Advantages & disadvantages of dividends

Written by mark kennan
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Advantages & disadvantages of dividends
Stock dividends can help increase your wealth. (investment image by Kit Wai Chan from Fotolia.com)

Dividends are payments that corporations make to their shareholders. These payments can be in the form of money, stock or other payments. Dividends can either be paid be on a regular basis, such as quarterly, or they can be paid at a time of the company's choosing. Paying dividends offers advantages and disadvantages.

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Shows Company's Stability

Investors look at a consistent dividend payout as a sign of the company's stability. When a company has been able to pay the same dividend over a long period of time, it gives investors more confidence when investing in that company. When a company that has paid dividends consistently fails to pay a dividend, the share price typically falls, according to Investopedia. In addition, when a company that has not paid dividends before begins paying dividends, the company usually sees a boost in its stock price.

Investors Realize Gains

When companies pay dividends, investors reap the benefits of owning a company without having to sell the stock. For companies that do not pay dividends, the only way for investors to realise a gain is through selling their ownership of the company. In addition, if a company pays consistent dividends, investors can still reap some benefit from owning the shares, even if the company's stock price falls. For example, if the company pays £1.30 per share and you own 100 shares, you will receive £130 of income even if the price per share goes down.

Investors Pay Taxes

When corporations issue dividends, the investor must include that gain on his tax returns as taxable income for that year. In addition, dividends are taxed at a higher rate than capital gains, according to Investopedia. Instead, investors usually prefer companies that reinvest the dividends so the company grows and the share price increases. Since investors do not pay taxes on stock price increases until the stock is sold, the money grows tax-deferred and the capital gains tax is lower than the regular income tax.

Limits Company Growth

When a company pays dividends, it take money out of the company coffers and gives it to investors, meaning that the company has less money to grow the business. This is especially true of start-up companies that need as much capital as possible. According to the Securities and Exchange Commission, some companies decide not to pay dividends but instead to put their profits back into the company to increase production, hire more employees or spend more money on research and development. However, mature companies that have minimal expansion possibilities may wish to pay dividends to shareholders rather than have the money sit in the company coffers and not give investors the opportunity to invest it elsewhere.

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