The idea of money landing in your account every quarter without lifting a finger is tempting. But dividend investing has its own rules — and its own pitfalls.
What is a dividend
A dividend is a share of profit that a company pays to its shareholders. Established companies like Coca-Cola or Johnson & Johnson have paid dividends for decades in a row and raise them regularly — they are known as dividend aristocrats.
How to pick dividend stocks
- Payout history — the company should have paid and ideally raised its dividend for at least 10 years.
- Payout ratio — below 60% of earnings means the dividend is sustainable.
- A healthy business — growing revenue and reasonable debt.
The high-yield trap
A dividend yield of 10% or more is usually a warning, not an opportunity. The market typically expects the dividend to be cut.
Taxes on dividends
Dividends from US stocks are subject to a 15% withholding tax (with a signed W-8BEN form), and you generally have to declare them in your tax return. Unlike selling shares, dividends rarely qualify for long-term-holding tax exemptions.
For most investors an accumulating ETF is the simpler route — a dividend income stream makes the most sense once you actually want to draw from your portfolio.