One of my goals is to eventually turn my ISA investments into a reliable second income. Currently, my portfolio is in a growth phase, so I’m reinvesting dividends and focusing on earnings and dividend growth. But one day, I’ll switch my strategy to maximise dividends and passive income.
Now, an investor with £20,000 isn’t starting with a life-changing sum of money. But thanks to the power of compounding, and dividend growth, that sole initial ISA could potentially become a portfolio capable of generating £12,000 a year in passive income. So what’s the catch?
Well, it won’t happen overnight. But for investors willing to think long term, the numbers can be surprisingly compelling.
How to target a five-figure second income
Let’s start with a simple example. Suppose an investor places £20,000 into a Stocks and Shares ISA invested in quality FTSE 100 and international dividend-paying shares. If that portfolio generates an average total return of 9% and all dividends are reinvested, the pot could grow substantially over time.
After 10 years, it could be worth around £47,347. And after 25 years, the same investment could be worth roughly £172,462.
Now let’s assume the investor shifts towards a portfolio focused on earning passive income from dividends. In this example, we can assume the portfolio yields around 7%.
At that point, a portfolio worth £172,170 could potentially generate around £12,072 a year in dividend income. That’s just over our £12k target.
| Years | Portfolio value | Yearly second income |
| 10 | £47,347 | £3,314 |
| 15 | £72,850 | £5,099 |
| 25 | £172,462 | £12,072 |
Of course, real-world returns will vary and there are no guarantees. But this example demonstrates the extraordinary impact that time and compounding can have on a relatively modest starting investment.
Here’s how to reach the goal much faster
Even more surprising is the effect of regularly adding investments over time. Now assume our investor adds £5,000 every year to their ISA. Notice how the magic of compounding can really amplify returns over time.
The result is that it should be possible to reach a £12k second income much faster than with a one-off investment. In this case, in around 10 to 15 years.
| Years | Portfolio value | Yearly second income |
| 10 | £123,311 | £8,631 |
| 15 | £219,654 | £15,375 |
| 25 | £595,966 | £41,717 |
But which type of company could help drive those returns?
Could Aviva help accelerate the journey?
One company that regularly attracts the attention of income investors is Aviva (LSE:AV.). This business generates substantial cash flows from a wide range of financial products and services.
What I find particularly attractive about Aviva is its combination of defensive characteristics and income potential. Its insurance business helps create relatively predictable earnings across economic cycles. Meanwhile, its growing wealth and retirement businesses offer exposure to long-term demographic trends.
Bear in mind that Aviva isn’t immune to a prolonged economic downturn. And unexpected increases in insurance claims could also reduce profitability and future dividend growth.
Aviva currently offers a 6.5% dividend yield. That’s more than double the 3% that the FTSE 100 offers. It also has a long history of both paying and growing its shareholder payouts.
And just like Aviva, the Footsie holds many others that offer a powerful combination of compounding and growing dividend income. And I’ll be keeping my eye on each and every one of them.
Should you invest £5,000 in Aviva Plc right now?
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And right now, Mark thinks there are 6 standout stocks that investors should consider buying. Want to see if Aviva Plc made the list?
Harshil Patel does not own any positions in any of the companies mentioned.
