Why are some people against stocks that pay out dividends?

[RetireBy90]

While I seem to agree with comments of free2020, my take is these are the rules of the game. While I may think company A could invest those funds for growth if they pay a dividend then you know before you buy. If you want a company that doesn’t pay dividends you can buy a Tesla but don’t be surprised or upset when you buy AT&T and they pay a dividend. Many mature companies or industries generate more cash flow than they can use so they return some to the owners. Think Apple, they generate so much cash each year and many will say it is better to return excess to the owners than sitting in the company savings account. I can put the money to good use if they can’t profitability invest it all. IMHO

 

[Car-Guy]

I have played the dividen game in the past... But companies like GE and some others I've owned made me rethink it...

 

[triangle]

I think there are 2 primary reasons that have already been said in one way or the other:

1) People who are trying to control their income for tax purposes. A stock in an after tax account that does not pay a dividend is roughly equivalent to a stock which pays a dividend in a traditional IRA, as both are now growing tax deferred. Then there are income cliffs in receiving ACA subsidies and for the recent covid stimulus checks.

2) The perception that a company that does not pay a dividend can grow its business faster and therefore be more valuable in the future. This is more generally true with young companies/industries, but is not some hard rule of investing. If you have ever listened to Cathie Wood of Ark Investing she will sometimes openly disparage mature companies paying a dividend. On example (not sure she actually used this one) would be GM & Ford paying a dividend instead of better investing in future wave of electric cars which is allowing companies like Telsa to lap them. I believe GM & F have stopped their dividends but mostly because of the covid pandemic.

 

[ncbill]

I think there are 2 primary reasons that have already been said in one way or the other:

1) People who are trying to control their income for tax purposes. A stock in an after tax account that does not pay a dividend is roughly equivalent to a stock which pays a dividend in a traditional IRA, as both are now growing tax deferred. Then there are income cliffs in receiving ACA subsidies and for the recent covid stimulus checks.

2) The perception that a company that does not pay a dividend can grow its business faster and therefore be more valuable in the future. This is more generally true with young companies/industries, but is not some hard rule of investing. If you have ever listened to Cathie Wood of Ark Investing she will sometimes openly disparage mature companies paying a dividend. On example (not sure she actually used this one) would be GM & Ford paying a dividend instead of better investing in future wave of electric cars which is allowing companies like Telsa to lap them. I believe GM & F have stopped their dividends but mostly because of the covid pandemic.

Return is also less whenever a passive dividend strategy is backtested vs passive total return strategy...i.e. index funds for both approaches.

Non-passive dividend strategy (e.g. "dividend aristocrats") is also riskier...people often mistakenly focus on absolute return while disregarding the higher risk of a non-market portfolio.

 

[FIREarly]

People who invest in TSLA do not invest in dividends and they will have to pay taxes when they sell the stocks.

 

[Zathras]

People who invest in TSLA do not invest in dividends and they will have to pay taxes when they sell the stocks.

Too broad a brush.
I invest in TSLA and invest in Dividends.

Dividends have advantages and disadvantages. I think the biggest blowback comes if someone indicates dividends are perfect (they aren’t).
Likewise, dividend supporters will push back if someone indicates dividends are the worst thing ever (they aren’t).

Personally I don’t like dividend funds. I prefer individual dividend paying stocks.
I also don’t chase yield, that is a very bad choice IMO.

 

[disneysteve]

Personally I don’t like dividend funds. I prefer individual dividend paying stocks.

Pros and cons to each for sure.


With individual stocks, you have more control over taxation. You can't control the dividends themselves, but you can control capital gains by deciding when or if to sell shares.


With funds, there's not a great deal of research involved. You don't have to delve into the finances of individual companies to identify good prospects. You just find a good fund with a decent yield and a good track record and you're good to go. But then you do have those annual capital gains distributions to deal with.


Personally, we have both individual dividend-paying stocks and a stake in a high dividend yield fund.

 

[AbbA]

I get a gist on the thread from people who are against (?) dividends that the market is *always* going up and therefore they'll always be accommodated to sell at a gain so they can feel good about themselves. I wouldn't say it's true.

