Passive income is the dream of all share investors. With the right investing strategy, it can become the stuff of reality. Here are four steps that could deliver a £1,000 second income every month.
1. Open an ISA
The first thing to do is consider a product with tax advantages. I personally love the perks of the Stocks and Shares ISA, and hold one myself.
With these accounts, all capital gains and dividends are protected from HMRC. This gives investors more cash to reinvest to boost the compounding process. What’s more, all withdrawals are free of income tax, meaning every penny made drops into my pocket.
There are limits on annual contributions. But at £20,000 today, this is more than enough for almost all people.
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.
2. Get money to invest
The next task? Set yourself a monthly investment target and try to stick to it. If you can’t buy shares, you can’t generate a passive income from the stock market.
Times are tough as the cost-of-living crisis drags on. But stock investing can still be one of the best ways to target wealth creation, thanks to things like the tax-free ISA. Some investing platforms also don’t charge transaction fees, meaning those with limited funds don’t have to wait until they’ve built a larger pot before getting started.
You could also consider opening a Self-Invested Personal Pension (SIPP). Though capital gains and dividends are also protected from tax, income tax can be charged on withdrawals. The upside? Tax relief of 20% to 45% provides investors with extra cash.
3. Build a diversified portfolio
With money to spend, it’s important to build a portfolio spanning different sectors and regions. That way, investors can capture a range of growth and income opportunities. It also spreads risk and provides a more stable return across the economic cycle.
I hold individual stocks and tracker funds in my own portfolio, one of which is the HSBC S&P 500 ETF (LSE:HSPX). As its name implies, it invests my cash across hundreds of US stocks, giving me exposure to a multitude of markets. With a strong focus on tech growth stocks, too, it gives me an excellent chance to grow my SIPP over time.
During the past decade, the S&P 500 index has delivered an average yearly return of 13.8%. Can it continue? I think so, even though fears over an AI bubble could dent near-term returns. After all, the US stock market has a long history of rebounding from crises.
4. Buy dividend shares
Eventually, when my portfolio is large enough, I’ll be looking to start making a passive income from it. The strategy I plan to use is to buy dividend shares, which can deliver a steady income and room for further capital growth.
For a £1,001 second income each month, I’ll need a portfolio worth £171,600 if I invest in 7%-yielding dividend stocks. That’s not small change, but — with a £300 monthly investment and an average 9% annual return — I should be able to achieve this in less than 20 years.
