What is a Dividend Reinvestment Plan (DRIP)?

A DRIP is the method of reinvesting cash dividends received from a company back into the stock of that company, incrementally increasing one’s position.

A dividend reinvestment plan, or a DRIP, is the method of reinvesting cash dividends received from a company back into the stock of that company, incrementally increasing one’s position. When dividends come round every year, quarter — or in some rare cases — month, investors are asked the question; do you take the money or do you reinvest?

Here at MyWallSt, we don’t actively seek out dividend investing opportunities. Not because we don’t like getting handed a cheque every three months, but if a company starts offering dividends, it means that it is not using this money to reinvest into the company. Prioritizing dividends to shareholders means that is money not spent on growth. This approach is absolutely fine for large-cap, long-established companies like Coca-Cola (NYSE:KO) or McDonald’s (NYSE:MCD), but it’s definitely not something we want to see in our high growth stocks. 

However, it is not always this black and white. Microsoft (NASDAQ:MSFT) is an example of a company firmly in the gray area. With the second biggest market cap in the world and a public company since 1986, Microsoft is a company you would expect to be paying dividends, which it does at $0.51 per share a quarter. However, this does not hamper its rapid growth. The stock has more than tripled in the past five years. Performance worthy of some of the most impressive growth stocks.

Should You Enroll in a Dividend Reinvestment Plan?

A DRIP is a great tool for a long term investor. If nothing has changed from the time you conducted your research on the company at hand and made your first investment, and your belief in the company remains the same, then a DRIP is a fantastic way for you to incrementally increase your position in the company over time. 

The benefits of a DRIP: 

  • As you are buying shares directly from the company, you forego brokerage fees and commissions
  • The ability to purchase fractional shares of the company, an option that may not be available from your broker. This is especially handy if the stock in question is particularly expensive, meaning you won’t have to wait until you save enough to buy another share
  • If you’re lucky, companies may even offer a discount on stock purchased through a DRIP
  • Enrolling is as simple as contacting your broker, you may even be able to enroll yourself if that option is provided by your online brokerage

One caveat of a DRIP is that even though the dividend is immediately reinvested, you would be taxed in the same manner as if it was cash. This may lead to a bit of a shock for the unaware come tax season, so don’t say we didn’t warn you!

To summarise, if you are a long term investor with the same belief you had in the company when you first invested, then you should sign up for a dividend reinvestment plan. 

MyWallSt operates a full disclosure policy. MyWallSt staff currently holds long positions in Microsoft. Read our full disclosure policy here.