Glossary
DRIP (Dividend Reinvestment Plan)
A program that automatically uses cash dividends to buy more shares of the same stock or fund, often in fractions.
A DRIP, short for dividend reinvestment plan, takes the cash dividends a stock or fund pays and immediately uses them to buy more of the same holding instead of sending the cash to you. Because most brokers now reinvest in fractional shares, every cent goes back to work, and the extra shares earn dividends of their own next time.
Two ways to DRIP
- Broker DRIPs. Most US brokerages let you switch on reinvestment for each holding or for the whole account, at no cost. Shares are bought on or soon after the payment date at the market price.
- Company plans. Some companies, through a transfer agent, run their own plans. A few sell the shares at a small discount or let holders add cash directly, though these programs are less common than they once were.
Tax and record-keeping
In a taxable US account, reinvested dividends are still taxable in the year they are paid, even though you never touched the cash. Each reinvestment also creates a new tax lot with its own Cost Basis. Your broker generally tracks this, but if you later sell, those lots raise your basis and reduce the taxable gain; forgetting them means paying tax twice. Inside an IRA or 401(k), none of this matters until withdrawal.
When it may not fit
A DRIP puts more money into whatever you already own, so a position can grow beyond your target weight. Investors who live on their dividends, or who prefer to direct the cash to other holdings when Rebalancing, often take the cash instead.