Dividend Reinvestment Plans (DRIPs)

If you've read the article Dividends and Dividend Investing, you probably agree that the process seems to make good sense. But as is the case with so many investment instruments, you're may also be wondering what to do if you're just starting out and don't have a huge chunk of money, or you've been saving for years but still don't have the $50,000 to $100,000 that's generally recommended to open a brokerage account for a diversified portfolio of individual stocks. After all, everyone has to begin somewhere. How can you grow your wealth without already having considerable wealth to get you started?

Fortunately, there is a way to put the power of dividends to use while you're just getting started on building your nest egg. Most corporations that pay cash dividends offer some form of dividend reinvestment plan, or DRIP. These plans allow current shareholders to reinvest their dividends directly with the company in order to buy additional shares of stock. Many companies also offer direct share purchase plans, which allow investors who aren't yet shareholders to buy stock directly from the company so that they also can begin taking advantage of the reinvestment plan. A DRIP's features and services can vary with its issuing company. You should therefore read the disclosure information before investing in any particular plan. The disclosure should detail all necessary information, such as how to enroll, the number of shares needed to open an account, how to sell shares, and any fees or charges that may apply.

DRIPs came into being in the 1960s and have been gaining popularity with investors since then. But they're also quite popular with the companies that offer them, as well. By issuing new shares of stock, a company can raise capital from investors who are joining the plan. And because the company can pay the plan's participants their dividends in the form of newly-issued stock rather than cash, the plan can also help to conserve the organization's liquid assets.

One of the main advantages that DRIPs provide to investors is their affordability. Some plans allow an initial investment of as little as the cost of a single share of stock. After enrollment, the investment can be increased with small deposits and even purchases of fractions of shares; and because purchases are made directly through the plan, brokerage fees are eliminated. Some companies also offer a discount on the shares purchased with reinvested dividends. While some brokerage firms may too allow shareholders to reinvest their dividends at no cost, they will charge commission fees for the purchase of any shares bought in excess of the dividend being reinvested, as well as the initial shares that were purchased.

Dividend reinvestment plans are a very effective way to introduce the discipline of a systematic savings and investment program to your budget. Many plans facilitate this by encouraging you to schedule automatic deductions from your checking or savings account. However, even without adding additional cash to the plan, reinvesting your dividends each quarter will still provide you into the two most important benefits of saving systematically: the magic of compounding and dollar cost averaging.

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