£20,000 in the bank? That could turn into an annual passive income of £39,109

It may seem tempting to leave cash in the bank now. After all, there are some pretty attractive interest rates on savings accounts right now. But if interest rates are cut, the interest offered will go down. That’s why I would invest in the stock market and earn passive income.

My dream is to earn some extra money alongside my full-time job. And by buying dividend stocks, this is possible with very little effort.

The average FTSE100 The dividend yield is 3.6%, but I like to target stocks that yield 5% or more. That way, they can provide me with a juicier second income over time.

If I had £20,000 lying around unused, here’s what I would do today.

Step 1

I would start by opening a Stocks and Shares ISA. It was only a few years into my investment career that I realised how powerful these investment tools are.

Every year, every UK investor receives £20,000 as a grant to invest in their ISA. Capital gains or dividends earned through an ISA are not taxed.

Please note that tax treatment depends on the individual circumstances of each client and may change in the future. The content of this article is for information purposes only. It is not intended to be, nor does it constitute, tax advice. Readers are responsible for conducting their own due diligence and seeking professional advice before making any investment decisions.

Step 2

After that, I would start researching the FTSE 100 to figure out what kind of company I want to own. Many companies in the Footsie are household names. But even so, I would make sure I do my homework.

I like to focus on companies with proven business models, large customer bases and strong cash flows. The latter is especially important when it comes to paying a dividend.

With £20,000 I would try to spread my money across five to ten stocks. I never want to be dependent on a single company or industry. That makes me more vulnerable to volatility. Diversification is the key to any successful portfolio.

One I like

A stock that I like at the moment is Phoenix Group Holdings (LSE: PHNX). The company specialises in the insurance industry and manages assets worth over £280 billion.

Today, the payout is 10.1%. As the chart below shows, the yield has been rising steadily over the past five years. Last year, it was increased by 3.6%. In addition, the forward yield for 2025 is 10.3%.

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In addition, the rising yield also brings with it a cheap valuation. As you can see below, the stock is trading at a price-to-earnings ratio of 11.5. This is below the FTSE 100 average.

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The company also has a strong balance sheet. Its Solvency II capital ratio is 176%. As a major player in the insurance sector, it also has a large customer base.

One risk is that the insurance industry is cyclical. Inflation and high interest rates have weighed on the stock. But given its current price, I will take a closer look at Phoenix Group.

Passive income

If I apply the 10.1% return to my £20,000, I’ll earn £2,020 of passive income per year. While that’s not bad, there are ways to increase it.

For example, if I were to reinvest these dividends over a 30-year period to benefit from dividend interest, I would receive a second income of £39,109 after year 30. That’s £3,259 per month. Hopefully, by then I will be thinking about retirement, and this income will help me a lot.

The post £20,000 in the bank? That could turn into £39,109 in annual passive income appeared first on The Motley Fool UK.

Further reading

Charlie Keough does not own any of the stocks mentioned. The Motley Fool UK does not own any of the stocks mentioned. The views expressed in this article about the companies mentioned in this article are those of the author and as such 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.

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