Three ways to invest for passive income

Investing in companies that pay dividends is one of the most popular ways to generate passive income.

Dividends are regular payments made to shareholders as a way of letting them share in a company’s profits. These can be paid in cash or additional shares, and they can provide a steady income stream alongside potential capital growth or be reinvested to help compound growth over the long term.

While dividends are by no means limited to Australian shares, companies listed on Australia’s share market have historically paid relatively high dividend yields compared with those listed on other share markets and are more likely to pay dividends that are ‘fully franked’^. Australian dividends have been trending lower but there’s also the return from share price growth to consider over the long term.

When a dividend is ‘franked’, it means the company has already paid tax on those profits, which is then taken into account when determining your tax bill.

A dividend yield, which is an indicator of the return a dividend offers, is calculated by dividing the annual dividend by the current share price. So a $2 dividend paid on a $40 share equals a 5% yield.

Dividends are not guaranteed, but for the top 500 companies that make up the Australian Stock Exchange’s All Ordinaries index, the dividend yield has averaged just over 4% over the past 40 years or so^#.

For some companies, the dividend yield may be significantly higher than the average. But looking at yield alone can be risky, as yields tend to go up when share prices go down. Instead, many dividend investors look for companies with a history of growing dividends, and the ability to keep doing so in the future based on strong financial health.

Risk: High

Investment horizon: 7+ years

For beginners: Consider dividend-focused ETFs, or exchange-traded funds. These funds invest in a basket of dividend-paying companies, offering diversification and ease of access and may include ‘high-yield’ options.

For experienced investors: Explore dividend growth strategies targeting companies with rising earnings and a commitment to increasing dividends over time. Or look into actively managed portfolios that aim to deliver income above the ASX 200 index yield, while maximising franking credits.

You may wish to consult a financial adviser to help you explore dividend investing. Explore your financial advice options.

Property has long been a favourite among Australians seeking passive income. Traditionally, this has meant buying a house or unit and renting it out.

Rental income can provide steady cash flow, rising property values may deliver capital gains over time, and there may also be tax breaks available to property investors.

However, direct ownership comes with risks including periods when a property may be vacant, maintenance costs, a relative lack of liquidity (meaning it can take time to sell for a fair cash value), and the potential for overextending on debt.

That’s where indirect property investments come in.

Real estate investment trusts (REITs), property funds, and property ETFs allow you to invest in commercial or residential property without owning it outright. These options are typically more liquid and diversified, though they can be more volatile.

It is easier to value listed property trusts or REITs, as you can see what each unit is worth, and they are subject to market listing rules.

Unlisted property schemes are not listed on any share markets, which can make it harder to track the value of your investment.

The Moneysmart website offers a checklist for assessing the potential risks when it comes to investing in listed and unlisted property schemes.

Risk: Medium to high

Investment timeframe: 7+ years

For beginners: Listed REITs and property ETFs offer exposure to a wide range of properties with lower upfront costs and easier access.

For experienced investors: Unlisted property funds may provide more stable returns and less price volatility, though they often require longer investment horizons and higher minimum investments.

Bonds and fixed income investments offer a more secure path to passive income, which may be particularly attractive for investors who are focused on preserving capital.

Unlike shares, which offer part-ownership of a company, bonds and fixed income are essentially loans to governments or companies that pay regular interest and often return your capital at maturity.

They offer a set rate of interest to be paid at set intervals over a fixed period. Payments of a fixed income security are known in advance and remain fixed throughout the term.

Popular versions include government bonds, corporate bonds, debentures – which are assessed by the issuer’s creditworthiness rather than secured against assets, and capital notes, which are also unsecured and tend to offer a higher interest rate (but have a lower repayment priority should the issuer default).

While it’s possible to buy bonds as an individual, minimum investment amounts may be high, so bonds are often invested in via managed investment funds (within a super fund or separately) or ETFs, which may track a portfolio of government or corporate bonds.

They tend to move in the opposite direction to interest rates, so if interest rates are falling, existing bond prices are likely to rise, but the yield on bonds for new investors will fall.

While bonds are considered a defensive, or low-risk, investment type, bond prices can fluctuate, and there is some risk of losing your investment –  for example, if a company issuing a bond later fails.

Bonds have offered higher returns of late, although this coincides with higher market volatility.

For example, over the past year, global bonds provided a return of 5.5%* -- well above their 10-year average return of 1.9%. Australian bonds returned 6.8%, or more than three times their 10-year return of 2.1%*.

Risk: Low

Investment timeframe: Generally 1-3 years

For beginners: Bond ETFs and managed funds provide easy access to diversified fixed income portfolios.

For experienced investors: Consider buying bonds that mature at different times to manage interest rate risk and maintain regular income. Or look at income-focused ETFs that offer higher-yield, lower-risk investments, such as bank subordinated debt ETFs. 

Investing for passive income – whether your strategy involves dividend investing, property or bonds and fixed income – can help everyday Australians build wealth over time.

Whether you're reinvesting your returns, or drawing income to support your lifestyle, the key is to start early, diversify, and seek advice where needed.

Keen to know more? We can help connect you with the right financial advice for your investing needs.

Or learn more about the CFS investment options that align with your goals.