Here’s how a £20k Stocks & Shares ISA could earn £1k, £2k, or even £3k of passive income annually

A Stocks and Shares ISA is a long-term investment platform. So, as far as I am concerned, it can be a good place to tuck away some dividend shares in the hope of share price growth over time, with the added bonus of potentially juicy passive income streams along the way.

Here is how an investor could use a £20,000 Stocks and Shares ISA to target different levels of passive income.

Going for a £1k annual passive income, starting now

An annual income of £1,000 on a £20,000 Stocks and Shares ISA would require a dividend yield of 5%.

That is well above the current FTSE 100 average of 3.6%. But that is only an average and there are plenty of blue-chip firms that currently yield above 5%.

Those include high yielders like M&G (LSE: MNG), Phoenix Group, and Legal & General but also firms with a yield close to 5% such as HSBC and Aviva.

So an investor could spread the £20,000 across a diversified mix of blue chips and aim to start earning an annual passive income of £1,000, with dividends starting to arrive within months or even weeks.

Doubling the target

What, then, about a £2,000 target?

That suggests a 10% yield — higher than any FTSE firm offers. Legal & General’s 8.4% yield is currently the highest of the bunch.

It could still be possible by looking outside the top flight index, though. For example, I own Henderson Far East Income and its current yield is 11%. Other shares offer even higher yields. NextEnergy Solar Fund yields 11.4% at the moment, for example.

But it is important never just to chase yield and always know what you are buying. Both those shares have grown their dividend per share annually in recent years. But no dividend is ever guaranteed.

Investing £20k and targeting £3k per year

Another approach to earning £2,000 – or even £3,000 – in annual passive income would be delayed gratification, waiting while dividends earn dividends before taking out the passive income down the line.

In investing terms that is known as compounding. It means that the passive income may not flow for a while but should be higher once it does.

Compounding £20,000 at 7.2% annually, it would take five years to hit a £2,000 in annual passive income target, or 11 years to hit the £3,000 yearly earnings goal.

Sticking to quality shares

But 7.2% is double the average FTSE 100 yield I mentioned. Is it achievable while restricting the Stocks and Shares ISA to proven blue-chip firms?

I think so. For example, one share I think passive income hunters should consider as part of a diversified portfolio is FTSE 100 asset manager M&G.

The share price has done well lately, moving up 29% so far this year. That partly reflects an announced strategic partnership with a Japanese insurer. That could help grow the business.

But M&G’s main attraction to me is its dividend. The yield is 7.8% and the company aims to grow the dividend per share annually.

It has a strong brand, large customer base, and deep financial markets expertise. Its business model is highly cash generative.

One risk I see is less income due to clients taking more money out than they put into M&G products. That has been happening lately, but I hope the Japanese tie-up could help reverse that trend.

The post Here’s how a £20k Stocks & Shares ISA could earn £1k, £2k, or even £3k of passive income annually appeared first on The Motley Fool UK.

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HSBC Holdings is an advertising partner of Motley Fool Money. C Ruane has positions in Henderson Far East Income. The Motley Fool UK has recommended HSBC Holdings and M&g Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.