Ever thought about making a substantial passive income with a Stocks and Shares ISA?
You wouldn’t be alone. Roughly 20% of UK adults directly own shares today in products like the tax-efficient ISA. This is thanks in no little part to the London stock market’s strong dividend culture, which can provide a reliable long-term second income.
Dividends are never guaranteed. So having a well-diversified portfolio to protect against individual shocks and provide a decent overall return is essential.
But I’ll get onto that later. First, let’s look at how large your ISA must be to generate a four-figure passive income each month.
Dividend yields
The answer to this conundrum depends on dividend yields.
A £1,000 monthly income equates to £12,000 a year, of course. To generate this windfall, you’d need a Stocks and Shares ISA of £200k if invested in 6%-yielding dividend stocks.
With a 7% yield, the portfolio needs to be worth £172,000. At 8%, we need a nest egg with a value of £150,000. You can see where I’m going with this.
Building ISA wealth
Buying high-yield dividend stocks can be risky. This is because high yields may reflect an unsustainable payout or a sinking share price, for example.
Again, this is where a well-diversified ISA — say, one that provides exposure to 20 or more shares — can reduce danger and provide a smooth income over time.
But how realistic is it to build an ISA like this? With time and patience it’s extremely achievable, if stock markets continue delivering their long-term average annual retun of 8% to 10%.
Let’s say someone has £500 a month to invest in UK shares. Based on an average annual return of 8%, they could achieve a £200,000 ISA in under 16 years.
A top FTSE stock
Phoenix Group (LSE:PHNX) is one dividend share I think investors could consider. The FTSE 100 company’s forward dividend yield is an impressive 8%.
The financial services provider’s grown annual dividends for nine straight years. And during the past five, payouts have risen at a healthy average of 3.2%.
With a robust balance sheet, Phoenix looks in great shape to keep this record going. As of June, its Solvency II capital ratio was 175%, around the top end of the firm’s target range.
Phoenix generates enormous amounts of cash but has limited growth opportunities. This means it holds enormous reserves it’s happy to pay to shareholders in the form of fat dividends.
Phoenix’s share price is sensitive to broader economic conditions. But the impact downturns have on dividend policy is likely to be negligible. I think long-term cash rewards are likely to grow steadily as demographic changes drive sales of retirement product.
Generating income
I think the FTSE 100 stock would look great as part of a diversified Stocks and Shares ISA. Combined with other dividend shares spanning different sectors and geographies, I think it could help investors aim for a large passive income every year.
