Here’s how £10,000 in savings could turn into a second income worth £21,859 a year

With thousands tucked away, this Fool would put it to work to start making a second income. Here, he breaks down how he’d do it.

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Making a second income is one of the main reasons I and many other people invest. I’m optimistic one day I’ll be able to live off the dividend payments I receive just from owning shares.

In the decades ahead, I want to be financially free and live a lavish lifestyle. That’s the goal, right? That’s why I’m starting as early as possible.

Having some cash savings is always a smart idea. However, the majority of my net worth is tied up in the stock market.

If I had £10,000 in the bank today, here’s what I’d do.

Open an ISA

The first thing would be to open a Stocks and Shares ISA. This allows every person in the UK to invest up to £20,000 a year in the stock market and pay zero tax on any capital gains made or dividends received. This is a brilliant way for investors to maximise their returns and build wealth.

Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.

Target the FTSE 100

There are a number of ways people invest, all with different pros and cons. For me, I’ve settled on buying FTSE 100 shares which I think can produce impressive returns over the long run. It might not be the most exciting, but there’s plenty of proof to suggest it’s highly effective.

Not only are many Footsie companies household names with stable business models, but they also offer some of the best dividend yields out there. The index’s average yield is 3.6%. By comparison, the S&P 500’s is just 1.3%.

One example

One stock I like is the blue-chip insurance business Phoenix Group Holdings (LSE: PHNX). Its share price is up 1.9% so far in 2024. It’s also been gaining pace in the last month, rising 10.7%.

The stock yields a meaty 9.7%, way above the FTSE 100 average. Dividends are never guaranteed. However, its payout has been rising and the business has plenty of cash on its books.

That puts it in a strong position to be able to keep upping its dividend. Management’s also laid out its progressive dividend policy.

The insurance industry’s cyclical. That’s a risk for Phoenix. On top of that, not only do high interest rates cause uncertainty but they can also negatively impact the value of the group’s assets.

But with its thumping yield and strong market position, it’s stocks like Phoenix Group I’d be targeting.

The numbers

Applyingthe 9.7% yield to my £10,000 ought to see me earn £970 a year as a second income. Not bad. But that’s nowhere near my target.

To achieve that, I’d reinvest my dividends along the way to benefit from dividend compounding. So the £970 I received in the first year, I’d use to buy more shares, and so on. What I’d also do is invest £100 a month on top of my initial £10,000.

If I did that, after 25 years, I’d earn £21,859 in passive income. Furthermore, my investment pot would be worth £238,020. That sort of money would go a long way in helping me live a more comfortable life later down the line.

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.

Charlie Keough has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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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