Loading the player...

What is a 'Dividend Reinvestment Plan - DRIP'

A dividend reinvestment plan (DRIP) is a plan is offered by a corporation that allows investors to reinvest their cash dividends into additional shares or fractional shares of the underlying stock on the dividend payment date.

Most DRIPs allow investors to buy shares commission-free and at a significant discount to the current share price, and do not allow reinvestments much lower than $10. This term is sometimes abbreviated as "DRP."

BREAKING DOWN 'Dividend Reinvestment Plan - DRIP'

DRIPs are offered by many companies to give shareholders the option of reinvesting the amount of a declared dividend by purchasing additional shares. Normally, when dividends are paid, they are received by shareholders as a check or a direct deposit into their bank account. Because shares purchased through a DRIP typically come from the company’s own reserve, they are not marketable through stock exchanges. Shares must be redeemed directly through the company.

Although these dividends are not actually received by the shareholder, they still need to be reported as taxable income. If a company does not offer a DRIP, one can be set up through a brokerage firm, as many brokers allow dividend payments to be reinvested in the shares of any stock held in an investment account.

Shareholder Advantages of DRIPs

There are several advantages of purchasing shares through a DRIP. DRIPs offer shareholders a way to accumulate more shares without having to pay a commission. Many companies offer shares at a discount through their DRIP from 1 to 10% off the current share price. Between no commissions and a price discount, the cost basis for owning the shares can be significantly lower than if the shares were purchased on the open market.

Long term, the biggest advantage is the effect of automatic reinvestment on the compounding of returns. When dividends are increased, shareholders receive an increasing amount on each share they own, which can also purchase a larger number of shares. Over time, this increases the total return potential of the investment. Because more shares can be purchased whenever the stock price decreases, the long-term potential for bigger gains is increased.

Company Advantages

Dividend-paying companies also benefit from DRIPs in a couple of ways. First, when shares are purchased from the company for a DRIP, it creates more capital for the company to use. Second, shareholders who participate in a DRIP are less likely to sell their shares when the stock market declines. One reason is the shares are not as liquid as shares purchased on the open market. Another reason is DRIP participants can more easily recognize the role their dividends play in the long-term growth of their investment.

RELATED TERMS
  1. Drip Marketing

    Drip marketing is a strategy employed by many direct marketers ...
  2. Drip Feed

    A drip feed is the process of slowly advancing funds or capital ...
  3. Reinvestment

    Reinvestment is using dividends, interest and any other form ...
  4. Systematic Investment Plan - SIP

    Systematic investment plans (SIP) involve putting money into ...
  5. Dividend

    A dividend is a distribution of a portion of a company's earnings, ...
  6. Automatic Reinvestment Plan

    An automatic reinvestment plan is a mutual fund plan that automatically ...
Related Articles
  1. Investing

    Top DRIPs and Picks for the Next 25 Years

    Instead of trying to time the market or worry about interim ups and downs, some of the most successful investors focus on accumulating long-term investment positions for years or decades to come. ...
  2. Investing

    The 3 Biggest Misconceptions of Dividend Stocks

    To find the best dividend stocks, focus on total return, not yield.
  3. Investing

    Is Dividend Investing a Good Strategy?

    Understanding dividends and how they generate steady income for shareholders will help you become a more informed and successful investor.
  4. Investing

    The Basics of Reinvesting REIT Dividends

    Learn the essentials of dividend reinvestment in real estate investment trusts and how a dividend reinvestment plan can magnify your long-term returns.
  5. Investing

    3 Top Dividend Stocks for 2018

    These three dividend stocks offer long-term return potential with a steady stream of income.
  6. Financial Advisor

    How to Pick the Best Dividend Stocks

    Dividend stocks can make you rich, but you have to be patient.
  7. Investing

    AAPL: Apple Dividend Analysis

    Apple's dividend has had healthy growth ever since its 2012 reinstatement, thanks to Apple's continuously rising revenue, earnings and operating cash flow.
RELATED FAQS
  1. What is a DRIP?

    "DRIP" is an acronym for dividend reinvestment plan, but the word also describes the way the plan works as investments grow ... Read Answer >>
  2. How can I purchase stock directly from a company?

    There are a few circumstances in which a person can buy stock directly from a company, including direct stock purchase plans, ... Read Answer >>
Trading Center