What is a DRIP for Stocks?

Read our Advertiser Disclosure.
Contributor, Benzinga
Updated: October 25, 2022

US Investors: Get up to an extra $10,000 when you transfer your stocks to Public.com from another brokerage.

When companies pay dividends to their investors, the receiver decides what is done with the cash. Some choose to reinvest their dividends, but some choose to have the cash paid out. Many investors use a Dividend Reinvestment Plan (DRIP) to invest the cash they receive back into more stock from that company. 

What is a DRIP?

A dividend is a distribution of profits by a corporation paid to shareholders. It is usually paid when a company earns a profit or surplus to keep shareholders satisfied. In addition, it incentivizes investors to hold or invest further funds into the stock.

DRIPs give investors the opportunity to reinvest their dividends to purchase more shares of the company’s stock. These plans can be set up directly with the company or through a brokerage account. Investors can compound their gains with the reinvestment program and reduce risk via dollar cost averaging. 

For example, an investor owning 100 shares of a stock may choose to reinvest the dividends. The company pays a $0.10 quarter dividend per share, and its stock price is currently at $10. Therefore, owning 100 shares will mean the investor receives a dividend of $10.

A DRIP will use that $10 to buy more stock. As a result, the investor receives one extra share, increasing the position and dividend on the next payment. 

This has been a popular investment strategy as investors can accumulate additional shares at a consistent rate while averaging the price of entry.

According to CFRA Research, reinvested dividends have contributed to 33% of the total return in the S&P 500 since 1945. As a result, dividends can improve your performance without you having to log in and invest more of your money.

You set up a DRIP through a broker, usually online. Once selected, a feature in your account offers various options on how to use a DRIP.

Investors can automatically enroll all current and future stocks and funds for an automated experience as any stock or fund that enters your portfolio can be automatically be added to the program. Furthermore, when a company in your portfolio chooses to pay a dividend, it will automatically be reinvested.

Another option is to enroll all the current stocks and funds in a portfolio. However, this will only reinvest the dividends from your portfolio at that time. Any new stocks added to the portfolio over time must be added manually. Therefore, investors must consider whether they want the convenience of automation or to retain some control over their dividends.

Investors can also take complete control of their dividends and select individual stocks and funds to automate. This process will be less convenient but allows the investor to take more initiative and have the final say.

Finally, individuals can go directly to the company to buy its stock and reinvest its dividends. This plan has additional benefits and drawbacks.

Can You Set up a DRIP for Fractional Shares?

Investors are able to use a DRIP for fractional shares. A DRIP is not limited to whole shares, which gives investors more opportunity to use this plan for various stocks. 

A DRIP for fractional shares occurs when the dividend payment is less than the total share cost. Therefore, the investor will receive fractional shares as a result.

For example, if the company’s share price is $50 and the investor receives a dividend of $10, it will be reinvested as fractional shares. The investor will receive one-fifth of a share from its dividends. Thus, investing through the DRIP plan is available to all, whether it be a large investment or a small investment.

Using a DRIP for fractional shares is common for more expensive stocks. For example, a stock such as Apple has a high share price and would require a significant investment to cover one whole share. Owning 20 shares of Apple will translate to a small dividend payment that can only be reinvested into fractional shares. 

The Benefits of a DRIP

An investment plan such as a DRIP is popular and is used by many investors and corporations. Reinvesting your dividends can significantly increase profits over the long term. But what are some of the significant benefits you can achieve?

Easy setup: Setting up a dividend reinvestment plan can be straightforward, and once completed, it is an automatic system. It can be done either through your broker or with the company itself. There is minimal hassle, and once it is set up, it can be left alone.

Dollar-cost averaging: The technique of dollar-cost averaging is extremely beneficial. It intends to average an investor's position as the stock moves up and down. You are not entering at an outright price but rather getting in at different levels over the long term. As a result, it reduces risk as you are not buying during a peak or trough. 

Lower cost: Many DRIP programs are popular because of the minimal costs involved. Often you will see no commissions or brokerage fees, ensuring investors can use its plan free of charge.

