What is a DRIP?

Q: What is a DRIP?

A: A DRIP, or Dividend Reinvestment Plan, automatically reinvests the cash dividends¹ you earn on your stocks or exchange-traded fund investments into more shares² or units of your investment.

With a brokerage-operated DRIP, your dividend income will automatically be used to purchase additional securities on your behalf when a dividend is paid out. In most cases, only whole shares or units will be purchased. That means that if you receive $94 in dividends, and a share costs $92 to purchase, you'd get one full share and the remaining $2 would be deposited into your account in cash.

Most dividend-paying securities listed in the S&P/TSX composite index and the S&P 500 are eligible for a DRIP. A detailed quote will specify if a security is DRIP-eligible and an updated list of eligible securities can be found online.

On the tax front (for investments held in a taxable account), dividends are taxable whether they're part of a DRIP or not.

Pros

Cost Savings — You don't pay fees or commissions when shares are purchased on your behalf under a DRIP.

Open to All — As long as a security is DRIP-eligible, any security holder can elect to participate in a DRIP. A list of DRIP-eligible securities can be found here.

Auto-Pilot Investing — Instead of waiting for cash to accumulate in your account and making an investment decision, DRIPs automatically and immediately put your earnings to work.

Encourages a long-term view — The longer you keep the shares, the more shares you acquire and the more dividends you can generate. It basically allows for an automatic long-term buy-and-hold strategy.

Dollar-cost averaging — Since your dividend income is being used to acquire additional shares regularly throughout business cycles, you're taking advantage of dollar-cost averaging without putting new money in.

Cons

Eligibility — Not all securities are eligible for a DRIP. Find DRIP-eligible securities here.

Security Concentration Risk — Over the long term, you could end up with more exposure to a certain company or market sector than you planned as new shares accumulate in your account. Also, in a rising market, the dollar-cost averaging "pro" mentioned above means you may be paying more for new shares at times than you would choose to otherwise. (But the goal, of course, is that the shares purchased on the downturns make up for that.)

Same, Same — Since DRIPs automatically reinvest into the equity or ETF they're related to, DRIPs limit your ability to invest accumulated earnings into shares or units of other investments that you may think are better priced.

Straggler Shares — If you're aiming to sell your entire holding in a dividend-paying security and have a DRIP in place, it's important to pay attention to that security's ex-dividend date. If you sell on the ex-date or later, you would still be entitled to the next dividend. That means you could end up holding a few straggler securities of an investment you had planned to sell.

Keep in Mind...

1) With the exception of Royal Circle^® members, a DRIP will apply to all dividend-paying securities in your account. Unique DRIPs, which allow clients to turn on DRIPs for specific securities, are available to Royal Circle members.

2) Dividends can allow you to accumulate income, so if you're looking to save for your next investment or build up cash for other uses, a DRIP may not be the right choice for you.

To find out more about setting up a DRIP, check out Automated Account Services.

RBC Direct Investing clients can sign up for a DRIP (or stop one) by calling 1-800-769-2560 or by signing into your account and sending a secure message from the Message Centre.