The new financial year brings a chance to open a new Stocks and Shares ISA. And that can be a huge asset for passive income investors.
Avoiding dividend tax can give returns a big boost. But the most important thing is finding the right opportunities.
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.
The FTSE 100
One of the simplest things to do with a Stocks and Shares ISA is buy a fund that aims to track an index. The FTSE 100 is a good example.
Investors can definitely do worse than this – and many will. But there are some things to keep in mind. One is that when stocks go up, they make up more of the index. And that creates a risk with some of the FTSE 100’s more cyclical names.
Shell‘s a good example. Shares have been climbing as a result of conflict in the Middle East creating pressure on global oil supply.
As a result, the company makes up more of the FTSE 100. And someone who invests in the index puts more money into Shell.
The dividend yield however, is lower. And income investors should naturally be less interested in a stock at times like this. That’s a structural limitation of index funds. And it’s why I think the best dividend opportunities are often elsewhere.
Dividend yields
The FTSE 100 has a dividend yield of just over 3%. But there are plenty of individual stocks offering higher starting returns. In several cases, there are clear reasons why. Some face structural challenges and others are hard to assess accurately.
Imperial Brands is an example of the first. The core business is cigarettes and the long-term outlook isn’t positive. Aviva‘s an example of the second. Evaluating the firm’s assets and liabilities is hard even for specialist investors.
Both stocks come with above-average dividend yields. So investors might get their money back before anything goes wrong. For my money though, that’s risky. Especially when I look at what else is available elsewhere.
High dividend yields imply that investors are seeing risks. But the stock market doesn’t always get things right.
Property investing
SERGO‘s (LSE:SGRO) a FTSE 100 real estate investment trust (REIT). At today’s prices, shares come with a 4.6% dividend yield.
The firm owns and leases a portfolio of distribution properties. These include major warehouses as well as last-mile facilities. Demand in this industry is pretty strong and supply is naturally limited by available space. All of that sounds pretty good.
REITs are often valuable sources of passive income. But mandated dividends often leaves limited scope to retain cash for growth. Segro has a unique way around this. By making use of joint ventures, it can manage entire properties while only putting up half the cash.
Working with partners can create potential conflicts of interest. And that’s a risk that other REITs don’t really have in the same way. When things work well though, it gives SEGRO unique opportunities. And that’s why I think it’s worth considering.
£1,200 a year
The FTSE 100’s 3% yield means investors need £39,603 to earn £1,200 a year in dividends. By contrast, SEGRO’s 4.6% yield cuts this down to £26,086. That’s quite a difference. And while investors shouldn’t just focus on SEGRO, I do think it’s a sign there are opportunities to be found.
