£5,000 in savings? Here's how I would aim for an annual income of £14,350 over 20 years

Achieving financial independence with passive income requires a well thought out and strategic approach. But there is no better time to start than now. Sure, there are always learning curves along the way but that's all part of the process.

While there is no guaranteed way to get rich, investing in dividend paying companies can be an effective strategy. Even a few thousand pounds in savings can be enough to get the ball rolling.

However, it still involves some risk and requires a healthy dose of dedication and patience.

Some helpful tips to get you started

When starting out, it's important to understand the tax implications. In the UK, using a Stocks and Shares ISA can offer significant tax benefits. UK residents can invest up to £20k a year in their ISA and benefit from tax breaks on capital gains.

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 provided for informational purposes only. It is not intended to be, and does not constitute, any form of tax advice. Students are responsible for conducting their own due diligence and obtaining professional advice before making any investment decisions.

Diversity is another important factor. Spreading investment across sectors and regions reduces risk and improves potential returns. With a careful combination of growth and income, the portfolio can generate an average yield of up to 7%. When paired with a selection of growth stocks it can earn an additional 5% profit from holding prices.

It may seem tempting to cash out dividends as soon as they are paid but patience is essential. Reinvesting those gains means the gains won't just grow – they'll grow slowly, compounding over time into big growth.

An initial investment of £5k can be a good start but for real growth, adding an extra £100 or £200 a month can get the ball rolling.

Let's consider an example portfolio with the above averages. Starting with £5k and putting in £200 a month, you can grow to £58,280 over 10 years, with the profits reinvested. Assuming yields maintain an average of 7%, we will pay £3,579 a year in dividends.

If I keep that roll for another 10 years, it would reach £226k, paying £14,350 a year in dividends.

What kind of stock can achieve that?

Sustaining such returns will require careful selection of stable stocks with reliable prospects. Think big, be strong FTSE 100 companies like Unilever, BT Groupagain GSK. But there is also high quality in FTSE 250 and one of my favorite looks this month ITV (LSE: ITV).

With a yield of 6.7% and a low payout ratio of 46%, I have no reason to worry that payouts will be cut – unless another economic disaster occurs. Covid caused a reduction in 2020 but before that, dividends were paid consistently and increased every year for many years.

However, the broadcaster's earnings-per-share (EPS) has increased this year, prompting some analysts to speculate on a reversal. On average, they expect a drop from 10p per share to 8.5p by the end of the year. That could limit price growth in the short term.

It also faces intense competition from global streaming giants such as Netflix. Its streaming service ITVX has enjoyed some success but the business remains uncertain against established players.

Still, with return on equity (ROE) expected to be around 20% over three years, I like its long-term prospects. The shares have paid me good dividends so far and I expect they will continue to do so.