In 2015 after I turned 30, I started thinking about retirement. I will never get a penny in pension. I do not expect any government to help me get by. While exploring my options I came across Tony Robbins ” Unshakeable”. This book kind of gave me the idea that I can survive on dividend income. And in this post, I am going to discuss how to survive on dividend income
So, How to survive on dividend income? First, you need to know your expenses, as soon as you figure out your total expenses, that is the amount of income you need to generate from dividend income. And then we would need to figure out the cash flow generating assets and how much of those assets we would need to own so that we can survive on dividend income.
Hoarding common or preferred stocks of great businesses which p[ay dividend is a great way to earn an extra paycheck. But first, we need to understand how much money we would need after we retire. That is the starting point, next we would need to know how much dividend we will earn from any stock.
Not all stocks pay a dividend. The dividend is not guaranteed. The amount of dividend is not the same for all stocks. So, there is no straight forward answer to the question, how much stock I need to own to earn the amount of dividend I would need. We will explore the answers to these questions.
What is dividend income?
Publicly traded firms, especially those which make profit give a portion of their profit out. That is known as a dividend.
The profit any company makes, the company can decide to put it that back in business growth or they can return the excess capital in the form of a dividend. Sometimes, the company can decide to buy back their own outstanding shares too.
Capital expenditure, acquisitions can be funded through the free cash flow the company generates. Most matured businesses, where the growth is slow, decides to return the capital in the form of dividends or share buyback.
The problem with dividend
As you might have already guessed, the dividend is not guaranteed. Usually, companies make debt repayment first. Then pays interest on preferred stocks. If it has any free cash flow after paying all dues, it can decide to retain that earning or it can distribute among investors. Whether or not it would distribute the retained earning depends on company management. You or I as retail investors cannot really force them to do anything.
As profit increases, the dividends go up. One more important factor to consider is the dividend payout ratio. Say a company is earning $100 in retained earnings and pays out $20 as dividend to equity owners. The company will still have $80 or CAPEX or other future expenses, which is great for growth.
What financial assets pay a dividend?
When we talk about assets, most people think about their home, gold/silver may be their expensive watch, etc. Financial assets are not tangible, at least I cannot think of any financial asset right at this moment that is tangible. I personally know people who prefer tangible assets, and I do not see any problem in that, as long as it generates cash flow. Like farmland, that produces wheat that you can sell for a profit. Or a rental property that you can rent out and generate profit at the end of the year.
If you think buying a property is too much work or too much money or too much risk. There are other ways to invest in real estate. I personally invest in Reits and Fundraise. The underlying assets are real estate when ou invest in REITs or Fundrise.
Stocks and Bonds –
But financial assets like bonds and stocks of profit-making companies can help you earn a dividend too. In the case of bonds, there is a fixed coupon rate each bond pay. Which is different than yield or interest you earn. This happens because a bond price goes up or down based on the central bank interest rate. The yield gets adjusted with the bank rate. Say, a bond cost $100 and the coupon rate is $5 for 8 years.
That means if you own the bond you will pay you $5 for 8 years. So a total amount of $40 over 8 years. This $40 is fixed. Your yield of the bond is 5% when you buy it for $100, but if you buy the same bond for $200, you will still get $40 over 8 years and the yield drops to 2.50%.
IF you buy the bond for $50, you will still get $40 as interest payment over 8 years. In that case, the yield would be 10%. Interest payment on bonds is not dividend though. You have already learned what dividend is.
Common stocks, preferred stocks of a profit-making great business usually pay a dividend. While the preferred stock is kind of like bond since it pays a constant dividend yield and usually without any upside like common stock. Common stock can pay a dividend which might go up or down along with the amount of profit the company makes.
What other assets can help produce monthly income?
Gold and silver are not a product asset. Other than that if you buy a plot, rental home, farmland, those can help you make an income on your investment. The income might not be monthly though. For example, say you buy farmland and you sow some corn in it. Unless you rent out that land for a monthly rental, I do not know how else you can generate monthly income on that land.
You can generate a monthly income from a rental property. Just rent it out and you will collect a rent check. I am not saying making profit will be that easy. But it is an option. Putting your money in debt instruments is another option, where the income is almost guaranteed as long as the company does not default, but chances are low that the debt instrument will be able to keep up with inflation.
How much Dividend income I need every year?
It really depends. And it will differ person by person. I will give you a hint, prepare a list of expenses you have. List out the regular one like rent or mortgage payment, electricity bill, cell phone bill, streaming services, etc. Then list down other expenses such as eating out, shopping, traveling, etc.
After that list down the source of incomes. Like any steady annuity income, rental income, etc. And whatever difference you have between your income and expenses, that is the amount you need as your dividend income.
Can I survive on dividend in India?
I do not see a reason why you would not be able to survive on dividend, as long as you are making enough in the dividend. But keep in mind, the dividend is not a bond. The amount may go up or down based on the profit the company is making. Today when I am writing this post, Nifty is trading below 11000 marks, as there is a slowdown in profit.
There is a trade war between the USA and China causing global slowdown and uncertainty. The capital market does not like uncertainty. When you ask “How to survive on dividend income” – here is your answer, buy truckloads of good stocks when the market is down.
The market might fall further, but as a retail investor, it is near impossible to time the market. I would not discourage you to try. But in case you do not know how to time the market, start buying in tranches.
As I know, for a normal middle class, dividend income is tax-free as long as it is less than 10 lakhs in a financial year. Since the company pays a dividend distribution tax. So if you think you can earn 10 lakhs worth of dividend, then you would not need to pay any tax on that. This is for resident Indian citizens though.
Can I survive on dividend income in the USA?
Of course, you can. US companies are more efficient in calculating future cash flows. And they pay a steady dividend. Equity investors often get a hike, which is great to beat inflation. But, you need to know how to identify the best dividend-paying stocks? You can simply buy low-cost ETFs for dividend income too. That might be a safer alternative of individual stocks.
But, you need to do the same drill, calculate how much dividend income you would need, and you will need to pay tax, so be mindful of that. Talk to your tax consultant for more information.
How do I plan my retirement income with dividends?
Like I said in the beginning, I have been pondering on the question “How to survive on dividend income” for a long time. I have started accumulating great predictable businesses which generate and retain cash. So that they would pay out dividends. But I have some debt investment too.
I have parked some money in predictable instruments since the dividend is unpredictable. And we have not seen a bear market in a long time. With so much debt on governments, individuals and corporate we do know the bear market is coming, we just do not know how bad it will get. With liquidity crunch, maybe the bear market is already here in India.
But being in the 30s, I have a long runway in front of me. So, accumulating stocks is a good option for me. I do not know how much I will be making from my equity investment, but I expect to make way more in the future.
So what is your strategy?