When investing for a second income, it’s important to know which type of ISA to choose. They all provide great tax benefits but have certain pros and cons, depending on the risk profile and goals of each individual.
A Cash ISA, for example, is very low risk but seldom returns more than a 5% fixed-rate at the very best (usually much, much less). A Lifetime ISA is focused primarily on buying a ho meor retirement.
A self-directed Stocks and Shares ISA is flexible and can achieve the highest return. But there’s no guarantee and it could even result in a loss!
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However, this risk can be minimised with the right strategy and careful stock-picking.
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.
What to put in a Stocks and Shares ISA
I’m a fan of dividend stocks as they can deliver regular income without the need to sell any shares. They often experience slow price appreciation, so for the investment to grow, it requires buying more shares or reinvesting the dividends.
Growth stocks can be more lucrative over long periods, assuming the investor doesn’t need access to any of the capital.
Overall, I think a well-balanced portfolio should include both. I try to aim for 30% growth stocks and 70% dividend shares.
A stock to consider
A good example of a stock to research further that straddles both growth and dividends is Aviva (LSE: AV.). The multinational insurer maintains a consistently high yield between 5% and 7%, with the stock price up 86.4% in the past five years.
That equates to combined annualised returns around 17%.
Last year, Aviva entered the Lloyd’s of London underwriting market with the acquisition of Probitas 1492. It went on to deliver its best-ever result for 2024.
More recently, it agreed to purchase motor insurance group Direct Line for £3.7bn. Shareholders seem optimistic but the deal could still end up in disaster if it fails to turn a profit. Prior to the agreement, Direct Line stock was down 53% from its five-year high.
But if anyone can turn the business around, I think Aviva has a good chance. It’s certainly a stock I plan to keep in my dividend portfolio for years to come.
Building up to a second income
Between 2003 and 2023, the FTSE 100 returned a total of 241% to shareholders, equating to average growth of 6.3% on an annualised basis (including dividends). The US-based S&P 500, although struggling at the moment, has historically returned 12.5% on average.
To avoid exposure to a single region, it can be beneficial to include a mix of stocks from both markets. That could realistically return 10% on average per year. This return could be received as a mix of dividends and selling shares as they appreciate. It largely depends on the individual’s personal investment strategy.
Working on that average, an ISA with approximately £240,000 in it would return £24,000 a year (£2k a month).
With an initial investment of £10,000 in an ISA and monthly contributions of £200, it would take just over 20 years to reach £240,000 (with dividends reinvested). For an investor under the age of 40, the monthly contributions could be even less and they could still reach the goal before retirement.
