If you do not find a way to make money while you sleep, you will work until you die.
A confronting yet insightful quote from the legendary American investor Warren Buffet. The amusing thing is Warren buffet still works to this day just because he is genuinely passionate about investing, economics & finance — he works for a purpose, not out of monetary necessity.
The importance of building an income that flows through regardless of whether you work should be high up on everyone’s financial priorities if they value a life free from the stressors of money. Here is where Canna Campbell’s book Mindful Money comes in. Mindful Money is an engaging read, providing readers with holistic yet practical tools for financing, supplementing advice with real-life scenarios that people of all financial literacy can understand. The book focuses on creating passive income streams in the quest to achieve financial journey.
Below are some simple but key points that will equip you with more financial clarity!
Dividend Reinvestment Plans
Canna advocates for a dividend reinvestment plan into shares as it is one of the easiest ways to build up a passive income. A dividend reinvestment plan is a program that allows investors to reinvest their cash dividends into additional shares of the underlying stock at a certain term. Dividend reinvestment plans come with certain benefits such as no brokerage fees, occasionally a small discount on the share price and of course it enables you to steadily increase your assets and consistently build stronger passive income! In addition, because of franking credits which is a tax regulation to avoid double taxation of companies, people can save more due to the tax efficiency of such investments. However, because it is a regulatory allowance, investors should be wary to rely on such returns as they can be revoked in the future.
A reinvestment plan also comes with some downsides, for example, the over-exposure to unsystematic risk due to continual reinvestment into the same stock. If you keep investing in the same stock, then that stock will take up a greater proportion of your portfolio, as such you would be more heavily impacted by a negative change in that stock. Furthermore, because the purchase of stocks is automatic, sometimes you will have no say in the purchase price of the stock from the reinvestment plan.
ETFs and LICs
Diversification is key to a stable portfolio. If you do not want to spend hours upon hours every day micromanaging your stocks, then exchange-traded funds and listed investment companies are for you.
Exchange-traded funds and listed investment companies (LICS) are like managed funds. ETFs and LICS can be purchased on the stock market and offer investors an easy option for the diversification of their portfolio. Because of the bundled nature of ETFs and LICs Canna recommends a portfolio containing different percentages of such investments depending on each person’s unique circumstance and risk tolerance.
Canna clarifies for readers that, the difference between LICs and ETFs is that LICS is a closed investment meaning there is a limited number of shares available whereas ETFs are open-ended with an unlimited supply. In short, ETF has a trust structure and LIC has more of a company structure. This is important for tax purposes as currently in Australia trusts do not pay capital gains or income tax and hence are passed down to the investor whereas LICs can either retain or pay investors their profits via dividends.
A margin loan or an investment loan is a kind of loan that lets you borrow money to invest more using your existing assets such as shares, or cash as security. Depending on how much security you can offer the loan provider will offer you a certain amount to invest. However, when your margin account falls below a broker’s requirement, they will be required to bring the loan to value ratio to safe levels by either transferring cash/security to the account or sell off investments to meet the maintenance margin. Whilst leveraging money is always considered risky due to amplified losses associated, a margin loan can also bolster your passive income in the long term. Canna gives a scenario of taking out a margin loan of utilising this margin loan to invest in more LIC shares. In combination with a dividend reinvestment plan, an investor can amplify their portfolio’s growth potential in the long term
Property is a two-dimensional assets The value of property grows over the long run whilst passive income can be obtained through rent. Other than the popular residential investment options there are also commercial properties such as offices and industrial options that can be considered. Investing in property is different from investing in shares as there are different factors to consider.
Factors such as potential rental income, strata or corporate fees, insurance, and mortgage fees being some of the main ones to consider when considering the passive income cashflow for investment properties. When considering the capital growth potential investors must consider more qualitative aspects of the property such as the location, potential for renovations, and the subjective value of the actual property concerning its context.
Investment properties also have a higher barrier of entry with a large initial deposit whilst shares Canna recommends that you start with at least $1000 for it to be worthwhile.
Capitalising on investment properties
After having invested in the property Canna offers two potential ways to capitalise on the initial investment. The first option being to use the first property as security to help down-pay the loan on the property. The second property’s rent can go towards reducing the strain of the loans to extinguish the size of the interest payments on the mortgages to return the balance to a positive cash flow.
The second option involves using the equity from the first property to invest into a portfolio of LICs and ETFs. The dividends from the shares contribute to either paying off the mortgage or be further automatically reinvested into the companies for potential capital growth and income opportunities with the trade off of having a slightly longer loan repayment schedule. It is noted that holding investment properties can initially drain your passive income, especially if the properties have a large period of vacancy between tenants.
Everyone has the power to achieve financial freedom and change their wealth trajectory. By simply implementing a few savvy tips and levelling-up your financial knowledge, you can create a powerful impact for years to come.
Stay tuned for part two of the most important lessons from Mindful Money next week!
Written by James Zhou