Buying Stocks: Dividend Reinvestment Plans (DRIPs)

Through long-term stock market investing, you can accumulate hundreds of thousands, if not, millions of dollars in wealth over the long-term. For example, a $500 monthly investment that earns a 10 percent annual return grows to $1,139,663 over 30 years. A 10 percent return is possible, because the S&P 500 stock market index has averaged an 11 percent return since its 1957 inception. As a smaller investor, you may buy stocks through dividend reinvestment plans (DRIPs) to bypass brokerage commissions and take advantage of these compound returns.

Buy Stocks Directly Through DRIPs

Dividend reinvestment plans allow you to purchase shares of stock directly from a publicly-traded corporation. You would therefore be saving money on expensive trading commissions and adviser fees. To purchase shares, you will either mail checks into the plan administrator or agree to an automatic bank draft that goes toward buying shares each month. DRIPs are especially attractive for smaller investors, because they allow you to buy partial shares for as little as $50 per month.

Larger corporations, such as Wal-Mart, General Electric, Exxon, and Nike offer DRIP plans. As a beginning investor, you should look to buy stock within your favorite company -- in order to stay committed to the program. For example, as a road geek, you would be excited to own shares in ExxonMobil.

Corporations provide the paperwork to enroll within their DRIP plans online, through pdf files. To find this information, you would visit the corporation's official website and click on its investor relations tab. If you need to brainstorm for investor ideas, Computershare is the leading plan administrator and lists corporations that offer DRIPs on its website.

Dividend Reinvestment Plans and Dividends

Through your dividend reinvestment plan, you may opt to either have the dividends deposited into you bank account, or reinvested back into the corporation to buy more shares. To best take advantage of long-term compounding and dividend increases, it is recommended that you reinvest dividends. Be advised that you will generally still be responsible for paying taxes on dividend income, whether DRIP dividends are reinvested, or not. As of 2010, qualified dividends are either tax-free or taxed at 15 percent.

Dividend Reinvestment Plans and Risks

A dividend reinvestment plan may only allow you to trade shares of stock one time per week -- at an average share price for that week. Therefore, you would be unable to move quickly and exploit stock market volatility. For example, it is more difficult to load up on shares during a stock market crash -- through your DRIP account. If you plan on trading frequently, it is best that you open up an online trading account at either Scottrade or E-Trade.

Beyond trading, opening up only one DRIP account does not allow for diversification. All businesses are subject to financial risks, and your entire investment would collapse toward zero amid corporate bankruptcy. The Securities and Exchange Commission (SEC) recommends mutual funds to help you diversify. One mutual fund share carries claims over a large asset pool that owns hundreds of different stocks. Through diversification, it is more likely that at least one part of your portfolio is making money at all times.

Buying Stocks - Dividend Reinvestment Plans, Sources:

Computershare: Company List

SEC: Direct Investment Plans - Buying Stock Directly From the Company

SEC: Beginners' Guide to Asset Allocation, Diversification, and Rebalancing