Financial Literacy Investing

Dividend Stocks: 3 Things I Learned Reading “The Little Book of Big Dividends: A Safe Formula for Guaranteed Returns” by Charles B. Carlson CFA

3 tips to help you navigate dividend stock investing, along with a little extra

“Compound interest is the eighth wonder of the world. He who understands it, earns it. He who doesn’t, pays it.” – Albert Einstein

Getting to the Starting Line: Dividend Stock Terminology

Whether you’re new to stocks or you’re a seasoned investor, I feel we should first go over some key terminology before we get started. Throughout this article you will see these terms and knowing these terms will make it vital for you to follow along.

Dividend Yield- The ratio of a company’s annual dividend compared to its share price

Total Return- The actual rate of return of an investment to include capital gains, dividend, and expenses incurred in the purchase and sales of a stock.

Here we go…

If you were attuned to the market for the last year or two you would know that 2018 was the worst year for stocks since 2008. But fret not, gains are on the horizon. If you boarded the windows and hunkered down through 2018, those losses from last year have hopefully been recovered. If not, hopefully what I tell you today may help increase your options of possible stocks you may want to invest in in the future.

Questions you may have about this book

Do I need to be an expert in stocks to read this book?

No, while I would not recommend this book for a complete newbie, if you are fairly new to the stock market, have a little knowledge of terminology, and would like to widen your horizon to dividend stocks, this book is for you. Also, if you are a seasoned stock investor, this book could also provide you with some helpful tips and formulas to make looking for that coveted dividend stock a little easier.

Do I need to be a math whiz to understand this book?

No, this book is very practical and easy to understand. The formulas that are talked about in this book are already written out for you and are explained very good. Much like the stock market, if you are able to do simple algebra and you don’t run when you see decimals and percentages, this book is perfect for you.

 

What I Learned about Dividend Stocks

1. The 3 Most Important Dates for Dividend Stocks

What is one of the biggest advantages to owning a dividend stock?

You guess it, getting a dividend, but prior to buying and selling that dividend stock, if you ever sell, you should know these 3 key dates.  

                Declaration Date

                Ex-Dividend Date

                Record Date

Declaration Date- This date is the announcement date for the other two dates. Declaration dates are important because they assure you that your stock will, in fact, pay a dividend for the stated period. Not all stocks pay a dividend every quarter or bi annually and, even worst, some stocks may decide they will not pay a dividend for a certain period. This could be mostly due to a bad financial period or a decision to put their profits toward company growth but, all the same, dividends are not guaranteed until you see a declaration date. 

Ex-Dividend Date- This date is important because it is the closing date for the current dividend period. All purchases of a dividend stock on this day and after will not go towards the current dividend pay date. It is highly encouraged, for your awareness, that you know your dividend stock’s dates prior to buying the stock. This will be emphasized more later on in the article.

Record Date- The record date is the date the company looks at all the shareholders who owned the stock the day before the ex-dividend date. Every shareholder on this list will be payed a dividend on the Payable Date (date dividend is paid).

2. The Window for Qualified and Unqualified Dividends

For anyone out there who has learned about dividend stocks, have a good understanding of the 3 important dates for dividends (as discussed above), and are looking to maximize their total return pay close attention to this one. I’m sure we have all thought this one thought at some point in time. What if I researched dividend dates and bought dividend stocks just before their ex-dividend date? You could reap the benefits of owning a dividend stock without having to hold it for a long period of time.  Right?

Well…

                Here is an interesting topic to think about in the long run that will improve your total return.

The window for obtaining a qualified dividend not only depends on the type of stock you buy, but also includes the time period in which you purchase the dividend stock. 

                The requirement for a qualified dividend is a dividend paid during the tax year from domestic corporations and qualified foreign corporations and must also be held AT LEAST 61 days during the 121 day period that began 60 days before the ex-dividend date.

                Example.

Consider this hypothetical situation in which you are reporting qualified dividends from XYZ fund you hold common shares in. Consider this, XYZ fund has announced their dividend (declaration date) and their ex-dividend date is April 30. Now let’s look at the 121-day period surrounding the ex-dividend date

                Ex-dividend date- April 30

                60 Days prior ex-dividend date- Feb 28

                60 Days after ex-dividend date- May 30

In order to meet the stock holding period requirement for qualified dividends you will need to hold stock in XYZ fund at least 61 days during the period from Feb 28 – May 30.

Why is this important? On to the next topic….

3. The Importance of Understanding the Tax Treatment for Dividends

Qualified and unqualified dividends are taxed completely different. This means that the return you may think you are getting may be even less if it isn’t a qualified dividend. But before we get started, let me just say, I completely understand, navigating internal revenue codes are not for the faint of heart. Just even taking about taxes can bring about bewilderment, anger, and the all-inclusive question of, WHY. But hopefully, what I tell you today may take a bit of sting out of the emotions you’re feeling just thinking about taxation.

Let’s start here…Tax Brackets

In order to reap the full understanding of the dividend tax rate you must first know what tax bracket you fall in. The easiest way I’ve found to do this is to just Google, “IRS tax brackets (Insert year)”. Why is this important? Because depending on your tax bracket, your dividend tax treatment will be different.

Dividend tax rate in 2018

Why is this important? While dividends and long-term capital gains are taxed favorably, other investment vehicles like certificate of deposits are taxed like ordinary income.  Strategic Investing.

As you see above, receiving qualified dividends can allow you to receive dividend payments at a much lower tax rate than you may fall in.

                Example: If you were in the 22% tax bracket and invested $10,000 in a certificate of deposit (CD) with 2% APY. You would make $200 in interest on your money invested. That same $200 would then be tax at 22% ($200 x 22% = $44) making your actual return would be $156 ($200 – $44).

                Now, let’s say, instead, you invested in a dividend stock that offered a 2% yield. You would receive the same $200 in dividend payment and it would be taxed at 15%. Now your total return would be $170. ($200 *15%= $30, $200 – $30 = $170)

As you can see, a simple change in your investment strategy could save you more money in the long run.

Looking for a List of Dividend Stocks?

Charles Carlson developed a specialized formula to safely pick dividend stocks, find it here ,along with a list of dividend stocks ranked by payout ratio, month of payout, and other helpful information. Also, If you like what you’ve read so far, check out the book to learn more.

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