Income investing is coming back into the spotlight these days as investors seek security and income from investments that pay a regular dividend or rate of interest at regular intervals during the year. Most trusts pay monthly and this is particularly helpful when planning your monthly budget during retirement.

There comes a time when preservation of capital and income support trump growth as primary investment objectives. Retired investors need some income-producing investments. Younger investors may be saving for a home or financing college-bound children. In these cases, the predictability and relative stability of income investing strategies can give peace of mind and a predictable rate of return.

Popular debt investments include high-quality government and corporate bonds and Guaranteed Income Certificates (GICs) that pay a fixed rate of interest and pay back the principal at a set maturity date. While GICs have a maturity date ranging from one to five years, bonds may have maturity dates ranging from one to 30 years.

Popular equity income investments include corporate preferreds and common stocks that pay a dividend. Some preferreds are redeemable at a fixed price and pay a regular dividend and perform much like a bond. Some have a convertibility option that allows a swap for common shares.

Equity investments are measured by their current yield – a rate of return calculated by dividing the dividend by the cost of the investment and expressed as a percentage. Yield to maturity is the most common measure of a bond’s value, which will tell the investor the total return received if the bond is held to maturity. Yield to maturity includes all interest payments and any capital gain or loss whereas the current yield of a bond is the annual return on the cost of the bond regardless of maturity. If you are looking for monthly income holding a 20 year bond might not be the best.

Income and Royalty Trusts and Real Estate Investment Trusts (REITs) are equity income-producing investments. The annual cash distribution varies and depends on the free cash flow the Trust’s assets can generate during the year. The risk is the reason Income and Royalty Trusts tend to trade like stocks and carry a higher yield, compared to other income investments.

Of particular interest to Trust investors are the optional ways cash can be distributed as a combination of interest, dividends and as a return of invested capital. The exact nature of the cash distribution varies from trust to trust. And so, along with all the income investments mentioned here, they need to be considered in light of how they are taxed in your hands – as interest income, as dividend income or as capital gains.

However, beginning in 2011 a distribution tax will start to be levied on income trusts and this is expected to reduce the cash distribution to investors. A silver lining is those future distributions will be deemed dividends and taxed as such. To date some income trusts have already converted to corporations and are taking advantage of tax pools (in the resource industry) and cash balances to keep their distributions the same.

Comments or questions – Colleen Pfannenschmidt (250) 979-2722 or email colleen.pfannenschmidt@raymondjames.ca