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Compound returns from FTSE 100 stocks have proved to be a powerful way to build up passive income. And using a Stocks and Shares ISA means there’s no tax to pay on the gains when you finally take it out.
In the past decade, Stocks and Shares ISAs have produced an average annual 9.6%. It’s been a relatively good spell, with FTSE 100 returns averaging 6.9% over the past 20 years. Those are the kind of returns that could build up to a very decent retirement sum.
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.
Top dividend stock
Today I’m going to look at what we might be able to achieve. I’ll use a real stock, Legal & General (LSE: LGEN), to illustrate.
Why that one? Partly because its forecast 8.3% dividend yield lies somewhere between those average ISA and FTSE 100 returns. And because the insurance and asset management business has been rewarding investors well for a long time — Legal & General can trace its origins back to 1836.
I’ve owned Legal & General shares in the past, but I can’t remember why I sold. It was probably a mistake due to the follies of youth — I would have been under 50 at the time.
Reasons for caution
The business can be a cyclical one, though. And stocks in the sector can rise and fall more rapidly than the overall market in good and bad times. For that reason, I really would only buy if I planned to hold for at least 10 years. And it makes diversification an absolute must.
Dividends can also be cut during tough spells — no dividend can ever be guaranteed. Still, at least Legal & General is among the FTSE 100 companies that haven’t had to cut their dividends in the past decade.
In fact, the dividend held up even in the Covid crash of 2020. And we have to look as far back as 2009 to see the last fall, in the wake of the 2008 financial crisis. Diviersification is still needed, mind.
Show me the numbers
To take £12,000 per year in dividends from an 8.3% yield, we’d need approximately £144,600. So just invest that amount in Legal & General shares today and relax… unless, like me, you don’t happen to have that much spare right now?
Most of us need time to build up to our targets. At a consistent 8.3%, £420 per month could be enough to get there in 15 years. Interestingly, after 10 years we’d only be about halfway there, with the second half taking only five years.
And if we can keep going for another five, we could accumulate a further £100,000 – for around £1,700 a month passive income.
Bottom line
The main thing to take from all this is not to put all our money into Legal & General. Too much in any one stock is way too risky. No, it’s that a decent dividend return really can build up. And it’s surprising how much difference an extra few years on the end can make.
