6 things beginners need to know about investing for income

Data from investment platform Interactive Investor shows that its users’ holdings of 'fixed-income' investments nearly tripled over the two years to the end of June 2024.

Fixed-income investments, such as bonds and gilts, regularly pay out returns to their holders as an income, rather than the returns being reinvested for growth. 

As the rising costs of living have continued to squeeze the finances of workers and pensioners alike over recent years, the prospect of a secondary income from such investments has become all the more appealing. 

Here, we outline the different options for investing for income and the risks you need to consider, whether you're just getting started or looking to build on your knowledge.

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1. Bonds and gilts deliver regular interest payments

When you invest in bonds and gilts, you’re effectively lending money to a government or company. In exchange, you'll receive interest payments at regular intervals. Twice a year is typical. Many repayments are at a fixed rate –  hence bonds often being referred to as fixed-income investments – but some bond rates can be variable. 

Gilts are a type of bond that's issued by the UK government. You can invest in gilts directly or via a fund made up of gilts. According to Interactive Investor, the popularity of direct gilts is on the rise: assets held in direct gilts have increased more than 20-fold since the end of June 2022. 

Gilts, unlike stocks and other bonds, are backed by the Treasury. They're also exempt from capital gains tax (CGT) if you sell your holding and make a profit, although income from gilt interest is subject to income tax. 

The downside of bond or gilt investments is that they typically don't offer an opportunity for your investment to grow. If you want your investments to deliver good long-term returns, see our guides on types of investment for alternatives. 

• Find out more: Investing in bonds explained 

2. Some stocks pay regular dividends

Some stocks and shares pay investors a share of the profits on a regular basis, based on the number of shares they hold. Dividends are commonly paid twice a year, but it could be more or less often than this – and dividends are not guaranteed. You can buy dividend-paying stocks directly, or choose funds and investment trusts that are aimed at providing an income. These will generally have 'income' or 'dividend' in the fund name.

Dividend-paying shares can be a good way of boosting your normal income and, unlike bonds and gilts, typically also offer the opportunity for capital growth. But investing directly in shares is usually considered more risky than some other types of investment, and it’s important take all aspects of any asset into account when deciding what to invest in. 

Some companies can use promises of tempting dividend payouts to sweeten the deal for investors in what might be considered a higher-risk, or less appealing, business model or market environment. For example, one of the highest dividend payers in the FTSE 100 is British American Tobacco. Its dividend payout has increased 5.2% since 2014, while its share price has dropped 32% over the same period.

What is a share buyback?

A ‘share buyback’ scheme is when a company buys back some if its own shares, reducing the number of shares held by investors. This means that remaining shareholders get a higher proportional stake in the company, and thus a greater proportion of dividends.

Investment platform AJ Bell’s Dividend Dashboard report for Q2 2024 looked at dividends from UK-listed companies. It found that, collectively, FTSE 100 firms have unveiled plans for £38.5bn in share buybacks in 2024. 

It also showed that analysts expect the amount of dividends paid in 2024 to grow by 1% to £78.6bn, and then increase by 7% – to £83.9bn – in 2025.

• Find out more: How to buy shares 

3. Investing in property can generate rental income – but takes work

Investing in rental property is a popular way to generate a secondary income. But this option requires more attention and effort than investing in bonds or stocks and shares.

Financially, you'll need to factor in the cost of being a landlord. This includes property maintenance and repairs, plus potentially landlord insurance to cover theft, damage and temporary loss of rental income. Buy-to-let mortgage rates are currently high: if you’re not buying a property outright, this will eat into potential income.

You’ll also need to spend time becoming familiar with private rental laws and regulations. And, unless you pay an agency, you'll need to find tenants and be available to deal with both ongoing maintenance and urgent repairs.

• Find out more: Becoming a landlord 

4. Investing through a stocks and shares Isa can help to maximise your income

You can invest up to £20,000 in Isas each year. It's well worth making the most of this, as any returns from investments held in an Isa – including dividends and interest income – are tax-free. This can make a big difference to your returns, especially for higher and additional-rate taxpayers. It's possible to invest in bonds, gilts and shares through an Isa. You can't invest directly in property through a stocks and shares Isa, although you can invest in commercial property funds that pay a rental income. 

Returns on investments held outside of a stocks and shares Isa are subject to different types of investment tax, depending on the nature of the investments. You may need to pay:

• capital gains tax on profits from the sale of investments
• income tax on interest from bonds and gilts
• dividend tax on any income you take from dividends.

Most people get a tax-free allowance for each of these, which varies depending on the type of tax and whether you're a basic, higher or additional-rate taxpayer. But if you're investing specifically for income, there's a good chance you'll top one or more of the allowance thresholds. 

Check our verdict on the best stocks and shares Isas in 2024, based on feedback from 1,950 customers, plus our analysis of fees.

5. Taking an income could reduce the overall value of your investment

Some people take an income from their investments that includes part of its ‘capital value’ (how much the assets would be worth if you sold them), as well as any dividends. 

Let's say, for example, you invest £100,000 in assets that pay annual dividends of 3% (equivalent to £3,000), but you need an annual investment income of £5,000. You could choose to also withdraw the extra from the capital value. This would equate to 2% in the first year, and potentially more than this in subsequent years (subject to the investments' performance).  

If, each year, your investment grows by less than you withdraw, your money will eventually run out. While this may be part of the plan – if you're using it to fund retirement, say – you will need to balance this against the need for any future financial outlays. Funding later life care, for example.

• Find out more: How to invest: a beginner's guide 

6. A good financial adviser can help you manage your investment risk

It’s important to take on the right amount of risk for your financial needs and goals. If you’re interested in taking an income for retirement, for example, it might suit you better to have a slightly lower-risk strategy, so that you don’t unexpectedly lose money you need to live on.

Working with an independent financial adviser is a good way to find out which investments would suit your situation and your own personal appetite for risk. You'll get personalised advice that takes into account your circumstances, but fees can be high.  

If your situation is fairly straightforward, lower-cost alternatives include digital ‘robo-advisers’ and managed Isas. With these platforms, you'll usually need to answer series of questions to determine your goals and risk appetite. The platform's robo-adviser (essentially a clever algorithm) will recommend investments that most closely align with your responses. But there is usually less personalisation, flexibility and opportunity to ask questions than with a human adviser.  

• Find out more: How much financial advice costs