How I’d find the best passive income stocks to buy today with £20k

I want to earn some extra income to top up my State Pension. To do that, I need to find the right stocks to buy now, at today’s low prices.

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I don’t fancy trying to live on the State Pension when I retire. So I put all my spare cash into the UK stock market to try to make a bit more. But how do I find the best stocks to buy?

Well, I think British shares are too cheap now. But prices do often fall when people are feeling the pinch through inflation and high interest rates.

And when the squeeze eases off, I reckon we could see share prices bounce back.

Stocks and Shares ISA

I choose £20k because that’s the annual ISA limit, and I hold my shares in an ISA. But my plan would be the same if I had £2k, or £200k.

How I’d go about it is, I think, more important than the actual shares I’d buy today. I mean, this time next year, the best stocks to buy might be different. But the right strategy can last for life.

And there’s no big secret. I just pick FTSE 100 stocks that pay good dividends.

I could get guaranteed income from a Cash ISA, at least for the stated term (which tends to be short). And some now offer 4%-5% or so. But they’ll surely dry up when the Bank of England drops its rates.

Dividends are best

No, I want good returns from dividend stocks for decades to come.

The main risk, though, is that there’s no guarantee. Just look at all the dividends that were slashed in the pandemic. Banks, some of my favourite long-term cash cows, pared them all the way to zero. Oh, and their share prices crashed too.

So how can I minimize that kind of pain? I spread my cash across different sectors to provide diversification, which I rate as essential.

I also want to hold for at least 10 years. The FTSE 100 has already come back from its Covid slump. And dividends are on the rise again.

Dividend outlook

In fact, the experts are saying cash returns from FTSE 100 stocks should climb this year, and maybe even beat their all-time record in 2024.

Oh, and the banks are forecast to pay out more than in 2007, the last year before the big banking crash. Wouldn’t that be something?

Buying dividend shares when prices are low can boost our wealth in the long term, not just when we buy. Suppose I buy Legal & General on a 9% dividend yield, or M&G at 10%. If the dividend stays the same in cash terms, I’ll make the same 9% or 10% every single year on my buy price.

Retirement cash

The FTSE 100 has returned around 8% on average since the 1980s. That would be enough to turn my £20k into £137k in 25 years, if I buy more shares with my dividends.

And if I could then draw down 8% each year, I could have an annual passive income of £10,960.

Now, these are just rough calculations. And as I say, there’s no guarantee. So, I might not get that much. But, you know, I might just get more.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Alan Oscroft has no position in any of the shares mentioned. The Motley Fool UK has recommended M&g Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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