I’m not working forever! How I aim to build £20k a year passive income from UK shares

As the State Pension age continues to rise, building passive income to support my retirement is becoming more important every day.

I want to generate retirement income by investing in a UK stock portfolio, mainly FTSE 100 dividend stock. Blue-chip shares listed in the index offer some of the highest shareholder payouts in the world, with most yielding from 5-9% a year.

I buy high yielding stocks

If I can generate a passive income of £20,000 a year, on top of the £10,000 or so of State Pension, I will retire on £30,000 which is roughly the average salary today.

In practice, I will be better than the average worker. By then, my children would have to leave home and my mortgage would be history. I don’t have to make pension contributions or pay life insurance at that age.

Even better, the passive income of £20,000 will be free of all income tax, if I invest it in an annual Stocks and Shares ISA allowance.

In retirement, I plan to follow the 4% rule. This means that if you withdraw 4% of your investment portfolio as income every year, your pot will never run dry. In order to make £20,000 a year, I would need a portfolio of £500,000.

This takes time to build, of course. All working ages, to be exact. If I invest £250 a month, and increase this by 3% every year to keep up with inflation, it will take me 30 years to reach my goal. Assuming an average total return of 7% per annum from the portfolio, I would have made £416,096 over that period.

If I start by investing £500 a month, I can do it in just 22 years, by which time I will have £403,545. But the closer you get to retirement, the more money you need to invest each month to reach your goal. And vice versa.

Some FTSE 100 favourites

I think now is the best time to buy the top FTSE 100 dividend stocks, as many offer high yields at affordable prices.

Packaging group the world, for example, yields 4.76 years, but trades at just 11.6 times earnings (the figure of 15 appears to be Fair Value). The insurer Aviva yields more than at 6.41% and even lower at today’s price of 10.5 times earnings.

House builder Barratt’s Development yields a stunning 7.81% and trades at a rock-bottom 5.7 times earnings. At 10.71%, miners Rio Tinto offers the highest yield in the market, but it is one of the cheapest stocks, trading at 5.6 times earnings.

Dividend income is never guaranteed, shareholder payments can be cut at any time. These stocks look cheap, but they all have challenges in different ways. Since I plan to invest for decades, they have a lot of time to deal with it.

In total, I want to build a portfolio of around 10-15 stocks to spread the risk if one or two fall short. If I succeed, I will be free to quit my job at any time I choose.