Are you investing to generate an income stream?
Building your savings prior to retirement generally involves a different investment approach then when you finally do retire and need to draw an income from those savings.
Many people believe they need to generate a large sum of money before they retire and then just draw down the account over time.
You should know that in retirement you do not live off a lump sum of money.
In retirement you live off the income produced by a lump sum of money and generating income from your savings might involve the use of dividend-producing investments.
A dividend is essentially a payment made to the owner of shares in a company. If the shares in question are from a qualifying Canadian corporation, they have preferential tax treatment over income that is received as salary or interest income (otherwise known as "other income") when it is received in an open or non-registered account.
People who have investments that are not sheltered in an RRSP, RRIF, or TFSA should consider dividend-producing shares as a part of their portfolio if they are looking to generate income from their investments to take advantage of the dividend tax credit for qualifying stocks.
Even if you are not in need of income from your investments, dividend-producing stocks are great tools to help you build a portfolio where you get paid to wait for the underlying stocks to appreciate in value.
The ability to generate capital growth in your stock portfolio is one of the great features of this type of investment.
If you have a stock that offers a 4% dividend, for example, and over the year the market value of the stock grows by 5%, then the combined return of that investment would be 9%.
It is important to note, however, that the underlying stock could also lose value, but this is what makes the dividend all that more important as it mitigates the overall loss in market value. A company that offers a dividend for its shareholders and who grows that dividend over time is a very attractive company from an investor's viewpoint.
Although a dividend is not guaranteed, most companies are reluctant to cut or reduce their dividend regardless of how difficult their year has been; they will be punished by investors who sell off their shares in response, thereby driving down the value of the company.
In a low-interest rate environment, it is very difficult to generate income from your investments and dividend-producing stocks offer an alternative to other forms of income.
When a dividend is issued, you can either have that money paid out in cash as a distribution or you can have it reinvested to purchase more of that stock.
The ability to generate a cash flow, a potential capital gain and a tax credit (for qualifying dividends) makes dividend-producing stocks an attractive investment option for any portfolio.
Doug Riding BA, CFP, FMA is a senior investment adviser with IPC Estate Services. www.ridingteam.ca