Use DRIP for compound interest

In this article, we will talk about what DRIP is, the advantages of using DRIP, tax considerations and how to set up DRIP for your Fidelity investment.

Summary

  • What is DRIP?

  • The advantages of DRIP

  • Tax considerations

  • How to set up DRIP for your Fidelity investment

What is DRIP?

For a lot of stocks and funds, they pay dividends monthly, quarterly, semi-annually or annually. When you receive the dividends, you have the option to pocket the cash, or use the dividends to buy more stocks. 


DRIP stands for dividend reinvestment plan. With DRIP, instead of getting the dividends payout in cash, you will automatically reinvest the dividends into the same companies or mutual funds that issued them. Since each DRIP program is supported by a particular brokerage, the specific details of the program (such as e.g. what securities are eligible for DRIP) will vary. This article presents a general overview of DRIP. For your brokerage’s program, you will need to consult with their documentation.

The advantages of DRIP

If you are using dividends to fuel your retirement or expenses, then getting it paid out regularly in cash is a good idea. However, if you don’t need to use the dividends right away, there are many advantages of setting up DRIP.


  1. You can buy fractional shares with dividend reinvestment

While some brokers don’t have the fractional share purchase option, DRIP allows you to buy fractional shares with the dividend you received, instead of accumulating enough money to buy a whole share.

  1. Reinvestment is automatic

When you signed up for DRIP, the reinvestment will happen automatically, whenever your fund pays out a dividend.

  1. No fees and commissions

Normally DRIP does not charge any fees or commissions for the additional shares you are purchasing with your dividends, while buying the security as part of a separate transaction may involve additional costs.

  1. Compound interest

With DRIP, you get more shares of the company without paying additional money. The more shares you have, the more dividends you are likely to receive, and the more shares you are able to purchase. 


Tax considerations

With DRIP, even though you are not receiving the payment in cash, you still need to pay taxes for the dividends and capital gains.


Furthermore, each individual dividend that results in a stock purchase is considered a separate “lot” with a separate cost basis and acquisition date for tax purposes. When the time comes around to close the position and sell off the stock, you have to calculate profit and loss on each individual lot for your tax return. This can be quite a headache to manage, especially for bond funds that pay out monthly dividends, but since nearly all brokerages compute capital gains in your 1099, this shouldn’t be a problem for most people.


How to set up DRIP for your Fidelity investment

You can follow the link in this Fidelity article to set up DRIP for your investment:

https://www.fidelity.com/customer-service/how-to-dividend-and-cap-gains-distributions


After signing in, you will have the option to update how you want to use the dividends and capital gains for each individual fund. The options are:

  • Reinvest in security

This is DRIP.

  • Deposit to core account

This means it will pay out in cash.


In summary, there are many advantages to using DRIP. It is advisable to set it up if you don’t need to cash out the dividends and capital gains.

Comments

Post a Comment

Popular posts from this blog

Two day itinerary in Portland OR

Image
This is the two day itinerary I used when traveling to Portland for a weekend trip. It includes food recommendations, waterfalls, and city attractions. Summary Day 1 Vista House Waterfalls Bridal Veil Falls Wahkeena Falls Fairy falls (optional) Multnomah Falls Horsetail falls More hiking (optional) Rowena Crest Voodoo doughnut Powell's City of Books Day 2 Pittock Mansion Japanese garden International Rose Garden Day 1 Breakfast We had breakfast at Elmer's . They have multiple locations in Portland, and they serve delicious American breakfast. Vista House On the way to see the waterfalls, you can stop by Vista house . The house itself has been closed since the pandemic. However, you will get a really good view of the Columbia River from there. There are a lot of free parking spots near the vista house as well. On the way to the vista house, we also caught a glimpse of the snowy mountain from the highway, which I think is probably Mount Hood: Here is the view from vista house: Wa
Read more

Milk Maiden and the Burp Boy

Once upon a time, there was a baby named Emma who had a secret identity. By day, she was just a normal baby, but by night, she was the superhero Milk Maiden! Milk Maiden had the incredible ability to drink as much milk as she wanted, and she used her powers to help other babies who were hungry. One day, Milk Maiden was called to the scene of a crime. A group of babies had been kidnapped by The Baby Kisser, a villain who had the evil plan to kiss all the babies on the cheek. Milk Maiden knew that she had to stop The Baby Kisser, so she set out to rescue the babies. Milk Maiden tracked The Baby Kisser to his hideout, which was a large, dark cave. She snuck inside and found the babies, who were all tied up. Milk Maiden quickly untied the babies and freed them from The Baby Kisser. The Baby Kisser was furious that Milk Maiden had foiled his plan, so he attacked her. Milk Maiden fought back, and she used her powers to drink all of The Baby Kisser's milk. The Baby Kisser was so weak from
Read more

The mean and nasty Burp Boy

  Once upon a time, there was a baby named Emma who had a secret identity. She was a superhero called Milk Maiden. Her superpower was an incredible ability to drink as much milk as she wanted. She could drink a whole gallon of milk in one sitting! Her sidekick was named The Baby Kisser. The Baby Kisser's superpower was the ability to kiss babies on the cheek. He could make any baby smile, even the grumpiest ones. Emma and The Baby Kisser were always on the lookout for trouble. One day, they heard about a new villain in town called Burp Boy. Burp Boy was a mean and nasty villain who loved to burp. He would burp so loud that it would make people's ears ring. He also loved to burp on babies. Emma and The Baby Kisser knew that they had to stop Burp Boy. They tracked him down to his hideout, which was a big, old abandoned factory. When they got there, they saw Burp Boy standing in the middle of the room, burping as loud as he could. "Stop that!" Emma shouted. "You'
Read more