A DRIP is a practical way to grow your investments as your distributions will stay in the market, rather than being taken out as cash, and you save on trading fees. Investors may opt into the DRIP program through their financial advisor or by contacting their brokerage firm.
What is DRIP Investing?
Harvest ETFs are set up for Distribution Reinvestment Program (DRIP). A DRIP reinvests income paid to unitholders by an ETF into that same ETF. DRIP investing is a popular investment strategy for Canadians that allows investors to reinvest their ETF cash distributions commission-free. DRIPs are dividend reinvestment plans that allow investors to receive additional shares in the place of cash dividends. To enroll in DRIP, you need to call your brokerage and ask to set up DRIP on the specific ETFs.
The Benefits of Investing Using DRIP
DRIP investing has become increasingly popular among Canadian investors due to its many benefits. Here are the main benefits of investing in DRIP:
Automatic distribution reinvestment
DRIPs allow investors to automatically reinvest their cash distributions commission-free. This means that investors can increase their holdings in a particular without having to pay transaction fees.
Lower transaction costs
DRIPs can help investors save on transaction costs, as they pay little or no commissions on the reinvested dividends. This can be especially beneficial for long-term investors who want to minimize their expenses.
No sales commissions
DRIPs typically do not charge sales commissions, which can help investors save money. This can be especially beneficial for investors who want to reinvest their dividends on a regular basis.
DRIPs can help investors benefit from the power of compound interest. By reinvesting their dividends, investors can earn additional shares, which can then generate more dividends.
Let’s use a generic example to demonstrate the mechanics of a DRIP that power compounding. In this case, you just bought 1,000 units of an equity income ETF for $10 each, totaling $10,000, and that hypothetical ETF pays an annualized yield of 8.5% in monthly distributions.
In January, you would receive $70.83 in income which, in a DRIP plan, would be added to your principal investment for a total of $10,070.83.
That means your February income is $71.34, and your principal is worth $10,142.17.
March income is then $71.84 bringing the principal to $10,214.01.
April income is then $72.35 and your principal at the end of the quarter is worth $10,286.45.
At the end of the year this hypothetical investment in a static market would be worth $10,883.91 thanks to the income yield compounded via DRIP. After ten years it would be worth 23,326.47. After 20 it would be worth $54,412.43
Formula: A = P x (1 + r/n)nt
A = final amount after t years
P = principal investment (initial value)
R = annual interest rate
N = number of times the interest is compunded per year (12 for monthly)
T = number of years
Please note that the ellipses (…) in the table represent the continuation of the calculation for subsequent months. This table demonstrates the compounding effect of reinvesting dividends through a DRIP program over the course of a year and beyond, assuming an annualized yield of 8.5% with monthly distributions.
The example provided aligns with the principles of compounding in a DRIP program. Just remember that actual market conditions, taxes, fees, and other factors can impact investment outcomes.
That is the power of compounding, and over a long enough time horizon it turns into greater wealth.
Things to Consider when starting DRIP investing
When considering signing up for DRIP in Canada, there are several important factors to keep in mind. These considerations can help you make informed decisions and maximize the benefits of your investment. Here are some key things to consider:
Eligibility and Enrollment
Check the eligibility requirements for participating in DRIPs. Some companies may have minimum share ownership requirements. Contact your brokerage or the company directly to enroll in their DRIP program. Ensure you understand the enrollment process and any associated fees or restrictions.
Pros and Cons
Understand the pros and cons of DRIP investing. While DRIPs offer benefits such as automatic reinvestment and lower transaction costs, there are also potential drawbacks, such as potential tax implications and limitations imposed by the plan. Evaluate these factors to determine if DRIP investing aligns with your investment strategy.
Assess the stability and growth potential of the company’s dividends. Look for companies with a history of consistent dividend payments and a strong financial position. This can help ensure a reliable source of dividends for reinvestment.
DRIP investing is often more suitable for long-term investors who are focused on wealth accumulation over time. It’s important to have a patient and disciplined approach, as the benefits of DRIP investing tend to compound over the long term.
Monitoring and Review
Regularly review your DRIP investments and monitor the performance of the companies in which you have invested. Stay informed about any changes in dividend policies or company fundamentals that may impact your investment decisions.
Not all companies offer DRIPs, so it’s important to research and identify which companies provide this investment option. Look for companies that align with your investment goals and have a track record of consistent dividend payments. Many of Harvest ETFs are eligible for DRIP investing. See which of our ETFs are available for DRIP below.
Which Harvest ETFs are eligible for DRIP?
Canadian residents can participate in the Harvest DRIP plan in the following ETFs:
What is the Tax Treatment for DRIPs in Canada?
DRIPs are a popular way of investing in Canada that allows investors to reinvest their ETF cash distributions commission-free. However, it’s important to understand the tax implications of DRIP investing. Here are some key points to keep in mind:
- DRIPs reinvest distributions to purchase additional units, and the cash distribution reinvested is considered as income and therefore taxable, unless held in a tax-sheltered investment account.
- Dividends paid into DRIPs are taxed as ordinary dividends even though they are used to purchase shares.
- Investors are liable for any taxes that may be payable as a result of DRIP investing.
- It’s important to consult with a tax advisor to understand the tax implications of DRIP investing and how it may impact your overall tax situation.
DRIP investing in Canada has tax implications that investors should be aware of. While DRIPs allow investors to reinvest their cash distributions commission-free, the cash distribution reinvested is considered as income and therefore taxable, unless held in a tax-sheltered investment account. It’s important to consult with a tax advisor to understand the tax implications of DRIP investing and how it may impact your overall tax situation.
How are Units Bought or Sold Under the DRIP?
Units purchased or sold under the DRIP plan can be purchased through the Toronto Stock Exchange (TSX) by the DRIP Plan Agent. The price of the units purchased or redeemed is based on the average price of all the units in respect to a given distribution payment date. The units will be allocated pro rata based on their respective entitlements to the distributions used to purchase units. Here’s a more detailed breakdown of how it works:
1. Purchase of Units
When a distribution payment date arrives, the DRIP Plan Agent purchases units on behalf of investors. The price of the units purchased is based on the average price of all the units in respect to that distribution payment date.
2. Allocation of Units
The units purchased are allocated pro rata based on the investors’ respective entitlements to the distributions used to purchase units. This means that each investor receives a portion of the units based on their share of the total distribution.
3. Selling Units
If investors wish to sell units under the DRIP, they can do so through the DRIP Plan Agent. The selling price will be based on the prevailing market price of the units on the date of the sale. It’s important to note that units purchased or redeemed under the DRIP are not directly traded on stock exchanges. Instead, the DRIP Plan Agent handles the buying and selling of units on behalf of investors.
Units bought or sold under the DRIP are purchased through the Toronto Stock Exchange by the DRIP Plan Agent. The price of the units purchased or redeemed is based on the average price of all the units in respect to a given distribution payment date. The units are then allocated pro rata based on their respective entitlements to the distributions used to purchase units.
DRIP investing allows investors to reinvest their cash distributions from their investments, like ETFs, commission-free. By participating in a DRIP, investors can benefit from automatic distribution reinvestment, lower transaction costs, and the potential for compound interest.
DRIP investing can be a powerful strategy for growing your investments over time. To learn more about DRIP investing and stay updated on the latest investment insights, subscribe to our Harvest Portfolio newsletter today!