I was recently talking with a pensioner about his financial struggles and limited income options in retirement. It got me thinking again about a Stocks and Shares ISA, especially the tax-free benefits it provides to help build a second income stream.
When you break down the calculations, the potential savings can be highly advantageous. But how does one do that, and what’s a realistic goal?
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.
Crunching the numbers
A decent target to aim for is four figures of passive income every month from dividends. With an average 7% yield, £1,000 in dividends a month (£12,000 a year) needs a pot of roughly £170,000. For £1,200 to £1,300 a month, it would need closer to £200,000 to £220,000.
So the real question is: how long might it take to grow your ISA to that size?
Say you drop in the full £20,000 ISA allowance this year, then keep adding £300 a month. With an average 7% yield and moderate market growth, you might be looking at a total return of roughly 8–10% a year (assuming dividends are reinvested). That is not a promise, just a reasonable working number based on long‑term stock market returns.
With £20,000 up front and £300 a month going in, hitting around £200,000 could take roughly 15 years (in a strong 10% scenario). If returns are nearer 8%, it could take closer to 18 years.
Either way, it is a long game, not a quick win. But the compounding starts to do the heavy lifting after a decade or so.
Now, what could you actually own inside that ISA?
Identifiying dividend gems
Abrdn (LSE: ABDN) is one example of a UK dividend share for income hunters to consider. It’s a big wealth and investment group, managing over £500bn for clients worldwide, with assets under management and administration of about £511bn at the end of 2024.
Recent prices put its forward dividend yield a touch above 7%, so it fits my above example well.
Financially, Abrdn has started to look a bit steadier in recent years. In 2024 it delivered adjusted operating profit of about £255m, slightly up on the year before, and swung to an IFRS profit before tax of £251m (instead of a loss).
The full‑year dividend was held at 14.6p per share again, the same level paid since 2020, showing the board is keen to keep income flowing even while it reshapes the business.
Challenges to consider
Despite the impressive yield, dividends haven’t grown in cash terms for several years, and the three‑year dividend growth rate is negative. That’s not ideal if you want rising income. It also pays out a large chunk of its earnings as dividends, with recent payout ratios around the 80% mark. That leaves little for operations if profits dip, risking a dividend cut.
To meet rising costs and profit headwinds, the group is cutting around 500 roles, which brings execution risk. On top of that, its business is tied to stock markets and investor confidence, so bad years for markets can hurt.
To mitigate these risks, consider including some lower-yielding defensive stocks like Tesco or National Grid. While some payouts may be smaller, their long-term reliability can be advantageous.
