How dividend investing compounds
Dividends are cash a company pays shareholders, usually quarterly. Three forces grow that income over time: the dividend per share rising each year, your share price appreciating, and, if you reinvest, each payment buying more shares that themselves pay dividends. That last loop, a dividend reinvestment plan or DRIP, is where the real compounding happens.
DRIP vs taking the cash
Reinvesting dividends instead of spending them dramatically increases long-run value because your share count keeps growing, and a larger share count pays larger dividends, which buy still more shares. Toggle the dividend setting above to see the gap between reinvesting and taking the income as cash on the same starting portfolio.
Assumptions and limits
- This is a smooth projection; real dividends can be cut, and prices move unevenly.
- It ignores taxes. In a taxable account, dividends are taxed in the year they are paid, even if reinvested.
- A very high yield paired with high growth is rare; sustainable dividend growers usually yield less up front.
How to calculate dividend yield
Dividend yield is the annual dividend per share divided by the share price, shown as a percent. A stock paying $2 a year at a $50 price yields 4%. Yield moves opposite to price, so an unusually high yield can signal a falling stock rather than a bargain. Adjust the yield field above to see the income any yield throws off on your balance.
How dividends are taxed
Qualified dividends, which cover most US stocks you have held long enough, are taxed at the lower long-term capital gains rates of 0%, 15%, or 20%. Ordinary (nonqualified) dividends are taxed at your normal income rate. Dividends earned inside an IRA or 401(k) are not taxed each year, which is why reinvesting in a retirement account compounds faster than in a taxable brokerage.