Guide to Dividends and Income Investing

What are dividends?

Dividends are payments made by a company from its profits to its shareholders. They are generally paid either twice a year (in an interim and final dividend) or quarterly. Some companies will occasionally make one off payments known as special dividends. Dividend stocks are sought after by income investors and will play a part in a well-diversified stock portfolio. To receive a dividend, you must buy shares in the company concerned prior to, and hold for at least part of, the ex-dividend date; if you were to buy shares on the day itself, you would not be eligible for the dividend.

What happens on the ex-dividend date?

On the ex-dividend date, the shares will typically fall by the amount of the dividend. If you hold shares in a company and do not realise it's the ex-dividend date this can obviously be quite alarming. It makes sense, however, as new buyers of shares in the company aren't eligible to receive the dividend essentially making the company worth less.

What about if I have a spread bet or CFD position open on a company which goes ex-dividend?

If you have a position with a spread betting or CFD provider when a company goes ex-dividend they will typically credit (if you are long) or debit (if you are short) the amount of the dividend to compensate for the fall in share price.

What about tax on dividends and dividend tax rates?

Anyone who receives dividends from UK companies have 10% taken off as taxation before the dividend is paid. Unfortunately, there's no way around this. However, higher rate taxpayers can avoid losing a further 25% to tax by holding the shares in a Self Invested Personal Pension (SIPP) or ISA.

What about reinvesting my dividend payments?

One of the most powerful ways to grow an investment is by reinvesting dividends. Online stockbrokers have different ways to do this, which vary according to the commission and minimum charge involved. If you hold actual share certificates (as opposed to shares in a nominee account), the majority of FTSE 100 companies allow you to participate in a scheme known as the Dividend Reinvestment Plan (DRIP). Furthermore, some FTSE companies will also operate a Scrip dividend scheme which, from the point of view of the shareholder, is very similar and leads to you receiving shares in lieu of a cash payment.

This company has a really high yield, what's the catch?

A high yield may be the result of a company's share price collapsing, perhaps due to be a profit warning. As a company's share price falls, the yield goes up. If there has been a dramatic share price decline resulting in a particularly eyecatching yield, this typically reflects poorly on the prospects of a company and would cast doubt on them being able to maintain the payout.