Also, if you've invested a good chunk in a total market or SP500 index fund, you'd receive dividends on a quarterly basis. Do you send that money back and tell you don't want them?

 

[ERD50]

I get a gist on the thread from people who are against (?) dividends that the market is *always* going up and therefore they'll always be accommodated to sell at a gain so they can feel good about themselves. I wouldn't say it's true.

Also, if you've invested a good chunk in a total market or SP500 index fund, you'd receive dividends on a quarterly basis. Do you send that money back and tell you don't want them?

You should take your "gist" back and get a refund. That's as bad as the recent post that claimed "everyone thinks FIRECalc predicts the future".

I invest in the broad market (VTI for example). That includes a few thousand stocks independent of whether they pay dividends or not. I don't want to pick a sector of only div payers, or only not div payers. Just take 'em all.

I'd prefer it if the stocks in the broad market retained their div payouts on their books so that I can better control my tax situation. But it doesn't, so I take it as it comes.

-ERD50

 

[RetireBy90]

I get a gist on the thread from people who are against (?) dividends that the market is *always* going up and therefore they'll always be accommodated to sell at a gain so they can feel good about themselves. I wouldn't say it's true.

Also, if you've invested a good chunk in a total market or SP500 index fund, you'd receive dividends on a quarterly basis. Do you send that money back and tell you don't want them?

I guess the other side of this is do you send back your cap gains and tell them you don't want it ?

Anyone that doesn't want the dividends or cap gains can donate them and generate a offsetting tax obligation.

 

[ncbill]

It's less of a concern now with the 8.5% maximum, but pre-Medicare retirees also often needed to "manage" their mAGI to get ACA subsidies...so they didn't necessarily want dividend income.

 

[LarryMelman]

Because I'd rather pay 12% than 18%? and if a few hundred extra bucks in dividends push you over a bracket, that's a case of penny wise pound foolish.

That's now how dividend taxation works. Most people do not seem to get it. Here is how I try to explain it to people. This is simplified to the extreme, standard deduction only, etc.

Imagine that you have a glass cylinder with lines drawn on one side representing the tax brackets on ordinary income (salary, interest, pensions, Roth conversions, distributions from deductible traditional IRAs, etc. Really, everything EXCEPT qualified dividends and long-term cap gains.). For a single in 2020, income is not taxed below the standard deduction amount of $12K. Ordinary income between the lines for $12K and $22K is taxed at 10%. Between $22K to $52K, 12%. Between $52K to $97K, 22%. Etc. Pour all your ordinary income into the cylinder, let's imagine that it's red sand. Add up the taxes on that income. That is the tax on your ordinary income and nothing you do can change it. Every incremental dollar of ordinary income is taxes at its level in the cylinder.

Now turn the cylinder around. On the other side are a second set of lines for the tax brackets on qualified income (qualified dividends and long-term cap gains). For a single in 2020, the rates are 0% below $52K, and 15% above $52K. (Also a 20% CG rate up near half-a-mil.) Pour your qualified income into the cylinder with a blue sand. It sits ON TOP OF your ordinary income. Calculate the tax on the qualified income, based on where the blue sand sits in the cylinder.

Your total tax is the tax on the red sand using the ordinary bracket rates, plus the tax on the blue sand using the qualified rates. The dividend income CANNOT affect the tax on the ordinary income. Really, it's the other way around since again the blue (qualified) sand sits on top of the red (ordinary) sand.

If that analogy makes sense, I hope you can see that dividends cannot "push you over a bracket". That's just NOT how it works.

I do not mean to argue for or against dividends, although I very very strongly believe in them as the foundation of my retirement income. Understanding how taxes work is crucial.

 

[ERD50]

...

If that analogy makes sense, I hope you can see that dividends cannot "push you over a bracket". That's just NOT how it works.

I do not mean to argue for or against dividends, although I very very strongly believe in them as the foundation of my retirement income. Understanding how taxes work is crucial.

Yes, but there is still a difference. If I'm getting, say $20,000 income from qualified dividends, all $20,000 is taxed at my tax rate.

