My £5-a-day plan to build a second income

Taking on a part-time job is one way to earn a second income. But it is by no means the only one. Like millions of other people, I regularly receive passive income simply thanks to investing in dividend shares.

That lets me benefit from the cash generated and distributed by large, successful companies with proven business models.

Not only does that not take the time a part-time job would involve, I also do not need to invest a lot. In fact, if I wanted to build a second income with no money now and simply by putting aside £5 a day, I could. Here is how I would go about it.

Regular saving

Everyone’s financial circumstances are different. But I could comfortably put aside £5 a day. That is £35 a week, meaning I would have over £1,800 each year I could use to buy shares I hoped would pay me dividends.

I would set up a share-dealing account or Stocks and Shares ISA and put the money straight into it, enabling me to start buying shares.

Building the income machine

Central to my plan to build a second income is creating a portfolio of shares I hope to pay me dividends – my income machine. In fact, although I think of it as a machine, it is not automatic. Dividends are never guaranteed.

So I would carefully choose a range of shares in strong companies I understood and felt had outstanding business prospects, along with attractive share prices.

Putting the theory into practice

As an example, consider the financial services company Legal & General (LSE: LGEN). I added it to my portfolio this year precisely because I think it has strong passive income potential I hope can last far into the future.

With a large customer base and strong brand, the firm can generate sizeable revenues without having to spend vast sums on marketing. Its market of retirement-linked financial products has excellent long-term potential, in my view.

Legal & General has a proven business model and has demonstrated it can generate strong profits, although they have moved about a fair bit over the past several years. One concern I have about owning this share (up less than 2% in five years) is whether a stock market crash could lead policyholders to cash in their policies.

That risks hurting profits and perhaps leading to a dividend cut like we saw from the company in the last financial crisis.

However, I feel that risk is reflected in the share price, which I think looks cheap.

Income ahoy!

That price means the Legal & General dividend yield is currently 9.2%. That is far above the FTSE 100 average.

But if I could earn a more modest average yield — say 5% — my £1,825 a year ought to generate around £91 of dividends a year. So after 10 years, I should be earning a second income of over £900 a year.

Or if I reinvested the dividends along the way, my long-term result could be even more rewarding. Ten years later I would hopefully be earning over £1,170 annually from my stock market investments.