The 20 Most Important Dividend Definitions You Need to Know
By: Ned Piplovic,
Many investors discovered the benefits of dividend-paying stocks amid a decade of extremely low interest rates. Investors who still are not focusing their strategy around dividend-paying equities should become familiar with the 20 most important dividend definitions listed below and start seeking investment options that will generate a steady income flow to complement the capital growth strategy of their income portfolios. Here are the useful definitions.
Most Important Dividend Definitions You Need to Know: #1
Dividends are periodic payments that some equities use to distribute a portion of a company’s earnings – or sometimes assets – to the shareholders. While C-corporations generally use the term dividends, mutual funds, S-Corporations, partnerships, limited liability corporations, trusts and estates use the term distributions instead of dividends. The basic principle is the same in both instances, but dividends are generally disbursements of company’s profits and distributions are disbursements of equity.
Most Important Dividend Definitions You Need to Know: #2
A dividend yield is the ratio of the total annual dividend distributions per share over the equity’s current share price. For instance, a company that pays a $0.25 quarterly dividend – $1.00 annualized – and currently trades at $25 per share has a dividend yield of 4%.
While dividend yield is the basic and best-known measure of dividend payouts, it is not sufficient on its own and must be considered along with other metrics for choosing equities with dividend income potential.
Most Important Dividend Definitions You Need to Know: #3
Trailing Dividend Yield
The trailing dividend yield is calculated by using the total annual dividend amount paid to shareholders over the previous 12 months, divided by the current share price of the stock. If an equity paid a $0.30 dividend for each of the first three quarters and raised the quarterly dividend amount to $0.35 for the last quarter, the total annual dividend would be $1.25. For a share price of $25, the trailing dividend yield would be 5%.
Most Important Dividend Definitions You Need to Know: #4
Forward Dividend Yield
The forward dividend yield uses the anticipated total dividend payouts over the next year to calculate the dividend yield. Using the figures from the previous example, the projected total annual dividend for the next 12 months would be the most recent quarterly payout – $0.35 – multiplied by four, which is $1.40. At the same $25 share price, the yield would be 5.6% – 12% higher than the trailing yield.
Most Important Dividend Definitions You Need to Know: #5
Dividend Payout Ratio
The dividend payout ratio indicates the portion of the annual earnings that an equity distributes as dividends to its shareholders. Some equities are free to choose the amount to distribute as dividends. However, other equities – mutual funds, real estate investment trusts (REITs), etc. – must distribute a minimum required portion to maintain their tax-favorable status.
Most Important Dividend Definitions You Need to Know: #6
Dividend Payment Frequency
Dividend payment frequency refers to the interval at which an equity distributes its dividend payouts. While equities are free to select any distribution interval, distributions occur quarterly or monthly most frequently. European companies generally report their financial results twice per year and favor a semi-annual dividend distribution schedule. Additionally, some equities distribute their dividends once per year at the end of the fiscal period.
Most Important Dividend Definitions You Need to Know: #7
Declaration Date is a date when the company announces to the public the information regarding upcoming dividend distribution details. These declarations generally state the dividend amount and the remaining three dividend dates – the ex-dividend date, the record date and the pay date.
Most Important Dividend Definitions You Need to Know: #8
The ex-dividend date is the date when the equities shares start trading without dividend – “ex-dividend” in Latin. On the ex-dividend date, the share price theoretically drops by the declared dividend amount. Additionally, to be eligible to receive the next dividend payout, investors must claim share ownership before the ex-dividend date.
Most Important Dividend Definitions You Need to Know: #9
Record Date or Date of Record is the date when equities officially determine the list of shareholders that are eligible to receive the upcoming dividend distributions. The period between the ex-dividend date and the record date used to be much longer when all recordkeeping was handled manually – up to a month or more. However, this period has been shrinking with the transition to electronic data records. As of September 2017, the ex-dividend date occurs two days before the record date.
Most Important Dividend Definitions You Need to Know: #10
Pay Date or Date of Payment is the day when the equity makes the actual dividend payments. On the pay date, the equities mail the dividend checks or initiate direct fund transfers to the shareholders’ brokerage accounts. While no specific requirements exist for timing the pay dates, most equities set their pay dates approximately two to four weeks after the record date.
Most Important Dividend Definitions You Need to Know: #11
Cash dividends are the most common type of dividend distributions. The shareholders receive distributions as checks or direct funds transfers. The appeal of cash dividends is in their simplicity, ease of distribution and simple accounting for taxation purposes. Therefore, most companies distribute cash dividends.
Most Important Dividend Definitions You Need to Know: #12
Some companies distribute as dividends additional shares of the company’s stock equivalent in value to the declared dividend payout amount. The lure of paying stock dividends is that equities can distribute dividends without any impact on their cash flow. Investors benefit mainly by delaying tax liability until they sell the shares. The Internal Revenue Service (IRS) considers stock dividends as stock splits.
Most Important Dividend Definitions You Need to Know: #13
Ordinary dividends are regular dividend distributions. Generally distributed as cash payouts, these dividend distributions follow the same tax rate brackets as any other ordinary income. Unless specifically identified otherwise, most dividends will fall into the ordinary category. Interest distributions, as well as dividends from certain types of equities, are always classified as ordinary dividends.
Most Important Dividend Definitions You Need to Know: #14
Unlike ordinary dividends, qualified dividends enjoy favorable tax treatments and are taxed at capital gains tax rates, which are generally lower than ordinary income rates. However, to enjoy this benefit, dividends must meet requirements listed in the IRS Publication 550.
Most Important Dividend Definitions You Need to Know: #15
Special dividends are distributions of sporadic cash inflows – such as from investment liquidations, lawsuit awards, sales of business segments, etc. These special dividends are generally unrelated to the regular dividend distributions and are excluded from the dividend yield calculations.
Most Important Dividend Definitions You Need to Know: #16
Dividend Reinvestment Plan – DRIP
Dividend Reinvestment Plans convert cash dividends automatically into shares of a company’s stock. The main advantage of DRIPs is higher-long-term returns because most plans do not charge any transaction fees and commissions.
Most Important Dividend Definitions You Need to Know: #17
Dividend Aristocrats are a group of S&P 500 companies, with market capitalization of at least $3 billion, that have hiked their total annual dividend payouts at least 25 consecutive years. Back-tested analysis indicates that dividend aristocrats yield higher total returns over extended periods than the entire S&P 500 Index.
Most Important Dividend Definitions You Need to Know: #18
Dividend Kings are a more exclusive group of Dividend Aristocrats that require at least 50 years of consecutive annual dividend hikes. Inclusion in the S&P 500 Index and minimum market cap requirements are identical for both groups.
Most Important Dividend Definitions You Need to Know: #19
Dividend Achievers Index
The Dividend Achievers Index is a list of nearly 300 companies included in the NASDAQ US Benchmark Index with at least 10 consecutive years of annual dividend hikes that also must meet additional liquidity requirements.
Most Important Dividend Definitions You Need to Know: #20
Dividend capture is an investment strategy designed to maximize dividend income. The strategy consists of buying equities around specific dividend dates and holding just long enough to qualify for the next round of dividend payouts.
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Ned Piplovic is the assistant editor of website content at Eagle Financial Publications. He graduated from Columbia University with a Bachelor’s degree in Economics and Philosophy. Prior to joining Eagle, Ned spent 15 years in corporate operations and financial management. Ned writes for www.DividendInvestor.com and www.StockInvestor.com.