£20,000 in savings? I’d aim for £4,000 in yearly passive income with select FTSE 100 stocks

Close-up of British bank notes

The FTSE 100 offers some of the highest dividend yields in the world. If I was looking to invest the £20k Stocks and Shares ISA limit this year to build tax-free income, the Footsie would be my first port of call.

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Being picky

There are currently 10 blue-chip stocks currently offering yields above 6%. That’s excluding three that have announced dividend reductions, taking the yields under 6%, which proves payout cuts are a real risk.

These high-yielders are spread across a handful of sectors.

I consider 6% to be an attractive yield as it’s comfortably above the FTSE 100 average and is more than I can get from a savings account.

One strategy could be to split my £20k across five of these high-yield shares. So £4k in each.

A stock I’d include

As part of this five-stock portfolio, I’d first choose Legal & General (LSE: LGEN). As we can see above, the insurance and pensions giant yields 8.9%. However, this is forecast to rise to almost 10% by 2026. What’s not to like?

Well, the market didn’t like the stock last week as it fell around 9%. This followed CEO António Simões’ plans to restructure the business into three core units and increase shareholder returns through to 2027.

He announced a £200m share buyback and 5% growth in the dividend this year, followed by a lower 2% growth per year and more share repurchases. Meanwhile, the target is for 6-9% compound earnings growth over these three years.

Clearly, the market was underwhelmed by all of this. As a shareholder though, I was encouraged. The firm’s focused on expanding in the high-growth market of corporate pension deals, where companies pay insurers to take on their retirement liabilities.

It also intends to flog Cala Group, the large UK housebuilder, along with other non-core assets. And it still intends to grow internationally too, particularly in the US.

I’d say the biggest risk here is some sort of financial crisis that hits the firm’s profits and the value of its assets. For example, there was extraordinary instability in the UK bond market in 2022 after former chancellor Kwasi Kwarteng’s ill-fated mini-budget. That rocked pension funds to their boots.

Still, this remains a core holding for me. In fact, I added to it last week when the share price nosedived. Unless something goes drastically wrong, I aim to be bagging fat dividends from it for many more years.

Passive income

Let’s assume my basket of select dividend stocks collectively yielded 8%. In this scenario, my £20,000 would grow to become £50,363 after 12 years.

This assumes no share price movements, stable yields and the reinvestment of dividends along the way.

At this point, if I decided to take my dividends as passive income, this would total just over £4,000 a year, with that 8% yield. Not too shabby.

However, investing more cash along the way would utterly transform these figures. So this is what I’d aim to do.

If I managed to max out the £20k ISA annual limit for 12 years with the same 8% return, I’d end up with £379,542. And this would be generating just over £30,000 in annual dividends. A huge difference!

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HSBC Holdings is an advertising partner of The Ascent, a Motley Fool company. Ben McPoland has positions in Aviva Plc, British American Tobacco P.l.c., HSBC Holdings, and Legal & General Group Plc. The Motley Fool UK has recommended British American Tobacco P.l.c., Burberry Group Plc, HSBC Holdings, Imperial Brands Plc, Land Securities Group Plc, and M&g Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore 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.