Each year, I get a £20k limit on contributions to my Stocks and Shares ISA. I don’t have to fully use it, or invest in a particular type of stock. However, when looking at the passive income potential, it got me thinking. If I was able to put £20k each year in top dividend shares, how could things end up? Here was what I figured out after doing my homework.
Reasoning things out
One of the benefits of this strategy via my ISA is that I don’t have to worry about dividend tax implications. Any income I receive from a company in the ISA doesn’t get taxed. Ultimately, this helps me to keep more of the cash for myself.
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.
Another reason why this is a viable strategy is because there’s a wide range of stocks to pick from. It’s not like I’d be filling my ISA with a very niche group of shares, limiting my diversification. Rather, I’d select a host of firms from different sectors, as long as the income payments look attractive. In this way, I can effectively lower my risk versus just buying a couple of shares instead.
In theory, the cleanest way for me to start this would be at the beginning of April when the ISA allowance resets. Then I’d aim to invest £1,666 a month, building up my portfolio over time. One concern is that I might not be able to keep up with putting this amount aside each month. Yet the principle applies even if I end up investing a smaller regular figure.
An idea I’d consider
TP ICAP (LSE:TCAP) is an example of a stock I’d look to add to this portfolio. It has a dividend yield of 6.17%, even with the stock rallying 43% over the past year.
The financial services broker helps to match and trade with banks and other institutions. The firm acts as a middleman for trades, for example if the buyer and seller want to remain anonymous. It makes money by taking a small spread on each transaction. So the more volatile the markets are, the better it is for business!
The movements we’ve seen in the stock market and in the commodity space so far this year have helped TP ICAP. Even though revenue for H1 2024 was marginally down from 2023, it was a tough comparison due to the very strong 2023 performance. What’s important to me is that the dividend cover is 1.97. This means that earnings easily cover the dividend per share, so I’m not worried there.
One risk is that the broker operates in a very competitive market. It it were to lose a few of its best clients to someone else, it could materially impact the firm.
The bottom line
Let’s assume that I can build a portfolio with an average yield like TP ICAP at 6.17%. If I invest all my ISA funds each month and reinvest the proceeds, my pot quickly grows. After eight years, my pot could be worth £208,845. It’s not guaranteed, of course. But this means that in the following year, I could look to ‘earn’ £1,073 a month, even without investing any more money.
This post was originally published on Motley Fool
