By Chris Walker,
, October 2007
There are about 100 companies listed on the Australian Stock Exchange that offer dividend reinvestment plans (DRPs), according to InvestorWeb. It's voluntary to participate in these plans, but if you elect to, you'll receive additional shares in the company instead of, and to the value of, the cash dividend you would otherwise receive.
There are pros and cons to DRPs, and whether they're the right choice for you can often come down to your own particular circumstances, objectives and preferences.
One of the appealing features of DRPs is that in many cases, though certainly not all, the additional shares are made available to you at a discount to the market price.
Usually this discount is two percent to 2.5 percent, but sometimes can be five percent and occasionally as much as 10 percent.
Dean Bornor, technical services manager at Count Wealth Accountants, says where a company's DRP share discount is high, electing to be part of it could "certainly be worthwhile". But he says it pays to keep in mind that companies offering DRPs can amend, cancel (or reinstitute) them at any time, and that this is common, so anyone contemplating investing in a company on the basis of its attractive DRP discount should think carefully about it.
James Proctor, technical services manager at ipac securities, says dividend reinvestment plans have the additional benefit of being an easy way to invest and build up your share holdings, with no brokerage payable on the shares received.
Proctor describes DRPs as being a "set and forget" investment strategy that puts in place a type of dollar-cost averaging … whereby you build up your shareholding steadily over time at about the average market price.
Financial planner Robert Kiddell from McMillan Financial Planning in Traralgon, Victoria, agrees that these advantages can be quite appealing, but adds that he tends to recommend against DRPs for his clients, unless they are methodical record keepers.
"The downside is keeping track of capital gains tax, which can get very complicated with dividend reinvestment plans," Kiddell says.
"Let's say you were holding a particular share with a DRP for 20 years, paying two dividends a year in other words allocating your new shares twice a year. That's 40 separate transactions you would need to keep tabs on for capital gains tax purposes.
"Now, let's say you held 15 stocks, not one, and were receiving shares through DRPs for each over 20 years: that's an enormous number of transactions (600) you would need to keep track of, and which would require some serious CGT calculations on selling."
While he would not recommend anyone make investments based just on tax considerations, ipac's Proctor nevertheless says that you would not want to be paying your accountant a small fortune to keep up with the capital gains tax obligations arising from the DRPs you participate in.
Another question prospective DRP investors need to ask themselves is: can they afford to participate in a dividend reinvestment plan or do they need the (cash) dividends to live on, or for some other purpose such as paying off a margin loan?
Count Wealth's Bornor says that as an alternative to participating in DRPs, Count often prefers to see clients build up their cash reserves, through taking cash dividends, so that they are in a position to buy into a particular share if it's showing good value.
"Also, by choosing which share to buy rather than just being allocated some through a dividend reinvestment plan, you can improve your overall level of diversification," he says.
When you buy shares in a company you will automatically be sent an application form for its DRP, if one exists.
The default position, that is if you don't return the form, is that you've opted out of the plan. For many investors, that seems to be an entirely sensible thing to do.
For the complete story see Money Magazine's October 2007 issue. Subscribe now.