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by Jonathan AnthonyGuide to Dividend Reinvestment Plans (DRIPs) for Long-term Investors
If you’re an investor with long-term goals, dividend reinvestment plans, or DRIPs, should be on your radar. These automatic share-buying programs come with perks and can end up being extremely valuable.
As you may already know, many companies distribute a portion of their profit to their shareholders through dividends. Once a dividend gets paid out, DRIPs are one of the most efficient ways to put that money back into the market.
We are going to go over all the aspects of dividend reinvestment plans and why they might be the answer to bigger gains.
DRIPs Explained
A dividend reinvestment plan is a program to automatically purchase more shares of what you own by using your quarterly cash dividend payment. Of course, you could always do that yourself, so what’s the point of these plans?
DRIPs have several benefits:
- Minimal to zero commission fees
- Shares may be discounted
- The process is automated
- Efficient method of reinvesting
After every ex-dividend date, you’ll accumulate more shares. That means next time around, you could get more dividends, and it’s easy to see how everything compounds over time.
That equates to passively increasing your returns, which is a major reason why it’s an especially valuable tool for long-term investors.
But before you jump in, it’s a good idea to learn about your options. There are three types of DRIPs, company-operated, third-party, and brokerage-operated. Let’s take a look at the nuances of each.
Company-Operated DRIP
Some companies handle their dividend reinvestment program internally. Over 1,000 companies and closed-end funds offer DRIPs to existing shareholders, including Johnson & Johnson, 3M, Aflac, and ExxonMobil.
Company-run DRIPs can have a lot of perks:
- They can give you discounts below the current market value on shares.
- Many of them give you the option to buy fractional shares.
- Sometimes you can purchase extra shares with zero fees.
However, there can be a few drawbacks to company-run DRIPs:
- You can only invest in that particular asset, so once your shares begin piling up, you may find your portfolio becoming less diversified.
- Enrolling is a bit more involved as you have to reach out to the company directly.
- There will likely be some upfront fees to get started in the program.
Third-Party DRIP
When a company finds maintaining its own DRIP too costly, it may outsource the department to a third party.
That lets a firm manage the reinvestments how the company dictates. The main difference is they may charge added fees or commissions.
Brokerage-Operated DRIP
With a brokerage-operated DRIP, you are buying shares on the open market through a broker rather than through the company itself.
For example, apps like Robinhood have a feature that lets you automatically reinvest dividend payments in any underlying security that supports fractional shares.
While they all have minimal fees, Brokerage-operated DRIPs have a few key differences from the ones run by the company:
- They don’t typically offer stocks at discounted rates.
- You get the option to buy fractional shares only for certain companies.
- The enrollment process is far more accessible, as you can do it online through your account.
- You can turn the DRIP on and off easily to spread your earnings across multiple different stocks through the brokerage.
- It gives you more freedom to diversify your investments.
Important note: Always research the specific plan in front of you before agreeing to anything. These are general guidelines, and every DRIP will have unique rules. Some brokerage plans offer fractional shares, a company plan may have higher fees, and the requirements for everything vary greatly.
How to Set Up a DRIP
To get set up with a DRIP, you first need to be an existing shareholder of a dividend-paying stock. Some programs have a timeline or minimum investment set by the company.
Once you qualify, the process is mostly straightforward:
1. Choose a Company
First, research which companies offer DRIPs, and then you can decide what you want to invest in. Consider the company’s history and past dividend payments. Choose one that has increased in revenue and dividends over the years. When you’re comfortable with your decision, make your purchase.
2. Research the Requirements
You may need to be a shareholder for a certain amount of time before you’re eligible for DRIP, so do your research. You may also need to hit an account value threshold to turn the feature on in your brokerage. Once you’ve hit the requirement, you can enroll.
3. Enrolling Through a Brokerage
If you’re enrolling through a brokerage, you only need to login into your account online and follow the steps to activate the feature. Each platform is a little bit different, but their support can help if you can’t find the setting. Make sure you’re aware of any fees before you jump in.
4. Enrolling Through a Company
To enroll through a company, you’ll need to get in touch with their transfer agent. Go to the company’s website and look for what you need to get started. Most will have instructions, links, or other information directing you on how to enroll.
5. Plan and Prepare
Set up an investment schedule and pay attention to how often the company pays dividends. Also, don’t forget you still need to pay taxes on dividends even though they are being directly reinvested. It’s a good idea to have an advanced portfolio tracker to keep track of all the moving parts.
Advantages and Disadvantages of DRIPs
DRIPs are a nice way to save some time and get your money into the market immediately. However, they can still have some downsides depending on your strategy.
| Advantages of DRIPs | Disadvantages of DRIPs |
|---|---|
| ✅ Shares can be discounted below the current price with company DRIPs. | ❌ Even though your dividend gets reinvested, it still gets taxed as income. |
| ✅ You can usually buy fractional shares in company DRIPs. | ❌ Some people might not like the lack of control in the automated process. |
| ✅ DRIPs typically don’t have commission fees. | ❌ The minimum investment requirement may be too costly for some. |
| ✅ It’s automated, so you can sit back and relax. | ❌ Stacking up one asset over time can affect your portfolio diversification. |
How to Reinvest Dividends Without a DRIP
DRIPs aren’t the only way to reinvest your dividends. Some choose to go the more manual route.
You can wait until the cash from your dividends stacks up in your brokerage account and reinvest in whatever you want, even waiting for better prices. There are two sides to that coin:
- On the one hand, it’s a capital gain, and it gives you more control. Stock prices may be up when your dividend gets automatically reinvested with a DRIP. Remove the automation, and you can avoid that altogether.
- On the other hand, you may be waiting awhile for the right time to strike when you’re money could have already gone to accumulating more dividends.
DRIPs Can Boost Your Long-Term Goals
DRIPs are an easy, passive way to reinvest your dividends, increase your position, and boost your returns. If you’re an investor with long-term goals and a set-it-and-forget-it approach, this might be the perfect plan for you.
Remember always to do your research when enrolling in a DRIP and ensure you’re aware of the conditions and fees associated with each plan.