But if I sell $20,000 of long term stock, I'm only taxed on the gain, which could be anything from negative (offsetting some income), to something less than 100%, and typically much less (100% would be a cost basis of zero). If you sold $20,000 of stock that had doubled from $10,000, you only pay LTCG rate on the $10,000 gain.

-ERD50

 

[LarryMelman]

Yes, but there is still a difference. If I'm getting, say $20,000 income from qualified dividends, all $20,000 is taxed at my tax rate.

But if I sell $20,000 of long term stock, I'm only taxed on the gain, which could be anything from negative (offsetting some income), to something less than 100%, and typically much less (100% would be a cost basis of zero). If you sold $20,000 of stock that had doubled from $10,000, you only pay LTCG rate on the $10,000 gain.

-ERD50

That is of course true. However I know in my case that many of my stocks have LTCG of at least 50%. "Typically much less [than 100%]" is not so, for me. And if a stock is sold with the intention to spend the proceeds, then the income generating capability of that capital is gone forever. (As opposed to selling a stock for whatever reason and reinvesting the proceeds into something paying an even high rate of income, tax considerations aside.)

Throughout my 20's and 30's, I invested exclusively in mutual funds (both inside my 401k, and in taxable accounts). When I left my first employer and rolled the 401k money out into a self-directed IRA, I began to learn the basics of stock investing. In my late 40's, I began to ask myself what the real objective of all my investing was. Was it just to stop saving when I retired, and simply sell things off? Then I discovered the power of dividends, especially dividends with a long consistent history of dividend increases. Well I didn't really discover it, it was there all along. But instead of viewing them only as an annoyance at tax time (which they still are), I started to view them as my retirement paycheck. A paycheck that grew by over 8% even in 2020, and that's not including the effect of reinvesting them (because I'm still working) to create even more income later.

 

[ERD50]

That is of course true. However I know in my case that many of my stocks have LTCG of at least 50%. "Typically much less [than 100%]" is not so, for me. ...

Well, that's why I said "typically". Regardless, even if the gain is greater than 50%, it is still less than 100%, and that's an advantage. Paying tax on 75% (or even 90%) of a withdrawal is better than paying on 100%, period. It would be rare indeed for an investor in broad index funds to have to dig into stocks that were greater than say, 80% cap gains.

... And if a stock is sold with the intention to spend the proceeds, then the income generating capability of that capital is gone forever. ...

That's another myth of dividends. The dividend you receive is a distribution of that company's value. Whether they distribute it, or I decide to take a distribution with a sale, that money is no longer with the company, and they are no longer growing it.

The difference is, I take the distribution if/when I want, rather than on their schedule. I like the flexibility/control.

A while back, someone said that if I'm selling off X% a year, I would eventually end up with only one share of stock (assuming no splits, etc). True, but meaningless. I showed in a simple spreadsheet (or just think about it), comparing a $1,000,000 investment in two companies equal in all other ways, growing 4% a year, but one pays a 4% annual div, the other no div, but I sell off 4% a year. Yes, eventually you are down to one share - but that one share is worth $1,000,000! And obviously would split along the way.

The div payer is effectively selling off their company to pay that div. If they didn't pay the div, it would be on their books and it would be reflected in their share price.

-ERD50

 

[disneysteve]

instead of viewing them only as an annoyance at tax time (which they still are), I started to view them as my retirement paycheck.

I think this is a major factor, and it becomes even more important when the spouse who managed the finances dies and the surviving spouse is left behind.


My father died in 1992. My mother has continued to live just fine on SS, interest from bonds and CDs, and the quarterly dividend checks she gets from their stock portfolio. She hasn't had to worry about selling stocks to get the money she needs to live. She gets a regular, reasonably predictable "paycheck" every 3 months.


It is true mathematically that a 4% dividend and a 4% sell down of holdings puts you in the same place, but one is automatic and handled for you while the other requires you to decide what to sell and when. Neither one is wrong, but especially for someone not well versed in the market, the passive income stream is much more appealing and less stressful. I would not want my mother to have to be making those decisions regularly so I'm much happier that she has those checks coming quarter after quarter without her having to do a thing.


