How and When are Dividends Paid?

While dividends are a good source of steady income distributions and fairly simple for experienced income investors, some novice investors might initially be uncertain regarding how and when are dividends paid.

Unlike stock investors looking for capital gains, income investors might have to deal with different types of dividend distributions and be mindful of distribution timing to ensure their eligibility for receiving dividends at the next round of distributions.

How and When are Dividends Paid: Dividends Basics

While equity analysis in search for the best dividend income investing can get complex, the basic definition of dividends is fairly simple. Dividends are the distributions of earnings or assets that companies, or other equities, make periodically to their stakeholders.

The word “dividends” is generally used for all types of dividend payouts. However, some dividends are technically called “distributions.” Since they distribute their earnings, C corporations, real estate investment trusts (REITs) or similar business entities generally pay dividends. However, asset distributions by S corporations, master limited partnerships (MLPs), limited liability companies (LLCs), trusts and estates are technically “distributions.”

Furthermore, bonds, certificates of deposit (CDs), money market funds and exchange-traded debt securities pay interest. Since this distinction is not imperative for any of the basic concepts discussed here, the term “dividend” will represent all types of distributions in the rest of this article.

How and When are Dividends Paid: Dividend Types

Most new investors will be familiar with cash dividend distributions. The ease of distribution and simplicity of accounting for business and taxation purposes makes cash the preferred method of dividend distributions. With cash distributions, the paying equity just sends out checks or initiates a direct funds transfer to the stakeholders’ designated investment or brokerage account.

However, equities have the option to distribute dividends in forms other than cash, which are called “in-kind dividends.” In-kind distributions can be in the form of stock dividends, property dividends, bonds of the company distributing dividends, bonds of a different corporation, options to gain stock in another corporation, government bonds, accounts receivables and even promissory notes.

While all these in-kind options are available, equities that shows in-kind distributions pay mostly stock dividends. The main benefit to the equity making the dividend distributions is that stock dividends do not impact the equity’s cash flow. The equity does not even have to have the cash on hand to make the stock dividend distributions.

Alternatively, the recipients of the stock dividends benefit from tax deferral. The Internal Revenue Service (IRS) treats all stock dividends as stock splits. Therefore, stock dividends carry zero tax liability in the year of dividend distribution. Like any shares, stock dividends incur tax liability when sold.

How and When are Dividends Paid: Distribution Frequency

While free to choose any dividend distribution frequency, most equities choose to distribute their dividends in line with their financial reporting schedule. Most U.S. corporations distribute their dividends quarterly. However, unlike their U.S. counterparts, many companies based in Europe and Japan pay their dividends semiannually due to the local requirements to report financial results generally twice each year.

The second most common frequency are monthly dividend distributions. Some equities, such as trusts and funds, tend to favor monthly distributions. The monthly dividend payouts are helpful for attracting certain types of investors.

Generally, investors who derive most of their income from investments and seek reliable monthly income to cover their expenses, such as retirees and other individuals on fixed income, will seek to invest a significant share of their portfolio in equities that offer monthly dividends.

Some equities, such as certain mutual funds, distribute dividends only after their year-end financial reconciliation. Therefore, these equities pay only one dividend per year.

How and When are Dividends Paid: Buying and Selling Timing for Dividend Income

In addition to different types of distribution frequencies, income investors must pay close attention to specific dividend dates and the minimum holding periods. Failing to buy shares before a specific cutoff can lead to failed eligibility for dividend distributions and investors might have to wait for the next round of payouts. This timing does not have a major impact on equities with monthly dividend distributions. However, missing a few quarterly payouts, and especially annual dividends, could lead to a significant reduction in total returns over extended periods.

While buying the shares late might result in few missed payouts, selling too early could negate the eligibility for taxation at lower rates. To receive the benefit of lower tax rates on qualified dividends, the investors must hold shares for a specific minimum holding period. Specifically, investors must own common shares for more than 60 days during a 121-day period, which starts 60 days prior to a declared ex-dividend date.

How and When are Dividends Paid: Dividend Dates

The dividend distribution cycle has four important dates that can greatly affect income payments and total returns. While equities set some of these dates arbitrarily, others are set in specific relation to other dates.

Knowing when dividends are paid and timing the equity purchases accordingly is important. Some investors have developed a whole investing strategy — called the dividend-capture strategy — around timing equity purchases. This strategy aims to maximize the total annual dividend income, even at the expense of capital gains.

On the Declaration Date companies announce the detailed information regarding upcoming dividend distributions. Dividend declarations generally include the dividend amount for the upcoming period and the other dividend dates. Some equities will have only one declaration date to announce their dividend dates and payout amounts for the entire upcoming year. Other equities have a declaration for each distribution period.

The Ex-Dividend Date determines share ownership. Therefore, which investors own the share on this date determines who will receive the next dividend distribution. To be eligible for the subsequent round of dividend payouts, an investor must own shares no later than one day before the ex-dividend date.

For all stock transactions that take place on the ex-dividend date, the seller of the stock remains the owner of the shares and receives the next dividend distribution. The buyer of the stock on the ex-dividend date gains ownership the day after the ex-dividend date and must wait another period before receiving the first dividend distribution.

On the Record Date, equities compile the list of shareholders that will receive the next dividend distribution based on stock ownership status before the ex-dividend date. The record dates used to be set a month or more after the ex-dividend date when companies had to manage all records manually a couple of centuries ago.

However, with the automation of record keeping, the current requirement by the Securities and Exchange Commission (SEC) is that all financial market transaction must clear no later than two full business days after the trade day. Therefore, setting the record date one day after the ex-dividend date is more than sufficient to capture all eligible shareholders of record for the subsequent dividend payout.

Pay Date is simply the date on which the dividend payments go out to the stakeholders. As cash dividends are the most frequent method of dividend distributions, the equities generally mail out the dividend checks or initiate electronic money transfers on the pay date. For stock dividends, the equities just issue the additional shares and post those in their shareholders accounts.

With the answers to “how and when are dividends paid?” question in hand, even novice income investors can dip their toes into the dividend income waters. Additionally, investors interested in expanding their knowledge of dividend income investing can find additional resources on the Dividend Investor website.

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