Meanwhile, using a DRIP through the company means many investors are offered their shares at a discount rate ranging between 3% and 5%. 

Steady growth: Investing your dividends over a long period of time is a way to achieve steady growth. Investors buy more shares with each payment, which will compound their returns if the company continues to pay dividends. 

Compounded returns can add up to a significant portion over time, which has been evident with many firms and indexes in the past. It is an excellent strategy to try to achieve steady growth over the long term, and the consumer can cancel it at any point.

Safety: Companies offering DRIP programs see their dividends reinvested into the company. Consequently, companies can reinvest the capital to grow their business. 

Shareholders are likely to remain loyal to the company and unlikely to sell during uncertain times. Over time the investment may be safer from significant drops in its share price. Investors are in it long term, and each party can benefit. 

Saves time: A DRIP is highly convenient and can save the investor a lot of time. Not only is setting it up quick and straightforward but once it is complete, it can be left alone. The broker or company handles the rest of the management. 

Considerations of a DRIP

The use of a DRIP is extremely beneficial, and investors can see higher returns over the long term. However, investing in the stock market may tilt the odds in your favor, but there is always some degree of risk. Additionally, companies that pay dividends can decide to stop paying them at any time.

Here are some key considerations of a DRIP.

Taxes: One thing to note is the cash dividends received and reinvested are still considered taxable income by the IRS. As a result, it must be reported to them, and you may need to seek a tax professional to analyze your current situation.

Risk: Every investment comes with some degree of risk, and that risk increases as you buy more shares. A considerable drop in share price could occur. Therefore, if you are continuously reinvesting in a business, it must be in a corporation you feel confident in. 

Costs: Although using a DRIP brings limited fees and expenses, reinvesting dividends is not an option for everyone. Many individuals need the money they receive from dividends to cover their everyday costs. Therefore, this option is only available to those who do not need the funds they receive. 

Flexibility: If you work directly with the company to use DRIPs, one thing to consider is the flexibility of buying and selling the stock. You may be unable to buy and sell as quickly as possible through a regular brokerage account. 

In a regular account, you can respond more quickly to a sudden rise or fall in the market. In contrast, you are likely to have less direct control when dealing with the corporation, as you must sell the shares back to the company. 

You can not sell the shares on the open market, and a request to sell them must be made with the firm.

Compare Brokers

A DRIP is offered by numerous brokers and corporations directly. However, as multiple brokers are available, it can be challenging to choose the ideal one. Here are insights and reviews on some of the biggest brokers who offer DRIPs to investors.

Claim Exclusive Offers

  • CenterPoint Securities
    More Details
    Best For
    Momentum traders
    Overall Rating
    Read Review
    securely through CenterPoint Securities's website
    More Details
  • public.com
    More Details
    Best For
    Trading Ideas
    Overall Rating
    Read Review
    securely through public.com's website
    More Details
  • SoFi Active Invest (Brokerage)
    More Details
    Best For
    IPO Investing
    Overall Rating
    Read Review
    securely through SoFi Active Invest (Brokerage)'s website
    More Details
  • IBKR GlobalAnalyst
    More Details
    Best For
    Active and Global Traders
    Overall Rating
    Read Review
    securely through IBKR GlobalAnalyst's website
    More Details
  • Moomoo
    More Details
    Best For
    Active Traders
    Overall Rating
    Read Review
    securely through Moomoo's website
    More Details
  • Webull
    More Details
    Best For
    Intermediate Traders and Investors
    Overall Rating
    Read Review
    securely through Webull's app
    More Details

Frequently Asked Questions

Q

How do you buy DRIP stocks?

A

You can buy DRIP stocks by automatically enrolling in a DRIP or entering it manually each time. It can be a straightforward process and is an option for all investors. Reinvesting dividends through a brokerage account can be done through account settings. In addition, investors can go directly to the company to purchase shares and use its DRIP plans. 

Q

Do you have to pay taxes on DRIPs?

A

Yes, investors must pay taxes on DRIPs. Although investors using a DRIP plan do not receive the cash from its dividends as it is automatically reinvested, they are subject to taxes on those paid-out dividends, which are considered income.