The great thing about a Stocks and Shares ISA is that any income or capital gains earned on assets held within one of these tax-efficient wrappers is not liable for tax.
In my opinion, this makes the account the perfect place to start building a passive income portfolio without having to worry about the taxman taking a big slice of any potential gains.
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.
And I think it is possible to start building a passive income portfolio with an investment of just £1,000.
Stocks and Shares ISA assets
With a lump sum of £1k, I could buy a relatively diverse portfolio of income investments. Thanks to low-cost trading apps, acquiring multiple investments at a relatively low cost is now possible.
By acquiring stocks such as Persimmon and Direct Line, which currently offer dividend yields of 9% and 8% respectively, I could earn a passive income of around £90 per annum on my initial investment.
This is a start. However, I would be looking to increase my annual income by adding more money to the pot over time.
According to my calculations, if I could put away £1,000 a year for the next decade and reinvest all of my income back into the market, I could potentially build a £15.5k nest egg within a decade. This could be enough to generate an annual passive income of around £1.5k.
Unfortunately, there is no guarantee I will be able to achieve a 9% return indefinitely, of course. There is also no guarantee that the groups outlined above will maintain their distributions to investors.
Several challenges could hold back growth. These include rising costs and higher interest rates. If these costs hit company profit margins, they may have to reduce shareholder returns. And, of course, the value of my investments could even fall.
Investing for passive income
But I do still believe this approach has a lot of promise. I see a Stocks and Shares ISA as the perfect vehicle to build a passive income stream. That is especially true when combined with the power of compound interest.
Another strategy I could use is to invest my £1,000 in a portfolio of growth stocks. If I can invest this money and achieve a 12% annual return while adding an additional £1,000 a year, I believe I could build a nest egg worth around £20k after a decade. By then investing this cash in income stocks yielding 9%, I could earn annual passive income of nearly £2,000. Again though, I have to accept that my returns may be less than I hope for.
Yet while these are only hypothetical outcomes, I believe the figures illustrate how straightforward it is to build a passive income in a Stocks and Shares ISA. I am so confident this is the best way to go about building wealth, it is the approach I am following.