Best Monthly Income Investments for 2023 | Low Risk Options (2024)

1. Bonds

Bonds are usually regarded as low-risk investments, and as such, they also have a low return potential. While they offer no principal growth potential, they provide a fixed income stream and return of principal at maturity, making them an ideal choice for conservative investors who want to secure a regular income with their investments.

In a nutshell, investing in a bond is lending money to another financial entity and earning a predetermined interest rate or coupon payment in return for the bond's duration. The principal amount is returned to the bondholder at the end of the bond term.

Most commonly, bonds are issued by corporations and governments.

Corporate vs Government Bonds

The regular interest payment made by the bond issuer to the investor is called a coupon. Both corporate and government-issued coupons are paid regularly, typically semi-annually or annually, as specified in the bond's terms.

The main difference between investing in corporate or government bonds is the risk and reward profile associated with each type.

Since government securities back government bonds, the risk of default is very low. For example, the governments of strong economies, like the UK, the USA, Germany, Switzerland, Canada, and Australia, have never defaulted on their debt and historically have always honoured their bond obligations.

This is why the bonds issued by these countries typically have low yields compared to corporate bonds.

On the other hand, corporate bonds are backed by the creditworthiness of private corporations. The risk of default on corporate bonds is higher because companies may face financial difficulties or other challenges that could affect their ability to make timely coupon payments or return the principal amount.

Corporate bond issuers typically offer higher interest rates to compensate for these additional risks investors take, making them potentially more profitable.

For optimal results, most financial advisors recommend building a diversified bond portfolio that includes a mix of both government and corporate bonds. By diversifying, investors can benefit from the potential stability and lower risk of government bonds while also seeking higher yields from well-researched and carefully selected corporate bonds.

Tax Considerations

The tax considerations for earning a regular income from bonds involve two main concepts: the personal allowance and the personal savings allowance.

The personal allowance is the amount of money individuals can earn before they start paying income taxes imposed by the UK government. Subject to annual change, it’s £12,570 for the tax year of 2023/2024.

This means that individuals who receive income larger than £12,570 are subject to income tax, with the following tax rates:

• For taxable income of between £12,571 and £50,270, the tax rate is 20% (basic rate);

• For taxable income of between £50,271 and £125,140, the tax rate is 40% (higher rate);

• For taxable income of over £125,140, the tax rate is 45% (additional rate).

However, income generated from bonds does not count towards the personal income allowance but towards another government-imposed allowance called the personal savings allowance. The size of the personal savings allowance depends on the investor’s tax band:

• Investors who earn a taxable income within the personal allowance get a personal savings allowance of £5,000;

• Investors who earn taxable income taxed at the basic rate get a personal savings allowance of £1,000;

• Investors who earn taxable income taxed at the higher rate get a personal savings allowance of £500;

• Investors who earn taxable income taxed at the additional rate get no personal savings allowance.

Exceeding the personal savings allowance with income generated with bond coupons will subject investors to paying tax at the above-mentioned tax rates.

In contrast to bonds, stocks and shares are traditionally considered long-term, high-risk investment options and are primarily bought for their capital appreciation potential. Most investors buy the shares and stocks they expect to increase in value over time, allowing them to sell at a higher price in the future and make a profit.

However, since investing in stocks is essentially buying partial ownership into a business, they entitle the investor to a share of the company’s profits, making them a potential source of regular income in the form of dividends.

Dividends

Dividends are periodic payments companies make to their shareholders out of their profits. When a company generates profits, it can choose to distribute a portion of those profits as dividends to its shareholders.

They’re usually paid regularly, such as quarterly, semi-annually, or annually, although some companies may pay special dividends or irregular dividends.

It’s important to point out that not all companies pay dividends. Younger companies in growth-oriented industries, such as technology, may reinvest their profits into the business to fund expansion and development rather than paying dividends.

As dividend payments can be attractive to investors seeking a steady income stream from their investments, dividend-paying stocks are often favoured by income-oriented investors.

Interested investors typically look for companies with a history of consistent dividend payments, strong financials, and a sustainable business model. They consider factors such as dividend yield (dividend per share divided by stock price), dividend growth rate, and the company's ability to generate consistent cash flow.

Please note that investing in dividend-paying stocks still carries risks, as the value of the stock can fluctuate, and dividends are not guaranteed. Investors should conduct thorough research and consider their investment goals and risk tolerance before making investment decisions.

