There’s a good chance you own dividend-yielding stocks or funds. Do you automatically reinvest those dividends or is the cash deposited directly into your brokerage account? The decision can significantly impact your long-term returns and your tax planning.
🧠 What you need to know
What is automatic dividend reinvestment?
Quite simply, your broker allows you to automatically reinvest your dividends, the cash a company pays to shareholders out of its profit. Every broker has a different interface to toggle these settings on or off for all of your investments or individual stocks.
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Different investments have different dividend payment schedules - monthly, quarterly, semi-annually. With automatic reinvestment, dividends will be used to purchase more shares of the same stock, ETF, or mutual fund at the same cadence.
Advantages of reinvestment
Built-in compounding. The total return on a $10K investment with dividends reinvested over different 30-year periods was 2x-4x better than without reinvestment, as described by A Wealth of Common Sense. That’s a lot more money in your account! These returns do not factor in your performance by reinvesting those dividends in other stocks. They also don’t consider taxes given everyone’s tax situation is different, and some may be reinvesting in a retirement account.
Dollar-cost averaging. Determining when a stock has bottomed is challenging. With dividend reinvestment, you’ll automatically invest at different price levels, without having to think about if a stock has hit a bottom.
Increased ownership. With dividend reinvestment, you’ll automatically increase your ownership in a company, which means you’ll get a greater share of future dividends paid.
Disadvantages of reinvestment
Tax considerations. Dividends earned in taxable brokerage accounts are taxable, whether reinvested or not. Thus, if you are reinvesting dividends, you’ll need to sell some stock or find an alternative source of cash to cover the taxes come tax filing season.
Liquidity. When you reinvest dividends, you lose the opportunity to use those dividends for other purposes, whether that is investing in other stocks or for non-investment purchases. Many retirees rely on dividend income to provide supplementary cash flow.
Over-concentration. If you aren’t paying close attention, dividend reinvestment can lead to a stock becoming a larger percentage of your portfolio than you intended, potentially increasing risk.
🤝 How can Mezzi help?
With Mezzi, quickly understand how much dividend income you are earning and:
- Avoid over-concentration
- View dividends by Taxable vs. Tax-Advantaged account
- View dividends by family members, like yourself vs. your partner vs. your children
- Benchmark your portfolio dividend yield against the S&P 500 and Dow
- Track reinvestments through our trade history view
