Investing for Income Stream - when do you start the Income part?

Ok, I know this is a highly subjective question, but I'm curious on people's viewpoints.

As you probably know if you've been following my adventure, I have a few accounts that generate income from interest/dividends.

  • Ally Savings - Earns Interest, I treat that as income of course
  • Vanguard Settlement Fund - Dividends currently just staying there until I get it up to the point where I can switch to the better MM fund, at which point this question will matter there (this account is also fully on budget since it's basically a savings account - the dividends are on budget but just go back into the investing category currently - will probably be treated like Ally once I get it switched to the other MM fund, except that the base amount will be categorized specifically as investing). 
  • M1 Investment account - Gets dividends (not much yet) from several of the investments, currently everything reinvests since I don't have the account up to my first funding goal yet, at which point this question will apply (this account is also an off budget tracking account where I'm just tracking my contributions to it currently) - this is the main account the question applies to I think.

So the question is, what is the general philosophy on switching dividends from reinvest to send to checking/savings account for actual income, and how do you balance that with contributions to the investment account (i.e. keep doing them the same/do them less/stop contributing)?
 

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  • For me, I will use dividends for income when I am in the portfolio withdrawal phase... aka when I retire. Until then they get reinvested or I'm losing out on the total return on my investments. If I actually decide i want to use the brokerage account for something before retirement, I might just withdraw some dividends at that point. But I would not use them for income just to have more money to budget, because it will slow the long term  growth of the portfolio.

     

    Dividends are roughly 2% of a broad market portfolio. Have you calculated total return on your investments over 10, 15, 20 years if you pull out 2% of your portfolio every year? It's a pretty large effect. I've seen mentioned that an advisor 1% annual fee results in a smaller portfolio by 30% after 20 years. That's 1%, not 2%.

    My taxable dividends last year from my brokerage account were just shy of $2000.

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      • TechieM2
      • IT Professional and General Geek
      • techiem2
      • 2 wk ago
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      nolesrule Interesting.  I haven't really done any calculations since those accounts don't have enough in them yet to run the numbers decently (I got a whopping $0.27 in dividends last month in my M1 account).  

      One more thing to mention is that these are purely personal accounts in addition to my healthy 403b and my slowly growing ROTH, so I'm assuming those will be my main retirement income sources.

      Yeah, those fees are killer.

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      • nolesrule
      • YNAB4 Evangelist
      • nolesrule
      • 2 wk ago
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      TechieM2 I'm investing mainly because I don't have a better use for the money. if I have a better use, I would probably just shift money from going to investments into going into the category for something else. On the other hand, if I want to do something bigger, I always have that option.

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  • Note that Vanguard Money Market (specifically VMMXX) is currently paying around 0.5%. Money market funds are very sensitive to changes in short-term interest rates—even more so than savings accounts.

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      • TechieM2
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      • techiem2
      • 2 wk ago
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      Matthew Huh I hadn't looked at the current return recently.  I'll have to look at that for amusement.

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  • So I guess a large part of the answer comes down to the basic question of "What are you investing for?".

    In the case of my Vanguard account, it's basically another savings account that sometimes has a better return than my Ally account and is still pretty safe.  Currently there isn't enough in it to generate much, but I am moving some of my normal on-budget funds there every month to get it built up to a reasonable level, and the dividends currently get allocated into my Investing for Dividends/Interest category to build up the account more with designated investing funds. 
    For this my overall thought is to keep going as is until the funds in the account designated as Investing for Dividends reaches a good level, then switch the dividends to going to the normal budget like interest on the Ally account (while still continuing to fund the account overall with funds for longer term goals like I'm doing now).

    In the case of my M1 account, it's primarily a market education and fun account that is tracked off budget (I'm currently only tracking the money I send to it), with the eventual goal to have it generate enough to be worth withdrawing some of the dividends back to the budget rather than reinvesting them.
    The logical part of my brain tells me this point would be when it is reliably generating at least twice what I am automatically contributing (which currently isn't much).  This would let me stop automatic contribution by letting it fund itself at the same level to keep growing (and freeing money in the budget), while also allowing me to withdraw that same amount back to the budget for other uses (yay extra income).  Obviously the reinvest/withdraw split would have to be analyzed now and then based on account growth, current priorities, etc..

    I guess a side benefit of the way I am currently handling the M1 account (as small as it is currently) is that it's one more buffer to go through before having to draw from retirement funds if something major happens that drains all my on-budget funds.  So I guess along with my goal of having it eventually generate usable income, it's also a nice little off budget emergency fund building up.  That's a nice little extra bit of peace of mind.

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      • nolesrule
      • YNAB4 Evangelist
      • nolesrule
      • 2 wk ago
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      TechieM2 Just an FYI. Investing for Dividends is not tax efficient. I don't avoid dividends, but I also do not target them specifically.

      If a large part of your total return comes from dividends because you are targeting dividends, you end up paying more taxes on your return even when reinvesting it. On the other hand if you target a total return and don't chase dividends (for example investing in a broad market fund so that you are just getting the market's share of dividends), most of your growth will come from capital gains. You can then sell shares to create your own dividend, only the part that is gains is actually taxable. And if you use specific ID, you can choose which shares to sell resulting in being able to reduce capital gains (or take a loss intentionally) to reduce your tax liability.

      Dividends are not magic money. They are not like interest. Dividends are a distribution of assets of the corporation. By distributing the asset, the company is less valuable. As a result, share price decreases because the value of the company decreases. This is sometimes hard to see in a volatile market because there are other forces that affect price change besides dividends. That's why it's important to invest for total return, because Total Return = Dividends + Change in Price

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      • TechieM2
      • IT Professional and General Geek
      • techiem2
      • 2 wk ago
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      nolesrule Thanks!  Most of my investment is actually pretty broad base, so I'm not specifically targeting dividends, but they are there (and theoretically will become larger as the account gets larger and the market stabilizes etc.).

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  • Of course there's also the possibility that, with the way dividends work, an investment account would need far more funds in it to get the same possible dividends as fewer funds would generate in (mostly) reliable interest in the savings account.  All things to ponder and explore and learn.

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