That's also a part of the appeal of mutual funds. You don't have to pick and choose what to buy and sell. It's done for you and the income is distributed automatically. It can cause some tax headaches but that's balanced by passive nature of the investment and income.

 

[LarryMelman]

This argument goes around and around, on forum after forum, and nothing is ever resolved. I don't play that game, and I won't take your bait about dividends being a "myth".

You are right, if a hypothetical stock pays dividend that grows 10% per year, you surely can sell off 10% of your stock every year and the dividend income should stay steady.

I did not become aware of what growing dividends can do, until CD rates went below 2% in about 2012. I had been following the "CD ladder" path to that point. But now I already have enough taxable dividend income to more than cover my needs, without any projected need to sell any shares, without needing my IRA's or SS. It has surely worked for me.

 

[triangle]

I also think "myth" is the wrong term. As dividends vs retained cash are nearly equivalent if one is trying to value a stock. As noted, the advantage of dividends is to provide some regular cash stream so that an income oriented investor does not need to think of which securities to sell, how many shares to sell, or generally worry about market timing. They just sit back and wait for the income to be deposited. In past years it cost $ to sell a stock and thankfully that barrier is largely gone. But there is always the need to track cost basis and report in 1040 tax filings. Dividend income is nearly effortless.

The more important issue is the business and industry a company is operating in. It makes less sense for a young company in a rapidly expanding market to pay a dividend. While it makes more sense for a mature company in a mature business to pay one. A mature company with excess cash should return it to shareholders versus going after bad/expensive acquisitions which destroy shareholder value. A growing company should use their earning to accelerate their growth so that they become even more valuable.

 

[Closet_Gamer]

I have both growth and dividends in my portfolio with a slight dividend tilt.

1) Diversification across tax policies

Tax policies are not static and one could argue that taxes on various investment income (dividends and cap gains) will only go up from here. I believe there is benefit to "washing some of the gain" through the tax system now and stashing it back in at a higher cost basis. I may be wrong.

2) Dividends focus the corporate mind

I understand that companies can seek higher returns on investments rather than handing the money back to shareholders. I also think that's often malarky as companies spend amazing amounts of money on foolish fishing expeditions. Writing a check every 90 days bleeds some of that cash out of the company and forces the remaining R&D/growth investments to reach a higher hurdle rate.

I once read that the only thing Microsoft ever made money on was Windows and Office. Everything else -- Xbox, mobile phones, streaming, telephony investments, MSNBC, not to mention billions and billions in R&D -- was a loser. Shareholders would have been better off if Bill simply said "I created a great monopoly. It spits out huge amounts of cash...take it." 40 years on they pivoted their Office/Windows monopoly inter a service business (O365) and did a nice springboard into the cloud...but it took decades of wasted investments to get there...and even then its really just evolutions of their existing product lines.

Apple's $195B cash stash is insane. They cannot find productive uses for that much money in their category. NFW. Send more of it back to the investors or you will see endless side projects and more monuments-to-self corporate campus stuff.

3) Developing income streams over time

I think just about everything in investing life is best done slowly and deliberately over time. Building up a passive income stream seems to fall in that category as well. While I've enjoyed the big gains in my portfolio, over the last 10 years I've slowly and deliberately built up a dividend & preferreds portfolio that could now pay for my core expenses. Absent major market dislocations (covid 19) that cause companies to halt dividends, I don't have to worry about re-building my portfolio to generate income.

4) Dividends make me smile

I admit it...I like seeing deposits. Its tangible. It happens in good markets & bad. Markets are up? Got my dividend check. Markets are down? Got my dividend check.

My $0.02.

 

[disneysteve]

As noted, the advantage of dividends is to provide some regular cash stream so that an income oriented investor does not need to think of which securities to sell, how many shares to sell, or generally worry about market timing. They just sit back and wait for the income to be deposited. In past years it cost $ to sell a stock and thankfully that barrier is largely gone. But there is always the need to track cost basis and report in 1040 tax filings. Dividend income is nearly effortless.

