May 17 2015

Top 5 Advantages of Dividend Investing

Investing for dividend income is one way to utilize your investing dollar. As with any form of investing, dividend investing has its positive and negative qualities, because there is no such thing as a perfect investment and there are always trade offs involved. All investors have to find their comfort level of risk versus safety, focus versus diversification, and making the most of one’s available capital.

There’s a lot to like about dividend investing, as it has certain features that are attractive to investors. Let’s explore the qualities of dividend investing that investors like…

1. Passive Income

This is what’s it’s all about. With dividend income, you have a source of cash flow that requires almost zero expenditure of your time. Of course, you will have to spend some upfront time researching stocks and creating a watch list. But the moment you buy a stock, your work is pretty much done. Dividends will start coming in on a quarterly or monthly basis with absolutely no effort on your part. Still, it’s not totally “set it and forget it” so you will need to regularly check in on your portfolio just to make sure your dividend money machine is humming along smoothly. If it’s not, then you adjust and keep moving forward.

When times are good, reinvest 100% of your dividend income and put the magic of compounding to work for you. When times aren’t so good and the situation demands it, you can tap your dividend income stream to pay necessary expenses. Dividend income is also an excellent complement to your emergency cash fund.

2. Predictability
Another great feature is having an income stream that’s as predictable as the moon and the stars. When you buy a stock with a good history of regular and consistent payouts, then you’re getting a cash flow machine that’s very predictable and runs like clockwork. Avoid stocks with a history of dividend cuts (yikes!) or erratic payout amounts or schedules, even if the stock does have a good yield or other positive qualities.

3. Control of Taxation
Dividend income comes in three flavors: ordinary income, qualified, and tax-free. Ordinary dividend income is taxed the same as earned (paycheck) income, with the rate of taxation depending on your income bracket. Qualified dividend income is currently taxed at 15% (or less if you’re in a lower income bracket). Tax-free dividend income (usually from funds that specialize in local, state, or Federal bonds) is just that, tax free. When you buy into such a  fund, in essence you  become a voluntary tax payer and are rewarded accordingly by not being taxed on the dividends. The downside to tax free dividends is that their yields are lower than taxable dividends.

Unlike earned income, dividend income is exempt from Social Security and MediCare taxes. That’s another perk when the tax system favors investment income over earned income. Some people may think a dollar is a dollar, but intelligent investors know that a dollar of investment income is NOT the same as a dollar of earned income. Investment income is better.

Finally, while technically not a tax, typical earned income has related costs such as time/money spent commuting to and from work, buying coffee, lunch, or snacks at the office cafeteria, work clothes, etc. Dividend income isn’t burdened with such related costs.

4. Ease of Entry
Getting into dividend investing is easy. Open a brokerage account, transfer money from your bank to your new account, research which dividend stocks are best for your needs, buy the stocks, and start collecting dividends every month or quarter. Pretty simple and easy, no?

Dividend investing isn’t much more complex than capital gains investing, and it’s much simpler than other income systems such as an online business or more arcane investments such as annuities and options. Dividend investing isn’t very expensive when starting out, so you don’t need to begin with tens of thousands of dollars (but it does help!!).

A $100 initial investment isn’t going to get you much of a return even if the yield is great, but it is a humble beginning at least.

5. Ease of Exit
Investments such as CDs, real estate, and P2P lending can tie up your initial investment money and so liquidity is poor. But stocks can be sold immediately, which makes stocks almost as liquid as cash. However, because dividend paying stocks are a true asset, you should only sell them as a last resort. If you absolutely MUST come up with a large amount of cash quickly (for such things as medical bills, a down payment on that great house deal, avoiding foreclosure, pay off gambling debts or else your kneecaps get busted, etc.), then that cash is just a few mouse clicks away when selling off dividend stocks.

(Bonus) Empowerment
With dividend income, you’re not 100% dependent on your employer’s paycheck and so you will feel more confident and self-assured. Not only because of your improved ability to better handle a financial problem (being laid off, having unexpected expenses, etc.), but also because you have more options and greater financial flexibility. With a source of income that’s completely separate from your time and location, you’re closer to achieving financial independence and freedom. That’s REAL empowerment, and not the sham “empowerment” that corporate America prattles about.

These are, as I see them, the best qualities of dividend investing. But, like everything in life, there are trade-offs and dividend investing has its share of limitations and disadvantages as well. In my next post, I’ll explore the dark side of dividend investing.



Image Credits:
post: soundfromwayout (flickr.com)
#1: Laura D’Alessandro (flickr.com)
#2: albertdiones (Pixabay.com)
#3: 401(K) 2012 (flickr.com)
#4: tedgresham997 (Pixabay.com)
#5: MoutainLan (Pixabay.com)
Bonus: bycfotografem (Pixabay.com)