3 strategies to try and earn money from a Stocks and Shares ISA

There is more than one way to skin a cat — and the same is true of trying to create wealth through an ISA, as our writer explains.

Posted by Christopher Ruane

Published 12 June

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How exactly can somebody use a Stocks and Shares ISA to try and earn money?

There are a number of different ways. Here are three common ones.

Capital gains

One strategy is to try and earn money thanks to capital gains. In other words, selling shares for more than they cost when bought.

That can be very lucrative depending on the shares involved.

Take Rolls-Royce as an example. The aeronautical engineer’s share price has surged 1,063% over the past five years. So £10,000 invested in June 2021 would now be worth around £116,300.

But that is a paper gain. It is not actual hard cash until the shares are sold.

An ISA can offer shelter from capital gains tax. So, it can be a tax-efficient platform within which to target wealth-building through share price growth.

But, of course, that depends on what shares are chosen – and until they are sold and any gain is crystallised, it is just a paper gain.

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.

Passive income from dividends

An alternative approach can be to try and set up passive income streams in the form of dividends.

This is not mutually exclusive with capital gains. Rolls-Royce pays dividends, but has also delivered bucketloads of capital growth.

But as a rule of thumb, many investors classify shares as being primarily either growth or income shares.

There is no hard and fast dividing line, but British American Tobacco (LSE: BATS) is a useful illustration.

The company does still have some growth opportunities, for example in the non-cigarette tobacco business. But its main business is making and selling cigarettes.

Demand for them is declining – and likely to keep getting lower. Indeed, the company’s total revenues have fallen for several years in a row.

Still, while cigarette demand is falling, it remains a lucrative business – and British American’s portfolio of premium brands gives it pricing power.

That is why it is seen primarily as an income stock (despite a 63% share price gain in five years). It has grown its dividend per share for decades and aims to keep doing so

The current yield is 5.3%, meaning a £10,000 investment today would hopefully generate around £530 in dividends annually, even before factoring in any increases.

I see it as a share for investors to consider.

Compounding dividends over the long run

Rather than pull those dividends out as cash when paid, though, an investor could choose to leave them inside the ISA wrapper.

That would offer the advantage of the dividends being available to reinvest inside the ISA, without eating into the annual ISA contribution allowance.       

Although that would not provide passive income in ready cash, over time it can be a powerful approach to building wealth and also future income streams.

To illustrate, compounding £10,000 at 5.3% annually for 20 years, it ought to be worth over £28,000. At a 5.3% dividend yield, that could then earn £1,489 in dividends per year.

There is no right way of investing, although there are plenty of wrong ways.

The right way for you, is the number of years before you want to spend your hard earned and therefore your risk tolerance.