What are Dividend Reinvestment Plans (or DRIPs)?

Dividend Reinvestment Plans (or DRIPs) are another effective way to build long term wealth.

What is a DRIP you ask? It is a reinvestment plan offered by a dividend paying company whereby the shareholder’s dividends are automatically reinvested into purchasing additional shares in the company at no cost.

There are a few different options available for enrolling in a DRIP such as...

Through an Online Discount Brokerage

With this option, you generally have to purchase a share of the company’s stock through your broker and have the share transferred from the “street name” (your broker’s name) to your name personally. They will charge you a fee for this service of approximately $30 - $50.

Once the share is issued in your name, you will receive the stock certificate in the mail. You can then frame it and hang it on the wall if you like!

Next, you’ll need to contact the company’s transfer agent to get the necessary paperwork required to enrol in the dividend reinvestment program. Once enrolled, your dividend payments will be automatically reinvested into the company at no charge.

Direct Stock Plans (DSPs)

Many dividend paying companies, largely in the U.S., offer direct stock purchase plans which allows investors to enrol directly in the company’s plan and avoid using a broker completely.

The fees for enrolling in DSPs are commonly between $10 and $20. In addition, the fee to purchase additional shares beyond those being reinvested is usually between $2.50 and $5.00. The fees charged for purchasing additional shares can be minimized by making fewer but larger purchases.

There are pros and cons to investing through a company’s DRIP. Here are some of them...

The Pros

  • The dividends are reinvested at no charge. This is a huge advantage because 100% of your dividends will be working for you to purchase additional shares.
  • Some companies offer a discounted share price for their dividend reinvestment plans. This is also a powerful wealth builder because your reinvested dividends will be purchasing shares that are at a discount to the market. Unfortunately more and more companies are eliminating this option.
  • Partial shares are purchased with reinvested dividends for faster compounding. This is another powerful force for building wealth because your dividends can be put to work right away without having to accumulate until they can purchase whole shares. As a result the dividend income increases faster.
  • Automatic reinvestment makes it easier to commit to long term wealth building. Just set it and forget it!

The Cons

  • No control over the price at which dividends are reinvested. Additional shares will often be purchased when they are overvalued.
  • There isn’t the option of reinvesting the dividends into another and perhaps better opportunity.

So as you can see, there are advantages and disadvantages to using dividend reinvestment stocks as part of your wealth building strategy. Automatic reinvestment, partial share purchases and discounted share prices are very attractive advantages, however, not having control over the price at which the shares are purchased is a big disadvantage.

The thing is, using a DRIP doesn’t have to be your only way of investing. You can enrol and a company’s plan, build a small position and then forget about it while you focus on your regular portfolio again. Just let that position compound for years through reinvestment and one day you will be glad you did.

So that wraps up our primer on dividend reinvestment plans... hope you enjoyed it!

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