20 Tips For Deciding To Reinvest Dividends Or Not
Are you struggling with the question: should I reinvest dividends? If so, you have come to the right place.
Because I’m going to offer you 10 reasons why you should reinvest dividends. And another 10 reasons why you should not reinvest dividends.
Armed with these 20 tips. I’m quite certain you will have all the facts to know one thing for sure. Specifically, whether or not to reinvest your dividends.
So, I won’t bore you with the basics of what is dividend reinvestment and how it works. I assume you know that already.
As a result, let’s get moving on today’s topic…
Should You Reinvest Dividends?
In most circumstances, reinvesting dividends is a good idea.
As long as the companies behind your dividend stocks continue to perform well. And your dividend stock portfolio is properly diversified. Then go ahead and reinvest your dividends.
On the other hand, there are times when automatic dividend reinvestment makes no sense.
Normally this occurs when your portfolio falls out of balance. Or, your investment objectives suggest there are better ways to go about investing.
Okay. With those highlights taken care of. Let’s dig deeper to get the reasons behind my answer to this very important question.
Shall we…
Disclosure: At no cost to you, I may get commissions for purchases made through links in this post.
10 Reasons Why You Should Reinvest Dividends
Decide to reinvest dividends when you…
- Have no other source of funds to invest
- Want to create a dividend snowball
- Do not have time to invest the accumulating cash
- Want to put your funds to work immediately
- Desire to benefit from dollar cost averaging
- Are not knowledgable about alternative investments
- Suffer from investment indecision
- Have a long investment horizon
- Invest in the highest quality dividend stocks
- Are tempted to waste the money
Next, I want to briefly discuss each of these reasons. So you know exactly what I’m talking about…
Have No Other Source Of Funds To Invest
When your monthly budget is stretched to the max. And you can’t afford to allocate any new funds for investment.
Then reinvesting dividends is a great option. For continuing your investment program. Using someone else’s money.
Want To Create A Dividend Snowball
The dividend snowball effect is a continuous cycle of growing dividend income.
The snowball is created mainly by investing in shares of dividend growth stocks. And reinvesting the dividends automatically right back into the stocks that paid them.
It’s an excellent long-term strategy. To accelerate wealth building using dividend stocks.
Okay. We are just getting on a roll. So let’s keep it up.
Should you reinvest dividends or not? Here’s another good reason to do so…
Do Not Have Time To Invest The Accumulating Cash
After investing in your first dividend stock. The cash from dividends will start to roll in.
Furthermore, as you build your dividend portfolio. Your cash flow from dividends will accelerate.
When you do not have the time or expertise to put that cash to work in your dividend portfolio. Then reinvesting dividends is an excellent option for doing so.
Of course, you can subscribe to the Motley Fool Stock Advisor. And get top-notch stock recommendations delivered to your inbox every month.
After that, you will have no excuse. To get that pile of cash invested, that is rolling in from dividends.
Want To Put Your Funds To Work Immediately
Many investment studies have indicated that the best time to invest in stocks is now.
Even investing money at the top of bull markets. Long-term dividend investors have still earned strong investment returns.
So know that dividend reinvestment plans put your dividend income to work in the stock market immediately.
Thus, no time is wasted while your cash idly sits in waiting for better use. Even if you only have enough dividend income to purchase fractional shares.
Desire To Benefit From Dollar Cost Averaging
By reinvesting dividends, you benefit from dollar cost averaging (DCA).
This technique is about investing fixed dollar amounts at regular intervals. Thus, buying additional shares when stock prices are down. And fewer shares when stock prices are up.
As a result, by reinvesting dividends. You take advantage of dollar cost averaging into your investments.
Are Not Knowledgable About Alternative Investments
In some cases, an investor may be very knowledgeable about dividend stocks. And dividend investing.
Yet, know little about other investment options and investment strategies. For example, investing for growth versus dividends. Or, investing in mutual funds.
Furthermore, never forget investing rule #1: only invest in what you know and understand.
So, if dividend stocks are your only investing expertise. By all means, stick with them. And reinvest your dividends.
This next point was a big one for me personally. Especially when I was a young dividend investor. And was trying to decide this: should I reinvest dividends or take cash…
Suffer From Investment Indecision
There are so many investment options. And even more dividend stocks to choose from.
So, when you can’t make up your mind on what dividend stocks to buy. And when to buy them. Resulting in a mess of indecision.
Then you are better off reinvesting your dividends.
Have A Long Investment Horizon
Dividend reinvestment works best over a long time frame.
To emphasize, dividend reinvestment is a long-term investing technique. Not a short-term stock trading strategy.
So, if you are like me. And prefer to buy and hold your dividend stocks forever. Or, 3-5 years at the very minimum.
Go ahead and reinvest dividends rather than taking the cash.
Invest In The Highest Quality Dividend Stocks
It’s hard to go wrong investing in the highest quality dividend stocks. I am referring to the Dividend Kings and Dividend Aristocrats.
These stocks pay dividends every year. And have increased their dividend rate per share annually for many years in a row. Piling up healthy long-term capital gains along the way.
When you own stocks like these. Reinvested dividends are a great option.
Okay. Read closely now. Are you still wondering should you reinvest dividends or not?
Well, if there is any chance you will fall prey to this next situation. Then by all means set up automatic dividend reinvestment…
Are Tempted To Waste the Money
Because if you are tempted to spend your dividend payments. Especially, on consumer goods or non-essential items.
Using your dividends like this is a wealth killer.
So I suggest, you reinvest your dividends to remove the temptation.
Okay. I think those are 10 very compelling reasons for reinvesting dividends. However, it’s important to examine the good and the bad of dividend reinvestment.
