For Canadian dividend investors looking to give themselves a bit of an income boost, there’s an ongoing debate about whether it’s better to passively collect income (in the form of interest, dividends and distributions) from one’s investments or if it makes more sense to sell a portion of one’s shares when one needs a fixed amount of cash.
Sure, the former is far more convenient, especially for someone who doesn’t want to figure out what in the portfolio needs to go to the chopping block at the end of any month or quarter. At the same time, though, passive income investing isn’t exactly the most tax-efficient way to go about things, especially if we’re talking about a non-registered account.
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Nothing beats passive income flows!
While I understand the appeal of the passive, hands-off approach to just sitting there and collecting the dividends that gradually trickle in, selling shares (for capital gains) stands out as the wiser move for those with more of a growth investing focus. Personally, I don’t think there is a “better” move. As usual, that stands out more as a personal finance question. And, as you’re probably well aware by now, personal finance is quite personal.
Let’s say you’re a TFSA investor who’s been heavy in a cash cow like Enbridge (TSX: ENB), which currently sports a huge 5.8% dividend yield (it’s not at a high point by any means, but it is that much more generous after the multi-month correction). If you just so happen to be accumulating shares on the way down, I’d argue that transforming your TFSA into a tax-free passive income generator is a move that makes a lot of sense.
The case for selling shares is quite strong
At the same time, if you’re in a name like Berkshire Hathaway (NYSE: BRK.B), which doesn’t pay a dividend, selling some of the shares incrementally over time from your TFSA to finance a semi-retirement or a sabbatical might also make sense. Personally, I think there’s no reason why you shouldn’t seek cash flow from passive sources (like dividends) while also trimming shares every now and then to get your income to where it needs to be.
When it comes to non-registered accounts, tax efficiency and picking stocks based on their total returns potential (rather than just yields) point to “selling shares” as the more logical move for those looking to build a sustainable cash flow stream for themselves.
At the same time, though, there’s nothing more comforting than getting a predictable amount of cash without having to dig into one’s nest egg altogether. Even for those with a conservative withdrawal rate (let’s say under 3% or so), it can feel a bit uneasy when selling shares from the portfolio in the midst of a brutal market downswing. Nobody wants to be “forced” to sell when stocks are moving lower.
The bottom line
For new investors, I think a hybrid approach makes the most sense. Let your dividend payers pad your passive income while you trim away at some of the “weeds” in the portfolio that no longer make sense to hold, or the overheated stocks that are overdue for a bit of profit-taking.
