The Stocks and Shares ISA can deliver a second income completely free of tax. In other words, every penny an investor receives in dividends is theirs to keep.
So how large must one’s ISA be to deliver a monthly passive income of £700? And how long could it take? Let’s do some quick maths to find out.
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.
The choice is yours
A £700 monthly income comes out at £8,400 a year. If someone decided to withdraw 4% a year from their ISA, they’d need a nest egg worth £210,000.
It’s a target that’s quite achievable by investing little and often in the stock market. How about a £300 monthly investment? At this level, someone could realistically reach that £210k goal in just over 20 years. That’s based on an average annual return of 9%.
The ‘4% method’ is a popular one with investors due to its simplicity. But there’s more than one way to skin a cat, as they say. Another popular way investors target a second income is to live off the dividends delivered by high-yield shares.
Someone who invested their money in 7%-yielding dividend stocks for a £700 monthly income would need a much smaller ISA of £120,000. That would take just over 15 years to build, based on the same £300 regular investment and 9% yearly return.
What should you buy?
The trouble with this strategy is that dividends are never guaranteed, making the 4% drawdown method a potentially safer choice. But I personally prefer the dividend share method, which — as you can see — may deliver a chunky passive income with a far smaller portfolio. It also provides greater scope for further ISA growth, as capital isn’t being steadily withdrawn.
Investors can spread the risk they face too by buying a wide selection of shares. That way, the Stocks and Shares ISA can still (touch wood) provide a healthy stream of dividends even if one of two of its shares experience problems.
I like the idea of individual share investing, but funds like the iShares MSCI Target UK Real Estate (LSE:UKRE) can be a powerful weapon to achieving a resilient income over time. This exchange-traded fund (ETF) holds shares in a whopping 26 different dividend-paying stocks.
A top fund to consider
There’s a risk this fund will lose value if oil prices keep rising, pushing up interest rates and hitting asset values. But this likely won’t affect its ability to deliver large dividends. So what makes it worth serious consideration?
As a fund specialising in real estate investment trusts (REITs), it holds companies that must pay out a minimum each year in dividends. This stands at 90% of their annual rental profits, in fact.
Of course payouts can disappoint if the 26 REITs the fund holds have rent collection or occupancy issues. However, the thousands of tenants these companies cumulatively hold can still make this ETF a great source of second income.
