You don't need a fortune to start earning passive income from ASX dividend shares.
What you do need is a little patience and diligence.
Here's how I'd start earning passive income with just a $1,000 initial investment.
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Targeting ASX 200 shares for passive income
As Warren Buffett famously advised, "Hold cash for emergencies, then plan to spend the rest on smart investments."
You want that emergency cash on hand to ensure you don't need to sell your ASX dividend shares at an inopportune time. Most stocks rise and fall throughout the year.
As Warren Buffett also said, "Our favourite holding period is forever." Meaning long-term investors can ride out any share price retrace and either hold onto their passive income stocks through retirement or sell at a hopefully profitable time of their choosing.
So, my first step is to seek out a high-quality S&P/ASX 200 Index (ASX: XJO) dividend stock to buy with my $1,000. I'd likely stick to the ASX 200, as larger companies tend to be less volatile, and many have lengthy track records of paying regular dividends.
I also prefer stocks paying franked dividends, so I can hold onto more of that passive income come tax time.
Now, keeping in mind the importance of diversification, I'd be hesitant to buy just one ASX 200 dividend stock. But I also wouldn't want to spread my $1,000 around across numerous shares, as brokerage fees would eat into my returns.
I'd therefore target a high-yielding ASX exchange-traded fund (ETF), like the BetaShares Australian Dividend Harvester Fund (ASX: HVST).
This ETF gives me instant diversity with exposure to a diversified portfolio of 40 to 60 ASX dividend shares across a wide range of sectors.
As at 31 October, the 12-month HSVT yield was 7.4%. The 12-month grossed-up yield, which includes franking credits (currently franked at 77%), is 9.9%.
And HVST pays out dividends every month, giving me a very regular passive income stream.
Patience
Now it's time to sit back and let the magic of compounding do its work.
At a 7.4% yield, I'll earn $74 per year in passive income, with potential tax benefits from those franking credits, with my $1,000 investment over the first year.
But rather than spend that money as it comes in, I'd reinvest it.
Without doing anything else, and assuming no change in the HSVT share price and that it maintains the 7.4% annual yield, that would see my $1,000 investment grow to $9,145 in 30 years.
That sum would yield me $677 in annual passive income.
But, taking Warren Buffett's advice, I'd also invest more of my non-emergency cash in ASX 200 dividend shares over time. Say an extra $100 per month.
With the same return assumptions, that would see my ASX dividend portfolio grow to $141,222 in 30 years.
And at a 7.4% yield, that would see me earning $10,450 a year in passive income to sweeten my retirement.
