The Individual Savings Account (ISA) is an incredible tool for targeting passive income in retirement. The cost of living and social care has ballooned in recent years. Yet many thousands of people who’ve invested in a Cash ISA and/or Stocks and Shares ISA have managed to absorb these rises and hit their retirement goals.
I hold one of each of these tax efficient products, as well as a Lifetime ISA. This way, I can balance risk and reward, harnessing the long-term growth potential of the stock market while protecting myself from volatility.
Through a combination of these tax-efficient products, I’m confident investors like me can target a £1,000 monthly second income in retirement. Here’s how.
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.
Balancing risk and reward
There are plenty of ways to target four-figure second income to supplement the State Pension. Drawing down a percentage of a portfolio each year can provide a passive income for roughly 20 years before the pot runs dry.
Purchasing an annuity with some or all of an ISA’s proceeds is another popular route, which provides an income for life.
The path I’m planning is to buy dividend shares with my retirement pot, which allows for an income along with room for further portfolio growth. If I purchased high-yield stocks with dividend yields of 7%, I’d need exactly £171,429 across my ISAs to enjoy a £1,000 monthly passive income.
To reach that goal, investors like me will probably need to invest £100 each month in a Cash ISA over 20 years, and £200 in a Stocks and Shares ISA. That’s based on the long-term average return of 1.21% for the former wealth-building product — according to Moneyfacts data — and 9.64% for the latter.
Of course, the exact amounts chosen to save or invest each product will depend on individual investment goals and attitude to risk. This 33/67 split’s one just example of how it could work.
Cheat code?
Purchasing individual shares can be a great way to beat the market. But rapid growth in the exchange-traded fund (ETF) sector means investors can also do this by spreading risks across a basket of assets, based on an index or particular theme.
I consider some of the ETFs currently on offer as ‘cheat codes’ for modern investors. Take the iShares S&P 500 ETF (LSE:CSPX). This product — which tracks the performance of hundreds of the largest US shares — has delivered an average annual return of 13.4% over the past decade.
If this continues, a £200 monthly investment here would likely give me a passive income above £1,000 after 20 years.
What I especially like about it is the broad exposure it gives me to tech shares. Industry giants Nvidia, Microsoft, Apple, Meta and Alphabet shares make up 31.4% of the fund alone. But other sectors also feature prominently, like financial services, consumer goods and healthcare, providing attractive diversification.
It’s true that a high weighting of tech shares can cause underperformance during economic downturns. But as we’ve seen in recent decades, it also substantial long-term growth potential as the digital revolution rolls on.
With careful analysis, a diversified portfolio comprising funds like this can create significant ISA cash for retirement.
