How to turn a lump sum into passive income in the UK

Whether it’s from a generous inheritance, the sale of a business, or substantial savings, receiving a lump sum can be lifechanging. Invest the money wisely and you could secure additional revenue streams to improve your quality of life.

But if you don’t take advantage of your opportunity to build a passive income in the UK, your money could lose its value. 

In this article, you’ll learn how to make passive income in the UK with a lump sum investment. You’ll also discover some of the tax exemptions that apply to passive income in the UK, under HMRC’s ‘trading’ and ‘property’ allowances.

What is passive income?

Passive income is money you can make with minimal ongoing effort. Although it takes upfront investment, once you set up a passive income stream it can make you money regularly. This can help you offset inflationary pressures on your finances, build your financial resilience, and reach your retirement goals faster.

Passive income in the UK and how it’s taxed

The tax you pay is determined by your income, which is explained by your tax code. If you’re a UK taxpayer, you’re entitled to an allowance of up to £1,000 tax-free a year, called the ‘trading allowance’. The trading allowance applies to passive income in the UK. 

You can also get an additional £1,000 of tax relief on income made through property. This is known as the ‘property allowance’.

The property allowance is invalid if you make the passive income by renting out a room in your own home through the Rent a Room scheme. This is because you receive tax relief up to £7,500 under that scheme. You also won’t qualify for the property allowance if your property income comes from:

• companies you control, or that someone you’re connected with controls.
• partnerships if you’re one of the partners of a firm.
• employers if they employ you, your spouse, or civil partner.

Tax law can be complicated, so if you’re not sure whether you qualify, consider speaking with a Financial Adviser.

How to make a passive income in the UK for high earners

Five passive income ideas in the UK for high earners

1. Earn high interest on your cash deposits

High-street banks enjoy 75% of the savings account market. This means the largest banks are effectively disincentivised to provide you with high interest rates. But with a substantial deposit, you can get access to more competitive rates.

A higher rate also means you can benefit from greater compound interest. 

Flagstone allows you to access, open and manage multiple savings accounts with one application. When interest rates outpace inflation, you can grow your savings faster by dividing your lump sum between high-interest accounts, while also maximising your FSCS (Financial Services Compensation Scheme) protection.

2. Buy shares that pay dividends

One way to invest with minimal risk is to use index funds. Depending on the companies included within an index fund, you could get paid a regular dividend.

Buying shares in specific companies is another way to get paid a dividend, but this can increase your risk. This is because single companies can struggle to remain profitable due to unexpected economic factors.

Index funds track the performance of multiple companies on an index (such as the S&P 500, or the FTSE 100). In general, it’s less likely (though not impossible) that a range of companies operating in different sectors will struggle at the same time.

What is a dividend?

A portion of profits paid to people that own shares of a company.

Dividends are often paid quarterly, though the exact timeframe depends on the company in question. You can either receive the money from the dividend in cash, or reinvest the money into buying additional shares, potentially increasing your future profits.

As with all forms of investing, there’s no guarantee that you’ll get paid a dividend every year. Companies can always lose their value, and may even go out of business unexpectedly.

The tax-free dividend allowance

In the UK, you can earn some dividends without paying tax. This is known as the tax-free dividend allowance, and it’s determined by the top level of tax you pay.

Outside of a Stocks and Shares ISA and the annual tax-free dividend allowance, the dividend tax rates are:

3. Rent or lease your space

If you have a lot of physical space to spare, either from owning additional property or because you travel frequently, you could consider renting or leasing. Beyond the popularity of services like Airbnb, you could offer your space for filming, photography, or high-end events.

You can contact companies that work with major studios directly, such as Locations London, to see whether your property qualifies.

The exact amount of money you can make from leasing your property depends on the size and budget of the production. The top end for a shoot can be as high as £2,500 per day for a blockbuster film.

4. Buy into a REIT

REITs (Real Estate Investment Trusts) own lots of properties and allow investors to purchase shares in exchange for some of their profits. REITs manage, finance, and buy real estate including apartment buildings, hotels, office space, retail outlets, and other property.

This allows investors to add property to their portfolios without needing to manage the real estate themselves, providing a passive income stream for investors.

REITs typically make their money through leasing agreements and rent. Some REITs finance real estate rather than owning the buildings outright, known as ‘mortgage REITs’. But mortgage REITs make up a minority of the market.

5. Buy bonds for predictable income

Fixed-rate bonds offer a predictable source of income. In exchange for investing your money for a period of time (known as the ‘term’), you get paid a fixed amount of interest. Fixed-rate bonds can be useful to get predictable returns. But if rates increase and you invested in fixed-rate bonds, you won’t benefit from additional interest.

This means you can diversify your revenue streams by buying some fixed-rate bonds. But you could increase your earning potential by balancing this investment with other passive income streams.

Investing your lump sum to unlock passive income in the UK

A lump sum can give you plenty of options to generate a UK passive income.

By deciding on your priorities, using your current resources creatively, and diversifying your revenue streams, you can secure solid returns for the long term.