Well stated.
Most here are old enough to remember when trading stocks was expensive. I was just looking at some old paperwork the other day. We were with a "discount" broker. The minimum commission to buy or sell stock was $42.50. Thankfully, it's now free but when you had to spend money every time you sold shares, dividends were even better as you got the money free of charge.

It makes less sense for a young company in a rapidly expanding market to pay a dividend. While it makes more sense for a mature company in a mature business to pay one.

Exactly. The companies that do or don't pay dividends are fundamentally different for the most part. There's nothing right or wrong about investing in either type. They're just different.

 

[Blue531]

I'm not against dividend stocks. I don't own them because I'm seeking higher returns on my money. I think they serve a purpose, especially for those who already have a huge amount of money to begin with. Often, dividend paying stocks are the larger established companies that don't have a lot of price appreciation. These can pay out a dividend while giving one a "safer" stock to invest in, usually. I seek high growth because I still want my money to grow substantially, more than any typical dividend stock or value stock could. This requires more risk and potential reward. It's all in what one is trying to accomplish. If I had a couple million dollars already, yeah I might think about parking one million in some blue chip dividend paying stocks to give me some nice quarterly checks. I want price appreciation, not reinvested dividends or dividend checks.

 

[ESRwannabe]

I was reading about dividend stocks today and saw many comments from people that were against investing in dividend stocks. It seemed to be related to taxes.
I don't quite understand. Why are some people against stocks that pay out quarterly dividends?

I have a different take on this subject than most people. I don't see investing for dividend income as a stock selection strategy, I see it as a withdrawal strategy.

The way I want to withdraw income from my portfolio is by only taking the dividend income and not selling off any shares.

When it comes to stock selection I think the best way to do it is (1) look for industries/companies that you want to invest in (2) then make a decision to buy or not buy based on if the current share price is reasonable or not.

Neither (1) or (2) has anything to do with dividends. As for (2) I am primarily looking at the P/E, and how fast has the company been growing. I make a subjective judgement call if the price is fair or not. If I think it is reasonable I buy it. If I don't then the stock goes on my watchlist and I will take a look at it again in the future when I have more money to invest.

I own 62 individual stocks. I buy a new stock every time I accumulate $10k. Once I buy a stock I "buy and hold" it "forever". I don't sell. I also don't add anymore money to any stocks. Its a one time decision.

When I have extra income I would rather use that to buy another company than re-invest it into what I already own. If I ever reach a point where I can't find any new good companies worth owning then I would look at re-investing into something I already own, but I don't see that ever happening.

My share of profits is distributed to me as dividends. Since I am still working I simply buy more stocks with the dividend income, but when I retire I will instead live off of the dividends in addition to investing excess money into new companies.

I do not obsess over how my companies are doing. I don't even pay attention to my portfolio. That is by design. My goal is to have so many companies that it just doesn't matter. I want to have so much growing income coming in that any problems a specific company may have can be ignored (and I know over decades some of these I own will have serious issues, but the way I am building this portfolio along with my withdrawal strategy I don't think I will have to care).

I'm 45. Still work fulltime in IT. I could retire if I wanted to, but now that I work remotely 100% of the time I can see myself working until I am 60+. I find working from home eliminated most of the things I hated about working.

I have a government pension (20+ years vested, current value over $1M), 401k/Roth (six figures each) invested using index funds with a global balanced asset allocation, and then my individual stock portfolio (six figures) which I self-manage and is held in a taxable brokerage account.

Individual stock portfolio is 62 stocks so far. Equally weighted in terms of principal, $10k principal per stock, buy and hold, no selling, no adding new money to existing positions, new money goes to adding more companies.

I don't have to look at my investments but a few times a year to see if I have $10k sitting in cash. Then I get to look around for the highest quality company I can find, selling at a reasonable price. A process that I enjoy doing.

 

[disneysteve]

I own 62 individual stocks.



Since I am still working I simply buy more stocks with the dividend income, but when I retire I will instead live off of the dividends in addition to investing excess money into new companies.

You've basically built your own ETF.


For those who want a similar result but don't want to do the stock-picking part, there are good ETFs out there. We invest in VYM Vanguard High Dividend Yield ETF. It yields 3.06%.


ESRwannabe, do you know what the average dividend yield has been from your holdings?

