This isn’t an article about how to save money by discontinuing the daily latte to save $4.50 per day.
Now, if you are struggling paycheck to paycheck, this would be helpful. However, this won’t substantially affect your savings or retirement account.
But there is something you can do with that $4.50 a day to noticeably impact your savings!
If you were to put $4.50 a day in a savings account, you will have saved $1,298 in a year. That’s a meager return of $128 at half of 1% per year!
A much better plan is placing those funds in a high-yield exchange-traded fund (ETF) or closed-end fund (CEF). Several provide monthly dividends rather than quarterly and can pay as much as 1% per month versus a 0.5% per year in savings account.
For example, if you took that daily cup of coffee and invested in an ETF or CEF you could realistically see your first-year total be $1,608 instead of the original $1,298.
What if you started with an account holding $1,250? If you consistently add the original coffee savings, you will nearly triple your initial investment to $3,708 after the first year.
And this isn’t a linear projection. If you are in your 20s you can reinvest the income along with the coffee savings to continue this every month. Then, increase the additional amount when you can.
Your returns will increase exponentially by taking full advantage of compound interest. If you are close to retirement, you can convert your IRA and earn monthly income without touching your initial principal.
Income in retirement
One thing you need to consider are the required minimum distributions (RMD). As of age 72, you will have to take a distribution equal to the account size divided by 27.4 as of 2021.
So, if you have a $500,000 account, you will need to take a distribution (in a lump sum or over the course of the year) of $18,248.
If you were to earn 1% monthly and take a distribution of those dividends you would be taking $60,000 per year. You would meet this requirement easily.
Your account will grow at the rate of the CEFs or ETFs dividend rate. As long as you are taking distributions each month, you won’t have to worry about taking a larger distribution until you reach the age of 97!
When conducting research on high-yield CEFs and ETFs, the main argument against some of the funds is that they don’t have much price appreciation. This is short-sighted.
This shouldn’t be a concern if you are using it as an income vehicle. In fact, you don’t want it to change much. This might sound counterintuitive because it is ingrained to want assets to grow.
When you reinvest your dividends in the fund, which is where the compounding happens, you don’t want it to be drastically more expensive when purchasing additional shares. You would wind up buying fewer shares which would reduce your overall return.
Appreciation is only helpful if you plan to sell an asset at maturity. Without asset appreciation, the more you can buy, the more interest you can receive, and the more your investment compounds.