Generating income right now is like drawing water from a stone, but there is a way to turn each drip into a stream.
It’s called a dividend reinvestment plan, or DRIP. With interest rates and bond yields at rock bottom, many investors have turned to dividend stocks for income. Instead of paying them out as cash, a DRIP diverts those dividend payouts to buy more shares and, eventually, more dividends. It’s like compound interest with dividends.
Most publicly-traded companies offer them with no fees attached because DRIPs can help stabilize their shares. It’s also a great way to buy shares regularly and average out your cost (dollar-cost-averaging).
Many mutual funds and exchange traded funds (ETFs) will defer to drips. Investors can opt out and take dividends as cash.
It’s important to know that dividends on DRIPs outside a registered account, such as a registered retirement savings plan (RRSP) or tax free savings account (TFSA) are taxed as dividend income. If the extra shares gain in value they will also be taxed as a capital gain.