A Stocks and Shares ISA is a terrific way to build a long-term passive income, entirely free of tax. Today, 6 April, marks the start of a fresh tax year with a new £20,000 contribution limit to put to work. But how far could just one year’s contribution really go?
Sadly, most of us won’t be able to invest the full £20,000 allowance in one go. Even so, it’s a useful benchmark. Given time, even a single year’s contribution can grow into something surprisingly substantial.
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Compounding in action
Let’s say somebody does come up with the full £20,000 for the 2026/27 tax year. Let’s also assume they achieve an average total return of 8% a year, from a spread of mostly FTSE 100 stocks. Leave it untouched for 30 years and it should grow to roughly £201,000. If that portfolio yields an average of 5%, it would generate a second income of around £10,000 a year. It’s a striking outcome from a single £20k contribution.
Of course, this approach demands patience, and the fortitude to resist spending some of the money along the way. Plus we have to take account of the fact that inflation will dent the spending power of that final amount. But it also shows the strength of compounding, where growth builds on itself over decades. Repeating the process across multiple tax years would produce a dramatically bigger income stream.
Aviva is a quality share
The next question is what to invest in. A balanced portfolio of dividend-paying shares seems a sensible starting point to me. One stock I’ve been watching closely is Aviva (LSE: AV). The FTSE 100 insurer and asset manager was in the doldrums for years, but investing tends to be cyclical, and right now it’s on a high.
The shares are up 26% over the last year and 55% over five. They’ve also held up pretty well during volatility linked to the Iran conflict, showing their resilience. It’s offering a generous income stream, and still has a bumper trailing yield of 6.32%. That’s comfortably ahead of the 5% used in my earlier illustration.
The group now spans life insurance, wealth and retirement services, and its acquisition of Direct Line has bolstered its position in general insurance. The shares are a little expensive today with a price-to-earnings ratio of around 23. Success comes at a price.
Balancing risk and reward
There are risks. As a financial services group, it’s exposed to market swings and economic uncertainty. It also has a heap of competitors breathing down its neck. Yet with a long-term view, it looks like a high-quality business and well worth considering for an income-focused Stocks and Shares ISA. A further market wobble could provide a more attractive entry point.
A single £20,000 ISA contribution won’t transform anybody’s finances overnight. But given time, it can grow into a brilliant source of retirement income. For those who prefer to buy cheaper stocks at a different phase in the investment cycle, there are plenty out there after recent turbulence.
