The wonderful tax benefits of an ISA make it an ideal investment vehicle to build a passive income stream. UK residents can sink up to £20k worth of assets annually into a Stocks and Shares ISA and avoid any tax on the returns.
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.
Dividend shares are particularly beneficial as they pay out regular income, which can help supplement a pension in retirement.
Some of the best dividend-paying companies in the UK offer yields as high as 10%. That means investors get 10p back on every pound worth of shares held.
But realistically, not many shares hold yields that high for long periods. Taking a more conservative view, it’s more likely to find yields that are sustainable between 4% and 7%.
Top dividend stocks
Some of my favourite dividend stocks for long-term passive income include Legal & General, HSBC and British American Tobacco. However today, I’m going to talk about one I’m yet to invest in: Schroders (LSE: SDR).
The UK asset manager has long been a favourite of income investors due to its long history of payments and a reliable yield. It recently announced a new growth strategy under the banner: ‘Simplify, scale and deliver profitable growth‘.
Its yield often hovers around 6% and it’s typically well-covered. It currently brings in twice as much cash as it pays out in dividends, and has a payout ratio of 93%.
After a period of slow growth under structural pressures, it has implemented several cost-cutting initiatives to boost profitability. The benefits of these already seem apparent, with assets under management (AUM) reaching a record £816.7bn in Q3 of 2025, up 5% quarter-on-quarter.
Keep in mind though, that the business still faces several challenges. Fee compression, stiff competition and changing investor behaviour all put profits at risk.
And while the yield is decent, it may be vulnerable if inflows or markets disappoint. The business model is inherently sensitive to AUM and market valuations.
Returns to be expected
Let’s assume a well-balanced portfolio of dividend stocks achieves an average yield of 6%. Assuming the ISA’s full £20,000 allocation is used, that would only pay out £1,200 a year in dividends.
The pot would need to hold almost £600,000 worth of dividend shares to pay out £35k a year. Short of selling a property (or a kidney), that amount of spare cash is out of reach for most.
However, for those still working towards retirement, it’s never too late to start investing. By reinvesting dividends and compounding the returns, regular monthly savings can balloon into an impressive nest egg.
Starting with £20k and investing a further £6k a year, the pot would grow to around £590,000 in 27 years (with dividends reinvested).
Bottom line
Evidently, achieving a £35k passive income is no easy feat. Even the most dedicated investors would need to start making large monthly contributions well before retirement. However, with a dedicated plan and the tax benefits of an ISA, a decent level of income can be achieved by retirement.
Fortunately, for UK residents, the FTSE 100 and FTSE 250 are full of reliable dividend stocks to kick-start the journey.
