

If you manually sell portions of your retirement portfolio, you can use the first-in, first-out basis, which means the first asset you sell is the first one you acquired. These should always be subject to long-term capital gains taxes if you’ve been investing for years. 

Meanwhile, ordinary dividends are subject to the less favorable ordinary income tax rates.

You’ll also have more control over the timing of your earnings if you sell portions of your portfolio manually. Shareholders don’t get to decide when they receive their dividends or how much they’ll be.

So while you can live off the dividends from your investments, it might not be the optimal retirement strategy. You’re generally better off optimizing your portfolio’s total return than you are chasing a high dividend yield just for the sake of dividends.

📘 If you prefer a buy and hold strategy but you still want market-beating growth, there’s a variant of dividend investing that you should consider – Dividend growth investing

Living Off Dividends Calculator

To simplify things for you, check out this dividend reinvestment calculator. This free tool reveals how your portfolio value grows when dividends are reinvested.

You want to get the most realistic growth prediction. I recommend choosing a stock and researching the needed information.

That way you’re using real numbers from a real stock that you own or want to own. It will produce real growth numbers for you. Not ones that are fabricated.

I’m determining how much I want this to make up my retirement plan

While living off of dividend checks is something I hope to do when I retire, I don’t want to make it my entire plan. For the past four years, I’ve stuck to a regular and robust SEP IRA contribution plan and want to use that retirement fund to support the majority of my lifestyle when I stop working. While I do have some dividend-generating stocks in my SEP IRA portfolio, it’s a very small amount.

In addition to what’s inside my SEP IRA, I want to continue to work toward a strategy that has my retirement plan shaping up to include 20% future income from dividend stocks, 30% passive income from real estate and small business investments, 30% income from my SEP IRA (including some dividend stocks), and 20% from side hustles that I’d like to do when I officially retire. 

Clipping the coupon: adding bonds to an income stream

Bonds are called fixed income because they offer regular (usually fixed) interest (coupon) payments. As such, bonds can provide a steady cash flow for investors. The income component is a key reason investors own bonds in their portfolio.

A bond’s coupon is a fixed interest rate and represents a percentage of the par value that the buyer will receive in ongoing interest payments. For example, a bond with a $1,000 par value and a 5% coupon will make annual interest payments of $50 until the bond matures and the par value is fully repaid. Coupon payments may occur more frequently depending on the bond.

While bonds can add stability and income to a portfolio, as interest rates have declined over the last few decades, yields have followed suit. The relationship between interest rates and bond yields is an important one.

When rates decline and yields drop, it supports equities, as investors seek out riskier assets for higher expected total returns since stocks provide the opportunity for price appreciation and comparable or even more favorable income.

Searching for yield: comparing income in stocks vs bonds over time¹

As with equities, the prices of underlying assets, correlations, and fluctuations in the market can impact your ability to live off portfolio income.

How Much Money Do You Need to Retire At 60?

Buying individual bonds vs bond funds

Are there benefits to investing in single bonds vs shares of a bond fund? There are several important differences between owning individual bonds and investing in bond funds. For individual investors, investing in bond mutual funds or ETFs is often the best way to gain exposure.

As with stock funds vs individual stocks, owning a bond fund provides greater diversification and liquidity. Building a diversified bond portfolio on your own can be difficult due to minimum purchase sizes. Some corporate bonds may require a minimum purchase of $250,000 or more. Small buyers won’t be given as favorable pricing offers from dealers who favor large institutional purchasers.

But when you own bonds outright, you have the most control over how long you hold that particular security. Holding an individual bond to maturity gives investors a reliable payment of par.

As you look to bonds for income, consider the pros and cons of sector diversification, duration, and credit quality. For example, high yield bonds can offer additional income and risk (of default). High yield (or junk) bonds are also strongly correlated with stocks, which limits their diversification power. Also, corporate and long-term bonds tend to be the most sensitive to changes in interest rates. There’s a lot to consider.

Tips for Retirement Planning

  • If you’re not sure how to start with dividend investing, talk with a financial advisor about how this strategy might fit into your overall financial plan. Finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
  • Planning for retirement can be overwhelming. You can get a good estimate of what you’ll get after you quit working with a retirement calculator.

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