Initially, I recommend doing this with pencil and paper, like the notes documented above.  After you have done a number of paragraphs, you will find that you can retain some of it in your head, and translate from the paragraph you are indexing directly to index entries.  If you are working with a software tool, you may grow to be able to work fast enough, as time progresses, to do most of these steps in your head, and/or with the software tool.  Either way, you will find you will need to use hand-written notes less and less.  However, DO NOT interpret this that it is a "goal" to use fewer notes.  On the contrary, if you need to use 3 reams (1500 sheets) of paper to index your document, please don't hesitate to do so.  That is a LOT less expensive than missing index entries that should be there in order for your readers to find your index easy and effective to use.  A superlative-quality index pays for the paper you used to create it many, many times over.