Specifically, when and why dividend reinvestment is a bad idea. So, I would like to cover that next.
Let’s do it…
10 Reasons Why You Should NOT Reinvest Dividends
Decide to take your dividends in cash when you…
- Must diversify your portfolio
- Need to rebalance your portfolio
- Change your investment objectives
- Are reinvesting in poorly performing assets
- Have better investment alternatives
- Do not have other funds to pay the taxes due
- Have a short investment horizon
- Want to time the market
- Believe the stock market is going to crash
- Need the cash
Next, let’s unpack each of these reasons to take your dividends in cash one by one…
Must Diversify Your Portfolio
When your dividend stock portfolio is not adequately diversified. Then reinvesting dividends vs taking cash is usually not a good idea.
For example, let’s say you are just getting your start dividend investing. And in an extreme case, you only own one dividend stock.
In this situation, I suggest you let your dividends accumulate. Then buy other stocks with the cash. For better diversification.
Need To Rebalance Your Portfolio
Most investors allocate only a fraction to dividends stocks within their investment portfolios. Often holding cash, bonds, and real estate for diversification.
So, if and when dividend stocks start to become too large a piece of the pie. Then, it’s a good idea to stop dividend reinvestment.
And put the money in other investment alternatives.
Change Your Investment Objectives
As you get older. Or, your life circumstances change. Your investment objectives change too.
For example, dividend reinvestment as a retiree may or may not make sense. Or perhaps you desire to reduce risk and invest less in the stock market.
Either way, when your investment objectives change. It may be a good time to stop reinvesting dividends.
Are Reinvesting In Poorly Performing Assets
Not all dividend stocks are good investments. And sometimes even a solid company will fall on hard times.
Whether it is because of poor management. Or changing consumer preferences reducing demand for their products and services.
Regardless, never continue to automatically reinvest dividends into a sub-par dividend stock.
Your goal is to find the best dividend stocks. And keep a close eye on them.
For this, I use the Simply Investing Report and Analysis Platform.
Simply Investing covers hundreds of the best dividend stocks. And lets you know the best times to buy them.
Let’s keep going. As we continue to prod and probe the question of the day…
Should you reinvest your dividends?
And I say not if you are lucky enough to be in the next situation…
Have Better Investment Alternatives
Sometimes you can put your cash from dividends to better use.
For example, maybe you own and run a profitable business. And it needs investment capital to grow.
Or, perhaps you have a real estate portfolio. That earns a 15% to 20% return on investment as you add more rental properties to your holdings.
Thus, when you have better alternative investments. Congratulations!
Take your dividends in cash. And invest them in more profitable opportunities. If and when you have them.
Do Not Have Other Funds To Pay The Taxes Due
When you buy and hold your dividend stocks in a taxable account. In most (but not all) circumstances, income taxes will be due on your dividend income.
Even when you are reinvesting all dividends.
When this is the case, you need funds from another source to pay your tax liability. Whether you have some cash sitting idle that you can use. Or, you can tap some of the earnings from your job.
Of course, you can buy and hold your dividend stocks in a Roth IRA (individual retirement account). And under current law, taxes will never be due on your dividends.
I don’t know your tax situation. So, I can’t say anything for certain on this point.
Other than just being prepared to pay your tax bill from other sources. When you choose to reinvest your dividends.
As a result, if you don’t have the excess funds. Don’t reinvest dividends.
Have A Short Investment Horizon
Investing in dividend stocks can be risky. Because even dividend stocks go down. And sometimes stay down for a long time.
So, never reinvest dividends if you need the money in the short term. For example in the next one to two years.
Because you may incur losses on your investments. Right when you need the cash. And must sell stock at a loss to get the money you need.
When this is the case, it is better to take dividends in cash rather than reinvest them.
Want To Time The Market
On one hand, reinvesting dividends works well for anyone that likes to dollar cost average into their dividend stock positions.
On the other hand, if you want to time the market. Meaning investing when you think stocks are going to rise. And selling when you think stocks will fall.
Then reinvesting dividends is a bad idea.
Full disclosure. I’m not a market timer. And do not recommend the strategy.
Believe The Stock Market Is Going To Crash
Similarly, if you are worried about a stock market crash. That will wipe out a big chunk of your investment value.
Then it’s probably a good idea to tell your stock broker to pay your dividends in cash. Wait for a market correction. Then resume your dividend reinvestment program if and when it makes sense.
Last but not least, should you reinvest dividends? Not when this next point is the case…
Need The Cash
I saved the most obvious reason to not reinvest dividends for the end.
Because when you need the cash your dividend stocks provide. Whether it be for a long-awaited retirement from work. Desire to use dividends to partially fund living expenses. For paying off your credit cards. Or, in the event, that a financial emergency arises.
Then, don’t reinvest dividends. By all means, take your dividends in cash. Just make sure you spend the money wisely.
Okay. That wraps up my top 20 tips for deciding whether or not to reinvest dividends.
So, allow me to close with a few parting thoughts…
Should You Reinvest Dividends Or Take Cash?
When you get right down to it, dividend investing is a good way to achieve your financial goals over time.
And reinvesting your dividends is a powerful technique for compounding your money and wealth more quickly.
On the other hand, dividend reinvestment is not always the right choice for every investor. Or, for everyone’s financial situation.
So, carefully consider today’s 20 tips for deciding to reinvest dividends or not. And make the best decision about dividend reinvestment that meets your specific needs.
Thanks for reading! I hope you found this article helpful. If yes, you may like some of our other…
Tips And Tools For Dividend Investors
Author Bio: Tom Scott founded the consulting and coaching firm Dividends Diversify, LLC. He leverages his expertise and decades of experience in goal setting, relocation assistance, and investing for long-term wealth to help clients reach their full potential.