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A Stocks and Shares ISA can help make the passive income dream a reality. With the right strategy, investors can aim for financial independence before they reach State Pension age.
The benefits don’t seem like much, but they add up over time. And even for those who don’t think they have much to gain, I think an ISA is the closest thing investing has to a no-brainer.
Stock market returns
Investing always comes with risks. And buying shares through the stock market almost inevitably comes with more danger than buying bonds or other fixed income assets.
The reason investors consider stocks, though, is because of the potential rewards. But given this, it makes almost no sense to pay taxes on returns unnecessarily.
Investors who don’t use an ISA can find themselves paying taxes on capital gains and dividends. So they get the same risk for less reward, which isn’t the road to financial independence.
Anyone starting out with investing might think the difference won’t matter for a long time. But even for investors who are below the tax thresholds, an ISA can still be hugely important.
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.
Tax implications
One reason a Stocks and Shares ISA is important for investors starting out is that tax laws can change. Dividends up to £500 are currently tax-free, but that might not be the case in future.
Another is that share prices can move quickly. And this means investors can be eligible for taxes on capital gains sooner than they anticipate if things go better than they expect.
In both cases, it’s important to note that the ISA contribution limit resets each year. If you don’t use your £20,000 allocation in one year, you can’t use it in the following one.
As a result, investors who don’t use a Stocks and Shares ISA from the outset can end up paying taxes unnecessarily. And this can delay – or even derail – future retirement plans.
Long-term returns
Rentokil (LSE:RTO) is a stock I’m looking for strong returns from over the next few years. I think the firm’s scale gives it a strong competitive position as well as good growth prospects.
Whatever the world looks like when I retire, I’ve a strong feeling there are going to be pests. And I’m equally convinced the FTSE 100 company is going to be dealing with them.
The risk at the moment is that it’s been taking a long time to integrate a huge acquisition. And that’s resulted in higher debt and reduced financial flexibility.
With long-term debt coming down, I’m looking for margins to expand. But whether it’s in 2026 or 2056, I’m expecting Rentokil shares to worth a lot more than their current price.
Retiring early
The point of investing in the stock market is to participate in the growth of some great businesses. But paying tax on capital gains and dividends can cut into returns.
A Stocks and Shares ISA is an easy and effective way to minimise this. And that’s why I think it’s the closest thing to an investing no-brainer that UK investors are likely to find.
Rentokil is just one of a number of FTSE 100 stocks I’m looking at right now as I aim to retire early. But using an ISA to protect my returns is as important as buying the right shares.