 

[ESRwannabe]

You've basically built your own ETF.


For those who want a similar result but don't want to do the stock-picking part, there are good ETFs out there. We invest in VYM Vanguard High Dividend Yield ETF. It yields 3.06%.


ESRwannabe, do you know what the average dividend yield has been from your holdings?

Yes, exactly. I purposely designed this like an ETF. I used to use ETFs but once I had enough money to work with I changed it over to individual stocks. My ER fee is 0%. My turnover rate is 0%.

I know that every stock I purchased, I did so at what I considered to be a reasonable price at the time and I know what every company does (not that I keep up with it).

I also plan my sector allocation exactly how I want it. I also like that the dividend income is more spread out instead of lumping it all into four months. Lastly I like that I can reasonably guess what my income minimum will be i.e. assuming no dividend growth.

So, actually the way I find new companies to invest in is by looking at the "best" dividend growth ETFs, which I include VYM in that list. IMHO the two best ones are SCHD and DGRO.

Here is the exact info on my portfolio.

* 2021 Income Estimate *
Investment Principal = $627,155.21
Stock Income = $22,890.24 (3.65% div yield)
Income for Months 1-4-7-10 = $1,510.93
Income for Months 2-5-8-11 = $1,566.75
Income for Months 3-6-9-12 = $2,644.88


* Stock Sector Allocations *

Communications [2] = T, VZ

Consumer Discretionary [2] = HD, LOW

Consumer Staples [11] = BTI, CLX, KHC, KMB, KO, MDLZ, MO, PEP, PG, PM, WMT

Energy [5] = CVX, KMI, OKE, WMB, XOM

Financials [9] = ALL, BAC, BLK, C, JPM, ORI, PFG, PRU, UNM

Healthcare [11] = ABBV, ABT, AMGN, BMY, CVS, GILD, JNJ, MDT, MRK, PFE, UNH

Industrials [5] = GD, ITW, LMT, MMM, WM

Information Technology [5] = CSCO, IBM, INTC, ORCL, TXN

Materials [4] = ADM, DOW, IP, NEM

Utilities [8] = DUK, ED, EIX, EXC, OGE, SJI, SO, SRE


EDIT:

By the way, the amount of money I need to live on (based on current standard of living) is $2,852.42 per month or $34,229.05 per year. That assumes: a new car loan is being paid for, I am renting a one bedroom apartment near the city center, zero federal/state taxes (as dividend income would be below threshold), and unsubsidized health insurance (bronze plan, although I would meet the requirement for subsidized so this cost would be lower).

My dividend growth should be at least $1,000 per year. So, to retire I need around $55k in cash to make up the difference until dividend income is enough to pay for 100% of expenses. That's not a problem as I can simply take that from my 401k/Roth. Then at age 60 I can start taking pension money. Then SS latter on.

If I were to retire now, assuming covid is under control. I think I'd give expating a try. I have a friend that lives in Bangkok Thailand working as a teacher for many years. I'd probably try there or Mexico for a few months and see if I like it. Billy and Akaisha Kaderli https://retireearlylifestyle.com/blog/about/ are the first people I read about that got me thinking about retiring early one day. They make expat slow traveling sound very appealing. If I were to do that I think the $23k I have now would be plenty to live off of.

EDIT # 2:

Just FYI. At $23k I need 4.35% dividend growth to add an extra $1,000 of dividends to my total div income from then on. For $2,000 I would need 8.70% div growth. So, IMHO growth of at least $1,000 is very likely even during a recession. The dividend growth rate on the individual stocks in my portfolio is quite good, historically speaking. More than likely I will be close to $2k most years and that will be increasingly likely as time goes on and the base amount of dividend income continues to grow.

For example at $30k div income you just need 6.67% div growth for the income to go up by $2k. At $40k it drops to 5.00%. So on and so on. The power of compound growth.

 

[disneysteve]

Yes, exactly. I purposely designed this like an ETF.

Stock Income = $22,890.24 (3.65% div yield)

That's great. For someone who enjoys the stock picking, it's a great way to go. For someone who doesn't, the established ETFs are a great way to go.