Passive income refers to earnings derived from sources that require minimal active involvement or ongoing effort, such as rental properties, dividends from stocks, or royalties from creative works.
For many of us, it’s that ‘minimal active involvement’ that peaks our interest. We’re not talking about engaging in part-time work. This is about earning money with minimal effort on our own parts.
From my personal experience, it’s much easier, and normally lucrative, to earn passive income from stocks and shares than any other source. Here’s how I’d do it.
From humble beginnings
It can be demoralising when we’re kicking things off without any starting capital. But these days, with the emergence of fractional shares and no-fee platforms, it’s possible to invest with very little money at all. So, in order to grow my portfolio, I’ll need to start my making a commitment to save regularly, normally monthly.
Automatic savings is one way to do it. It encourage a consistent savings habit, ensuring that I consistently contribute to my stocks portfolio over time. By automating the process, I remove the need for constant manual action and reduce the risk of skipping or forgetting to save.
These days I can invest as little as £50 a month. But in this example, I’m going to imagine my wife and I are both contributing £200 a month to an ISA portfolio. This would work out at less than £7 a day for each of us, and £400 collectively a month.
I’ll also want to being using an ISA wrapper. All major investment brokers offer the ISA wrapper, which allows investors to earn money without paying tax on dividends or capital gains.
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.
The power of exponential growth
Compound returns is the strategy many investors use to grow their portfolios over time, eventually creating a pot big enough to deliver the passive income they’re looking for.
It refer to the concept of earning returns on both the initial investment and the accumulated returns over time, resulting in exponential growth of wealth. Essentially, for me to benefit, I need to reinvest the returns I receive year after year.
In some respects, this is more straightforward to explain. if I invest in stocks that pay sizeable dividends but offer little in the way of share price growth. However, it’s worthwhile highlighting that some companies don’t offer dividends, and reinvest their profits for me. Just look at Apple.
Anyway, the longer I contribute for, and the better the annualised growth I achieve, the larger my pot will grow. And when I hit my target, I can start withdrawing. I can either take my passive income in the form of dividends and capital gains from share price growth.
Here’s how my passive income streams could look by investing just £400 a month.
| 6% returns | 8% returns | 10% returns | 12% returns | |
| 5 years | £1,468.88 | £2,050.78 | £2,685.83 | £3,378.82 |
| 10 years | £3,655.78 | £5,406.60 | £7,516.51 | £10,058.44 |
| 20 years | £10,584.42 | £17,854.98 | £28,541.29 | £44,238.61 |
| 30 years | £23,190.36 | £45,485.90 | £85,456.27 | £157,046.40 |
Of course, the value of my investments can go down as well as up. This is why it’s incredibly important to make sensible choices based on research.
