What is a Dividend Reinvestment Plan?
Companies offer Dividend Reinvestment Plans (DRP) to allow shareholders to purchase stock on a regular basis directly from the company. In addition to share purchases, dividend reinvestment plans reinvest any dividends paid into more company stock. A dividend reinvestment plan is a convenient way to build a large stock holding in a company over time.
Dividend Reinvestment Plan Advantages
Inexpensive to start. Often you can enroll in a dividend reinvestment plan by owning one share of stock. Some companies even offer dividend reinvestment plans that allow you to buy the initial share directly from them, bypassing a broker.
Reasonable fees. Companies reinvest your dividends in additional shares and allow additional cash purchases of stock with little or no fees.
Invest automatically. Some dividend reinvestment plans offer additional investments in amounts as small as $10-$25! Many offer monthly investment plans where they will withdraw the amount you specify from your checking/savings account.
Good investment practices. Often the best investment strategy is to “buy and hold” and “dollar-cost average.” (Dollar-cost averaging is the practice of investing a set amount on a periodic basis regardless of share price to even out the highs and lows. When prices are high you buy less, when prices are low you buy more.) Reinvesting your dividends through a dividend reinvestment plan is an excellent way to dollar-cost average, and over time can result in a substantial position in a company.
Dividend Reinvestment Plan Disadvantages
Watch out for fees on small investments. A recent trend in dividend reinvestment plans is for companies to pass along more and more fees to investors. Although these fees are often very low, they can easily eat up a substantial portion of your investment if you are investing small sums of money. As an example, I own 10 shares of a stock that pays $3.20 in dividends every quarter. The fee to reinvest that $3.20 was almost $1! Obviously not a good deal, so I withdrew from the dividend reinvestment plan.
Dividends are still taxed. Dividends are treated as income by the IRS whether you receive a check or they are reinvested. At the beginning this is often not a big deal, but over time as the number of shares you own builds the dividend amount can become quite substantial.
Paperwork. If you want to invest in 10 companies through dividend reinvestment plans you have join 10 different plans. You can simplify things a bit by using Computershare (see below) or Sharebuilder. Online brokerages usually offer free dividend reinvestment plans for those who invest larger sums.
Lack of diversification. Owning shares in a single company can be risky. Mutual funds might be a better choice for the risk-averse, as they spread out the risk over hundreds of companies.
Finding a Dividend Reinvestment Plan
Computershare offers one-stop shopping for hundreds of dividend reinvestment plans. They offer a searchable list that can be filtered to easily find a dividend reinvestment plan that fits your needs.
You can also use OneShare.
Probably the best way to find out if a company offers a dividend reinvestment plan is to visit the company website. Most companies have an Investor Relations area that will highlight the various options available to shareowners. For example: Coca-Cola, Disney, and Wal-Mart.
A dividend reinvestment plan offers investors an excellent, low-cost way to invest in a company on a regular basis over time. dividend reinvestment plans are especially advantageous for investors who can only invest a small amount each month. Investing in a single company carries risks, but it can also be quite rewarding.
Do you currently invest in a company through a dividend reinvestment plan? If so, which companies?
Thanks for providing such a great post on dividend reinvestment plan. You have included a number of practical and smart tips on how to carry out this type of investing.
Because of today’s weak economy, more and more people are less eager to invest in any company. I believe I fall in this category as well. Hopefully the economy will improve soon.
I have invested some amount in elss(equity linked savings scheme) under dividend reinvestment option. I also received dividend 2 times during this financial year. Since this reinvestment is going to be in lock period of 3 yrs. can claim tax rebate for this amount?