One crucial element of your investing journey is understanding dividends and their role in building wealth. These payments can help investors accumulate their overall worth while providing opportunities to increase cash gains or reinvest in financial vehicles. With a few different ways to maximize the advantages of dividends, we’re taking a closer look at this monetary sum and how it can benefit investors.
A dividend is your portion of a company's profits distributed to shareholders as a reward for investing in that company. For example, if you own 100 shares of ABC Company, and they pay a $1 dividend per share, you'll receive $100 in dividends. It's like a small, regular paycheck coming from your investments.
Dividends can also be associated with certain types of life insurance policies. It’s important to understand that these dividends are different in nature. Dividends from equity investments are typically paid from a company’s earnings. In contrast, dividends on participating whole life insurance policies are generally considered a return of premium and are based on the insurer’s experience, which may include investment results, mortality experience, expenses, and other factors. Dividends are not guaranteed.
Not all stocks pay dividends. So-called Growth stocks do not necessarily pay dividends, for example. However, those paying out dividends can offer features to help you build wealth over time.
When you buy a stock, you’re purchasing the chance to benefit from the growth in the underlying company. If the company performs well, the stock price likely rises. If it does poorly, the value may fall. However, dividend-producing investments offer another way for investors to make money. When dividends are included as part of a stock purchase, dividends may provide income to investors, although payments can vary and are not guaranteed.
Dividend-paying stocks are often issued by established companies, which some investors view as more stable than smaller, early-stage companies. But dividends can protect you from risk in another way. The dividend itself can serve as a cushion in down markets, softening the impact of falling stock prices.
There are two ways to receive dividends from stocks and mutual funds. The simplest is to take your dividends as cash. If you choose this option, you’ll get a check every quarter for the amount you were paid in dividends. This can provide a stream of investment income, although dividend payments can change over time.
However, you can also receive dividends as additional shares. This allows you to accumulate wealth without investing any more cash. The shares you buy with dividend payments will pay dividends in future periods, so both your income stream and your total holdings will increase over time.
It’s important to remember that whether you receive dividends as cash or as shares of stock, you will have to pay taxes on them every year you receive them.
You can invest directly in individual dividend-paying stocks through dividend reinvestment programs or DRIPs. These programs are sponsored by the issuing company and generally charge no sales commissions. Some even give investors a small discount on their share purchases.
You can also invest in dividend-producing assets through mutual funds. These funds pool money from multiple investors to buy a diversified portfolio of stocks, bonds, or other securities. Income earned from these investments is redistributed to shareholders as dividends. The nature of these dividends may be taxable or tax exempt depending on the fund. Some funds are focused exclusively or primarily on dividend-paying stocks. They are often called dividend income or equity income funds. Investments in equities—whether dividend-paying stocks or Growth stocks—involve market risk. It’s possible to lose money, and stocks have been volatile historically.
But dividends aren't exclusive to stocks or funds; they can also be found in whole life insurance policies.
Participating whole life insurance policies issued by mutual insurance companies have a primary purpose of providing a death benefit, but may also supplement an overall financial strategy. Whole life cash value insurance may be eligible to receive dividends which provide an opportunity for tax-deferred cash value growth, but are not guaranteed and are declared annually by the insurer’s board of directors based on factors such as investment results, expenses, and mortality experience. When dividends are paid, policy owners have several options. Dividends may be taken in cash, used to purchase paid-up additional insurance that can increase the policy’s death benefit and cash value, or applied toward policy premiums.
While dividends are commonly associated with stocks and mutual funds, they can also be a feature of participating whole life insurance policies. Because these products function differently, the factors used to evaluate them can vary. Understanding these distinctions can help you make more informed decisions when considering how dividend-producing products may fit into your overall financial strategy.
For Stocks and Mutual Funds:
Company health: Financially sound companies and funds with a good long-term track record are more likely to be able to continue to pay dividends, so you’ll want to focus on high-quality issuers. The same goes for insurance companies. You should thoroughly investigate any insurance companies with any below A ratings before investing.
Dividend history: Check the stock, fund, or policy history of dividend payments. Companies with a history of stable or growing dividends are often best.
Dividend yield: The dividend yield is the annual dividend income divided by the investment's current market price. A higher yield can mean more significant returns, but it may also signal higher risk.
Market Risk: Investments in equities are subject to market fluctuations, and it is possible to lose money.
For Stocks and Mutual Funds:
Dividend Eligibility: Only participating whole life policies issued by mutual insurance companies may be eligible to receive dividends. Dividends are not guaranteed.
Insurer Financial Strength: The financial strength and claims-paying ability of the issuing insurance company are important considerations.
Dividend Determination: Dividends are based on the insurer’s experience, including investment results, mortality experience, expenses, and other factors.
Policy Structure and Options: How dividends are used—such as purchasing paid-up additional insurance, reducing premiums, or taking cash—can affect the policy’s values over time.
Primary Purpose: Whole life insurance is designed primarily to provide a death benefit, with cash value accumulation as a secondary feature.
Dividend-paying - products - such as stocks, mutual funds and participating whole life insurance policies -- can each play a role in a long-term financial strategy. Because these products differ in structure and purpose, it’s important to consider how each may align with your individual goals and objectives. Talk to your financial professional to find out how these financial products can work for you and which could best meet your unique needs and objectives.
This article is provided for general informational purposes only. Neither New York Life Insurance Company, nor its agents, provides tax, legal, or accounting advice. Please consult your own tax, legal, or accounting professional before making any decisions.
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