Investing for Income? Think again

We’re regularly puzzled when asked if we have investment portfolios specifically designed for people seeking ‘income’.

With the exception of certain Trusts that have historically always split out an entitlement to ‘natural’ (dividends and interest) income, but with no entitlement to the Trust capital.

There is zero logic and justification for simply selecting investments for the ‘income’ they produce.

5 reasons why investing for income is NOT a great idea:

1.  The fallacy of the ‘free’ dividend

Investors may consider dividends offer a safe hedge against the large fluctuations in price that shares experience. But this ignores when a dividend is paid, a share’s value is offset by an equal fall in the share’s price. It’s what can be called the fallacy of the free dividend—the only free lunch in investing is diversification, not dividends.

2. More than 300 UK listed companies have cut or cancelled payouts, according to AJ Bell.

That figure includes Royal Dutch Shell, the largest payer of them all. Furthermore, Citywire recently reported that UK dividends could fall by as much as 50%, a bigger drop than the 2008 financial crisis, as a result of the huge economic disruption caused by the coronavirus epidemic. A salient and timely reminder that dividends are not a certainty and will vary or cease over time.

3.  Approximately 66% of American shares and just under 50% of international (including the UK) shares do not pay any dividends.

So, any investment approach focusing just on ‘income’ would have to exclude all these companies, a very undiversified investment strategy!

4. Taxation

Outside of an ISA (Tax-free) wrapper, any interest or dividends (income) are generally taxed at higher rates than any tax (Capital Gains Tax) on investment gains. Additionally, very few individuals regularly and systematically use their annual Capital Gains tax allowance (£12,300), thereby missing out on potential ‘tax-free’ growth

5. Portfolio longevity

Reducing taxation on an investment portfolio increases the portfolio’s longevity as a direct result of minimising the impact of taxes. Maintaining more control over when and how much is withdrawn from the portfolio, investors can increase the length of time that the portfolio is able to meet their spending needs. Therefore, by minimising taxes and maintaining control over spending, the longevity of the portfolio increases and risk of running out of money decreases.

Please contact us if you wish to learn more about our ‘Total return’ investing alternative.