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For many, £30,000 will not be enough to fund a second income. However, many people have a similar amount saved. For example, several sources claim that the average pension pot is around £30,000 for people aged 35 to 44 in the UK.
That's too little to fund a long, comfortable retirement. But middle age is a good time to grab the savings and investment bull by the horns and make a plan to improve the situation.
Taking control
Self-directed investing in stocks, shares and funds can be a good way to go. There are currently some decent tax advantages with self-invested personal pensions (SIPPs) and stocks and shares ISAs. I would then use both as primary accounts for my investing activities.
Please note that tax treatment depends on each client's individual circumstances and may be subject to change in the future. The content of this article is provided for informational purposes only. It is not intended to be, nor does it constitute, any type of tax advice.
To start, it is worth considering how much money is needed to fund a second income of £15,000 a year. There are two ways to look at it.
We could use all the money saved over a period of years. But a better way may be to use the accumulated capital to generate income. For example, interest or dividends from the company. But how much will the pot have to be worth?
One way to generate dividend income is to invest in a low-cost company. FTSE All-Share Index tracking background. I like the idea because those funds are backed by many underlying businesses. Therefore, it is unlikely that everyone will stop paying dividends to shareholders at the same time in any crisis.
At this time (March 18), the index's average rolling dividend yield is around 4%. That means you would need £375,000 to fund a second income of £15,000 a year from FTSE All-Share dividends.
A lofty goal? Maybe. But in addition to regular contributions from my income, my goal would be to invest well and take advantage of the process of compounding returns.
A robust dividend payer
For example, several individual companies pay a higher dividend yield than the index. One is a financial services provider. Legal and general (LSE: LGEN).
With the share price in the 244p ballpark, the prospective dividend yield is just above 9% by 2025.
This is a considerable payout for shareholders. I would pool the income into my stock accounts and reinvest it in companies that pay dividends. One option would be to buy even more L&G shares. In many cases, share account providers offer a low-cost service that automatically reinvests dividends.
One of the risks is that L&G operates in a cyclical sector and that means its earnings and dividends can fluctuate over time. Both may go down and the share price could fall as well.
However, I'm encouraged by the company's strong multi-year dividend history. The compound annual growth rate of the dividend exceeds 4%. L&G did not even reduce its payouts during the pandemic year, unlike many other companies.
However, to spread the risks, my goal would be to diversify among stocks of several dividend-paying companies.
Compounding profits works best when done consistently and over a long period of time. Then I would start investing right away.
