Dividend reinvestment plans (DRPs) are a popular way for Australian investors to reinvest their dividends in shares instead of receiving cash payments. DRPs can offer several benefits, including potential cost savings and compound growth. However, there are some important things that all Australian investors should know before participating in a DRP. In this post, we’ll cover five things that you need to know about DRPs.
1. What is a DRP?
A DRP is a program offered by some companies that allows shareholders to reinvest their dividends in additional shares instead of receiving cash payments. The shares are usually issued at a discount to the market price and the dividends are reinvested automatically. DRPs are popular among investors who want to grow their holdings in a particular company without having to buy additional shares on the open market.
2. DRPs can be tax-efficient
One of the benefits of participating in a DRP is that it can be tax-efficient. When you receive cash dividends, you need to pay tax on the income. However, when you reinvest your dividends through a DRP, you don’t receive any cash income, so you don’t need to pay tax on the dividends.
Instead, the dividends are reinvested in additional shares, which may appreciate in value over time. When you eventually sell the shares, you’ll need to pay capital gains tax on the increase in value since the time you acquired them. However, capital gains tax rates are generally lower than income tax rates, so reinvesting your dividends through a DRP can be a tax-efficient way to grow your wealth.
3. DRPs can offer cost savings
Another benefit of participating in a DRP is that it can offer cost savings. When you buy shares on the open market, you need to pay brokerage fees and other transaction costs. However, when you participate in a DRP, you can often buy shares at a discount to the market price, which can save you money.
In addition, DRPs can also save you money on future brokerage fees. As your holdings in the company increase, you may need to buy and sell shares in the future. However, by participating in a DRP, you can reduce the amount of brokerage fees you need to pay because you’ll already have a larger holding in the company.
4. DRPs can lead to compound growth
One of the most powerful benefits of DRPs is that they can lead to compound growth. When you reinvest your dividends in additional shares, you’ll receive more dividends in the future. These dividends can then be reinvested in additional shares, which can lead to even more dividends in the future. Over time, this can result in significant compound growth.
5. DRPs can dilute your ownership
One potential downside of participating in a DRP is that it can dilute your ownership in the company. When you reinvest your dividends in additional shares, the company issues new shares to you instead of buying back existing shares. This can increase the number of shares outstanding, which can dilute the ownership of existing shareholders.