Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail
Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail

The 4 Golden Rules Of Income Investing

What if you could receive regular income without getting a second job or selling some of your assets?

Regular passive income is among the aspirations of many long-term investors. The good news is that it’s possible for you to build up a regular income when you approach investing with a specific strategy in mind.

When you put together a long-term investing plan centered around cultivating income, you are more likely to succeed over time. And that long-term income strategy should include dividend stocks.

Perhaps the biggest difficulty with dividend stocks is figuring out how to buy enough shares of an investment so that your payouts actually provide you with an amount you can live on -- or that can at least supplement your lifestyle.

If this is an issue for you, we have come up with the "four golden rules" you should use to build income:

1. Be Realistic.

Few of us have tens of thousands of dollars that we can use to buy thousands of shares of dividend stocks, providing instant income. Instead, your quest for dividend income has to be seen as a building process with a long-term approach.

No, owning 100 shares of an investment that pays 50 cents in quarterly income (for $200 a year) doesn't do the trick. You need to adjust your expectations. Building income with dividend stocks, for most of us, is more about increasing our holdings over time. A more reasonable timeframe is to expect to spend between seven and 10 years building your dividend portfolio.

2. Use Dollar Cost Averaging.

If you are serious about building a dividend portfolio, start with dollar cost averaging. Using this strategy, you can consistently purchase shares of dividend paying stocks over time. You continue to add to your portfolio, increasing the number of shares that you own, as well as increasing your dividend payouts over time.

At first, though, it can be very discouraging, since you might not have enough to buy even a full share of a dividend stock. (You can often buy partial shares, however. Read more about it here.) You can ease your difficulties by investing in dividend paying funds. These funds offer instant diversity, and they can provide you with a way to more effectively employ your dollar cost averaging efforts. You’ll receive dividend payouts while building your portfolio.

Once you have a better understanding of what to look for in individual dividend stocks (hint: it’s not all about the yield) and once you have built up your portfolio a bit, you can move out of dividend funds and into individual stocks, if you think that will help your cause.

3. Invest In Dividend Reinvestment Programs (DRIPs).

If you really want to boost the rate at which your dividend income portfolio grows, invest in companies and funds that will automatically reinvest your dividends. Instead of taking the initially meager income and spending it, use it to automatically buy more shares and partial shares of your dividend investments. You’ll increase the number of shares you have at a faster rate, and the DRIP will allow you to see higher payouts as a result.

Just remember that you pay taxes on dividend income that is automatically reinvested.

4. Increase Your Contributions.

As you build your portfolio, don’t forget to increase your contributions. While you might have to start with only small amounts for your investment, you should increase what you invest as your income grows. That way, you will be able to buy more shares at a time, increasing the efficiency of your dollar cost averaging and your DRIPs.

The Investing Answer: With consistency in your plan, it is possible to build a reasonable dividend income portfolio within 10 years or so. You can further increase your tax efficiency by holding dividend-paying stocks in a Roth account (if you are eligible), where your dividend income will grow tax-free.

Just remember: Be realistic about your timeframe, devote an increasing investment to your portfolio, and you could see good results in the long run.