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A Stocks and Shares ISA is a great asset when it comes to earning passive income. Investors don’t have to pay tax on any dividends earned in an ISA – not just the first £500.
The contribution limit is £20,000 per year. And with where the stock market currently is, I think an investor could reasonably aim to turn this into £1,300 per year in dividends.
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.
Investing principles
There are lots of investing strategies and different ones will be right for different people. But there are also some key principles that nearly everyone should stick to.
The first is to focus on the underlying business, rather than what the share price has been doing. When a stock goes up without the company improving much, that can make it risky.
The second is to concentrate on the long term. Buying shares in a company that currently pays a big dividend can turn out badly if it’s not going to be able to maintain this after a few years.
The third is to look for a business that has a durable competitive advantages. Something that makes it hard for other companies to take its market share is crucial to a good investment.
An example
One example that I think is particularly interesting is Admiral (LSE:ADM). The FTSE 100 insurance company comes with a dividend yield of 6.5%.
In some places, the stock shows up as having a dividend yield of around 4.85%. But that doesn’t include the special dividend, which the firm paid at the end of the year.
Factoring this in might look misleading, but I don’t think so. Admiral has paid annual ‘special’ dividends for over 20 years, so I take the view that it’s much more misleading to leave it out.
A 6.5% return is enough to generate £1,300 per year from a £20,000 investment. But investors need to look past the dividend yield and focus on the quality of the underlying business.
Insurance
Insurance can be a difficult industry. The cost of car repairs increasing over time is a risk that can – and has – caused Admiral’s dividends to fluctuate in the past.
That’s something to consider seriously for anyone looking at the stock as a potential passive income opportunity. But I think there’s also a lot to like about it from a long-term perspective.
Importantly, demand for car insurance isn’t going away in the near future. Operating in a market that is likely to grow over time means Admiral has a decent chance at durability.
On top of this, its proprietary data and analytics has allowed it to generate better underwriting margins than its peers on a consistent basis. And this looks like a long-term advantage to me.
Building a passive income portfolio
I’m not suggesting investors should commit their entire ISA to Admiral when the contribution limit resets. But I think it’s well worthy of consideration as part of a diversified portfolio.
I see it as a quality company with durable prospects. And the 6.5% dividend yield indicates that there are good opportunities out there for investors that are willing to look for them.