Tax Considerations

Regarding paying tax on dividend gains, the UK government imposes a dividend allowance whose threshold changes over time. While it was £2,000 the year before, starting from 6 April 2023, the new dividend allowance is only £1,000. The amount may be changed again when the current tax year ends on 5 April 2024.

Dividend gains that fall into the dividend allowance are not subject to income tax, and the dividend income that exceeds the dividend allowance will be subject to taxation based on the investor’s income tax band:

• Investors whose income is taxed at the basic rate will pay an 8.75% tax on dividends over the allowance;

• Investors whose income is taxed at the higher rate will pay a 33.75% tax on dividends over the allowance;

• Investors whose income is taxed at the additional rate will pay a 39.35% tax on dividends over the allowance.

3. Income Funds

Funds are investment vehicles that pool money from multiple investors and use them as capital to invest in a diversified portfolio of securities, such as stocks, bonds, or other assets. Rather than investing in each security individually, funds allow investors to gain exposure to a diversified mix of assets without directly managing and monitoring each investment.

As the name suggests, income funds specialise in generating regular income for investors, focusing on bonds, dividend-paying stocks, and other fixed-income instruments. There are multiple types of income funds, though mutual funds and ETFs are the most popular options.

Mutual Funds

Mutual funds are managed by a professional fund manager or a team of managers. They make the investment decisions on behalf of the mutual fund, including selecting the securities to buy and sell and determining the fund's asset allocation.

When investments within a mutual fund generate profits, the fund's investors may receive payouts as dividends or capital gains distributions. These distributions represent the share of the fund's earnings allocated to each investor based on their holdings in the fund.

The drawback is that since the funds are managed by a professional, the investors have to bear the costs associated with the professional management of the mutual fund. These costs can take a significant bite out of the fund's potential income.

ETFs

ETFs, unlike mutual funds, don’t require active management as they’re typically passive or designed to match the performance of a specific market index. Furthermore, unlike mutual funds, ETFs can be traded on the stock market, allowing investors to take advantage of smaller changes in the fund's value.

ETFs' main advantage over mutual funds is their cost-effectiveness, as they typically have lower expense ratios. Due to the lower management fees and operating expenses, investors can retain a larger portion of their investment returns.

However, investors looking for a passive income that wouldn't require active monitoring and adjusting their investments may still find mutual funds more suitable.

Tax Considerations

Investors can be subject to different taxes explained in this article, depending on the securities the funds hold. If the funds have dividend-paying stock, investors will be subject to taxes related to dividends; if they hold bonds, to the taxes associated with coupons, etc.

4. Property

Buying and renting a property is one of the most popular options for investors who want to invest for a regular income. However, considering the prices of houses and other properties, not everyone can afford to enter the property market independently. This is why many investors use their capital to secure a down payment and use a buy-to-let mortgage to finance the property purchase.

The idea is to use the rental income generated from the property to cover the mortgage repayments and potentially generate a profit. Moreover, the investor will also benefit from capital appreciation down the line and sell the property for a higher price in the future.

Tax Considerations

Typically, rental income is taxable unless it qualifies for specific reliefs or allowances, like rent-a-room relief, furnished holiday lettings, or a property allowance.

When taxable, rental income is taxed at the applicable tax rates based on the investor’s income tax band:

• 0% if the investor does not exceed their personal allowance;

• 20% if the investor is a basic rate taxpayer;

• 40% if the investor is a higher-rate taxpayer;

• 45% if the investor is an additional rate taxpayer.

5. REITs

REITs, or real estate investment trusts, are to properties, what funds are to stocks and bonds. They are investment vehicles that allow individuals to invest money in a portfolio of income-generating real estate assets without directly owning properties. They eliminate a few of the most significant barriers to entry in real estate investment, such as:

• The need for a considerable amount of capital to buy properties outright;

• The responsibilities of property management and maintenance;

• The lack of diversification that comes with owning a single property.

While they don’t offer the capital appreciation opportunity of purchasing a property, they generate a steady cash flow making them an excellent option for investors who want to secure a regular income.

Tax Considerations

Even though the regular payouts from REIT investments are sometimes referred to as dividends, they are taxed as property income or rental income rather than how dividends from dividend-paying stocks are taxed. In other words, the same tax considerations for rental income apply to regular income received from REITs.