Posted by Tim Stobbs on June 6, 2007
It seems to me that several people are planning retirements using at least some dividends to provide part of their income. This is a good idea, the problem becomes when you take it too far and try to pull off a Derek Foster and live off only dividends.
Let me say I do like dividends. They get great tax treatment from the government if you are lower income (see here) and if you pick good companies they will provide a nice raise and likely keep up with inflation. Yet people tend to ignore their dark side, the low yield.
You see in this over inflated market of nearly continuous record breaking highs for the TSX index the actual yield on most dividend paying stocks is very low. When most dividends are around 1 to 4% yield you end up needing a lot of cash to generate your retirement income. Let me provide an example.
Let’s say you need about $25,000/year in retirement income for a couple. If you buy all dividend paying stocks and manage to get an average yield of 2.5% you would need $1,000,000 to get your income since you are paying no tax. Yet if you use a more balance portfolio and get your income half from capital gains and half from interest income and pull off a 7% yield you need $475,950 to generate $25,000/year after taxes or $28,500 before taxes between the two of you.
So in the end you need about half the total amount of money. So remember not to get so hung up on tax advantages that you lose sight of the overall picture. The point is to retire early and to get there you need a higher yield than 1 or 2%.